By Emmanouil Lemonakis, Head of Central Eastern Europe Region, Saxo Bank
Baku. 5 February. REPORT.AZ/ Savvy investors are always on the lookout for new ways to preserve and grow their wealth, regardless of market conditions. This is especially the case in equities where we have seen growing investor appetite to use a number of techniques to generate performance, whether the market is climbing or falling, while at the same time looking for a way to reduce fees and commissions incurred by using traditional brokers.
One of these instruments which have been gaining momentum over the past decade are Contracts for Difference or CFDs which provide investors with the ability to trade based on where they think an instrument will trade at, without owning the underlying asset.In other words, by trading a CFD, an investor can realise a gain by predicting whether a stock/currency/commodity/index etc will rise or fall without having to own the underlying instrument. CFDsallow traders to take advantage of upward moving prices (long positions) or downward (short positions) on underlying financial instruments, giving the investors a real trading experience at a lower cost.
E. Lemonakis says, crucially for many investors, CFDs offer the chance to “go long” or “go short” depending on their view of future market movements. If an investor ‘goes long’ and buys a CFD,thismirrors buying the underlying asset and therefore the investor can anticipate a return if the underlying asset such as a stock rises. Equally one can “go short” in the market by selling CFDs and thereby realise gains by betting on the decline of a particular stock or market. Many investors employ this technique as a means of hedging a portfolio, for example, being 80 per cent long on stocks, while maintaining a 20 per cent hedge in the form of a short position, to protect against the possibility of a declining stock market. Other key advantages of trading CFDs includethe high degree of leverage on offer, with a margin requirement often beginning as low as 2%,meaning less money is required to generate performance than would have been required by acquiring an asset. The attractiveness of CFDs means that they are now available not only for stocks, but includecommodities, bonds, currencies as well as CFDs based on the major global indexes themselves - even sector CFDs are now gaining popularity amongst investors. CFDs are usually offered on a single platform and the instrument has become the hallmark of the new breed of innovative online trading platform.
In terms of strategy, the CFD market is not restricted by short selling rules, and given the underlying assets are not owned, there are no borrowing or shorting costs. Also investors only have to pay the spread i.e. the ‘ask’ and ‘bid’ price rather than traditional broker fees and commissions – an attractive deal for investors looking to trade actively.
While CFD trading does offer the potential of greater returns, losses can also be magnified compared to other lower leverage instruments. Most CFD brokers do offer similar order types as traditional brokers such as stops, limits and contingent orders, but investors must trade with caution attaching the same level of due diligence and investment research as other trading techniques, he added.
As with all financial instruments, it is important that investors take the necessary steps to educate themselves on the product and ensure they understand all the pros and cons of trading an instrument. This is extremely important in times of extreme volatility as we have seen since mid-January and providers such as Saxo Bank take investor education very seriously –we want to be the platform of choice for our clients in the long run enabling them to seize the opportunities on offer in the global markets.