- What is CFD (Contract for Difference)?
- 4 main advantages of CFD trading
- FP Markets offers DMA CFDs
- What is Direct Market Access CFDs?
- What are the differences of DMA and Market Maker?
- Advantages of Direct Market Access CFDs
- Why you should trade with FP Markets?
- Know the risks of trading CFD products
What is CFD (Contract for Difference)?
A Contract for Difference, or ‘CFD’, is one of the most popular trading instruments in Australia and globally, due to their simplicity, ease of trade, leverage, ability to short sell and cost effectiveness.
A ‘Contract for Difference’, is a contract between two parties to exchange the difference in the price of a security from the open and close of a contract.
CFDs are a leveraged product and require a trader to deposit a fraction of the total value of the position (known as margin) to open a position.
4 main advantages of CFD trading
There are many advantages you can benefit from CFD products, and the following 4 are some of the main ones.
1. Hedging positions and risks
Hedging is another reason CFDs are such a brilliant trading product.
For those who are not aware, hedging is the action of taking an equal but opposite position to mitigate or reduce risk.
CFDs are ideal for hedging large equity investment portfolios, whether via an Individual, Company, Self Managed Super Fund (SMSF) or a trust account.
Prior to CFDs, equity traders had no easy way of hedging these portfolios.
Options or Warrants were popular for hedging portfolios however, they are expensive, have expiry dates and never provide a perfect hedge.
CFDs provide a much more effective way to hedge.
Firstly, you could hedge an equity position with a short CFD position of exactly the same volume completely neutralising the value of the portfolio.
Direct Market Access CFDs have a perfect correlation with the underlying, so every dollar your equity portfolio loses your CFD position will gain.
2. Diversification as risks management
Diversification is a risk management technique that involves allocating funds to a variety of shares to spread the risk across a number of companies.
CFDs are an ideal diversification tool due to their lower capital requirement and lower transaction costs.
A diversified portfolio allows you to gain exposure to a number of positions across multiple companies, sectors and even asset classes to limit your potential risk by spreading the risk across a number of positions to enable you to achieve more stable returns.
Due to the fact that margins across a lot of CFD products are so low, multiple positions can be taken with greater exposure of a traditional product such as equities.
FP Markets offers a range of Global CFDs from America, Australia, Asia, and Europe, covering products such as FX, Equity CFDs, Commodities and Indices.
3. Scalping strategy is allowed
CFDS are a highly geared trading instrument and due to the nature of the product it opens up a wide variety of trading styles available to traders.
One of the simplest and most commonly used is scalping and this really illustrates the power of CFDs.
Scalping using CFDs is ideal due to their flexibility and low transaction fees.
Cash settlement, leverage, ability to short sell and to trade off unrealised profits are just a few features of CFDs that make them flexible and ideal for scalping.
Scalping involves placing multiple trades throughout a trading session with an extremely short-term focus. Using very small price movements coupled with leverage, the idea of scalping is to keep taking small profits a multitude of times.
Trades are often exited shortly after becoming profitable.
Generally speaking, scalping trades are intra-day rather than long term holds so as to eliminate overnight risk from adverse market movements.
The leverage provided by a CFD will allow for more effective use of capital.
At a 5% margin, a $5,000 outlay will give you $100,000 exposure to the underlying security.
If you wanted to scalp a $10 stock, a 10 cent move in the right direction will give you a profit of $1,000, this compares to a $50 profit if you did not use leverage.
4. Margin Trading by using “Leverage”
What makes it even better is, with a CFD, you only have to outlay the margin of the CFD rather than the full notional value and there is no cost to hold (short CFD positions receive interest rather than pay interest).
When the trader believes that the market will no longer fall but rise they can then close the CFD hedge and watch the equity portfolio continue to make gains.
CFDs are a flexible and cost effective way to protect the value of your physical shares while retaining your holdings.
FP Markets offers DMA CFDs
FP Markets provide CFDs via the Direct Market Access (DMA) model because they believe it is the most fair and transparent model available.
DMA traders are ‘price makers’ as they can enter and see an equal order flow onto the queue of the underlying exchange.
This ensures they receive true ASX prices on every trade.
DMA CFDs result in real-time execution with market prices and allows to you to participate in the order book and opening and closing phases of the market.
What is Direct Market Access CFDs?
There are two business models which over-the-counter (OTC) CFD providers will offer clients; Direct Market Access (DMA) and Market Maker models.
The key difference between the two is price feeds received by clients and the providers hedging methods.
FP Markets offers a pure DMA CFD service.
This means clients receive direct price feeds without interruption from the underlying market and market depth.
All FP Markets client trades are 100% hedged, meaning profits and losses come from the underlying market.
FP Markets do not profit from any client losses which enables FP Markets’ interests to be aligned with the trader.
A Market Maker who does not hedge will profit from a client loss.
What are the differences of DMA and Market Maker?
DMA means no dealer intervention between you and the markets and therefore no price re-quotes and order rejection.
It also translates to much faster execution.
With FP Markets’ DMA CFDs, it is not just equity CFDs that are DMA; it is their whole range of global products that are completely transparent.
Market Makers on the other hand do not offer a transparent model, they make the market.
Ultimately acting as a middle man and intervening on the price before it gets to you.
It’s easy to understand why experienced traders choose DMA.
|Direct Market Access||Exchange Traded||Market Maker|
|Price is Identical to the Exchange||✔||✔||✖|
|Liquidity is Identical to the Exchange||✔||✔||✖|
|Complete Price Transparency||✔||✔||✖|
|Orders Flow onto the Underlying Market||✔||✔||✖|
|Real Market Liquidity||✔||✔||✖|
|Participate in Open and Close Market Phases||✔||✖||✖|
|Trades are 100% Hedged||✔||✔||✖|
|Potential to Profit from Client Losses||✖||✖||✔|
Advantages of Direct Market Access CFDs
CFDs have become one of the most popular traded derivative products and for many good reasons.
CFDs have been used by investment banks, which have used equity swaps for over 20 years.
CFDs have provided retail traders with the same advantages that have made them such a popular product.
FP Markets offers Direct Market Access for all of its global CFD products adding transparency to the list of advantages.
Here are the advantages of DMA CFDs.
1. High Leverage
One of the key benefits of CFD is that it helps better utilise capital by offering leverage. When trading CFDs on a small margin is required when taking out a much larger position.
This means that with very little capital, a trader can access to much greater profits. Margins are as little as 1% on some instruments.
2. Short Selling to profit from falling prices
Short selling enables a trader to sell a CFD at a high price and buy it back at a lower price to gain a profit.
This enables traders to profit from not only rising markets but also falling.
CFDs are unique in this fact that other traditional equity products do not offer this benefit.
Whilst this is not available for every single instrument, FP Markets offers a large range of short sellable Securities, FX, Commodities and Indices.
Another major advantage of short selling is that there is no cost of holding this position open, so it’s perfect for hedging purposes as well as speculation.
3. Hedging risks
Given that CFDs can be short sold, they are an ideal tool for hedging purposes.
Many equity portfolios remain vulnerable to market downturns and the cost of exiting and re-entering are far too high and risky.
DMA CFDs enable traders to lock in the value of an equity portfolio by holding short positions that mirror that in the equity portfolio.
This means for every dollar the equity portfolio loses the CFD portfolio will gain.
With CFDs only requiring a very small margin this means a minimal outlay at a very little cost.
FX CFDs enables people to hedge currency balances.
Indices CFDs enable people to blanket hedge a large portfolio without having to buy individual Equity CFDs.
FP Markets also enable clients to open accounts that are Self Managed Super Funds and trusts where many equity portfolios are held.
4. Lower Transaction Costs
Unlike traditional Equities trading and other derivatives products, CFDs have very low transaction costs.
Many high volume traders chose to trade with FP Markets due to their flexible and competitive transaction costs.
5. Simplicity for trading online
Direct Market Access (DMA) CFDs mirror the underlying exchanges making them very easy to trade.
Other derivatives products may not move in line with the underlying financial instrument, such as options and futures, and therefore can be very difficult to trade and understand.
Along with this the majority of CFDs have no expiry either, and therefore positions can be held open as long as necessary.
6. Receive Dividends and Corporate Actions
For all equity CFDs, traders are entitled to a cash equivalent of any dividend that is paid.
Another advantage of CFDs is that the dividend is paid on the Ex Date rather than the pay date as is the case when trading fully paid equities.
You also have the ability to participate in other corporate actions such as share splits and rights issues.
FP Markets offers the most extensive list of Australian and other global equity CFDs ensuring you can get access to corporate actions and dividends where possible.
CFDs have the added benefit of enabling traders to use unrealised profits as margin to open new positions.
CFDs are also cash settled and therefore make it much easier to trade in and out of positions multiple times throughout the day on the same available capital.
Positions closed intra-day do not incur financing fees.
Why you should trade with FP Markets?
Now you have found out the differences of DMA and Market Maker models, and also the advantages of trading DMA CFDs.
FP Markets can be one of the perfect choice for traders looking for DMA CFD markets.
But who is FP Markets first of all?
Here are some of the merits FP Markets can provide to online investors.
1. Award Winning CFD Provider
FP Markets has received recognition from multiple independent rating groups as proof that FP Markets is the number one choice for CFD and Share traders.
Categories that FP Markets has excelled at are: Outstanding Customer Satisfaction, Outstanding Value for DMA CFDs, Outstanding Value for Online Share Trading, Blue Ribbon Recommended CFD Provider and DMA CFDs on the largest range of Australian shares.
Canstar Cannex, Investment Trends, AFR Smart Investor, Money Magazine and The Bull have all recognised FP Markets on multiple occasions for being a standout CFD provider in Australia.
2. Custom-made Tailoring Accounts for Clients
Being a primary product developer of DMA CFDs enables flexibility when setting up and maintaining client’s accounts.
From clients who trade once a year to 100 times through the day FP Markets can structure an account to suit you.
From beginners where FP Markets has a Preparation Account to help you get started all the way through to their Premier Account ideal for active traders.
No matter how big or small a client is they are happy to tailor accounts to the clients needs.
3. Advanced Platforms
Throughout the Australian broking and trading industry IRESSTrader is recognised as the market leader for online DMA CFD execution.
Unlike most providers IRESSTrader give complete transparency with full market depth on all products making it easier for the trader to be successful.
Being an online interface there are no downloads required and therefore IRESSTrader can be accessed from any computer anywhere as long as you have the Internet.
Blackberry and iPhone apps enable clients to view their account and the market when a computer is not handy and even place their trades.
4. Complete set of Education Courses for traders
FP Markets offers free and ongoing education to all its clients.
Topics will range from learning exactly what a CFD is and how it works all the way through to advance Technical Analysis on how to trade CFDs and make a profit.
FP Markets’ education comes in many forms to suit all the clients.
Electronic booklets, on demand webinars, live webinars and even face-to-face seminars held around Australia where you can meet the industry professionals and ask any questions you like.
5. Low Costs and High Leverage
FP Markets stays ahead of the game by not only offering access to DMA CFDs and the largest range of Australian equity CFDs but they also have the most competitive margins and fees structure.
Not only do you get to see the full market depth on over 2000 Australian equity CFDs but you also get margins from as little as 3%.
Powerful leverage means potential access to far greater gains than what is possible trading other products.
Frequent traders get access to $0 minimum fees as well as free access to IRESSTrader and multiple news feeds from around the globe.
FP Markets shows its true value by offering all customers free phone trading.
6. Global DMA (Direct Market Access) Products
Not only does FPM offer complete price transparency in its DMA CFD model but also has one of the largest range of global products.
Gain access to Asian, American, Australian and European Equity, FX, Indices and Commodities CFDs, truly paving the way for the future of CFD trading products.
7. Help you Manage your Risk
FP Markets offers a multitude of different education material, webinars and seminars specifically aimed at risk management, as they are all well aware of the risk associated when trading leveraged products.
FP Markets’ platform has all the key functionality needed to also help minimise risk even when you are not in front of the platform.
8. Improving the Security of Client Funds
FP Markets now face an environment where as a result of the MF Global failure the security of client funds has come into focus.
There have been failures in the past which have been caused by fraudulent or illegal acts, companies lacking proper risk management and proprietary trading.
In resolving these issues clients face further frustration.
Administrators and lawyers are all trying to figure out structures, which seem to get more complex.
Meanwhile investor funds remain in limbo or worse yet are used to pay the high fees of administrators and lawyers.
Know the risks of trading CFD products
Losing money is one of the major risks of investing and trading.
When using CFDs this is no different.
Learning about these risks and how to manage them is essential.
So anyone considering trading CFD should have a sound understanding of financial markets, risk management and other risks such as the various counter-parties that they may be exposed to.
A CFD will hold similar risks to that of the underlying market in which it is written over.
However, as a result of LEVERAGE (the main feature of a CFD), gains and losses will be magnified.
LEVERAGED trading increases the risk as you only need to come up with a small amount of capital to open a position.
Your profit and loss however is based on the full notional value of the trade so can be a lot larger than your initial outlay. This means you can easily lose more than your initial outlay.
We have provided a table below from the legal documents that sets out key the risk and important issue to consider surrounding these.
FP Markets offers tools for traders to manage these risks.
Outside of these traders should:
1. Research and understand the markets that you want to trade
Since you will be using a DIRECT Market Access CFD you will be interacting with the underlying order book.
This means you will be subject to the rules of the market you will also need to have a very good grasp of the factors that will make that market move.
2. Establish a trading plan
This is similar to a business plan and requires individuals to research and prepare prior to trading.
Traders should consider things like position sizing, risk per trade, expected payout of the trade in completing this.
3. Paper trade
Take advantage of demo trading accounts to test your trading plan before committing capital.
4. small and test your plan
Once you are confident that you have a robust plan start with a small amount of capital.
FP Markets offers a preparation account to allow traders to achieve this ask a sales representative about this now.
5. Manage your trading
Trading requires diligence and attention.
Markets move quickly so you will need to manage your positions this will require you to be able to be contacted in some form to know what is going and then react accordingly.
6. Use Stop Losses and Contingent Orders
This will help you manage your account.
In the event that the market moves quickly this can save you as this will automate trading if certain price events occur.
7. Keep refining your Trading Plan
The best traders are nimble and can change their strategy as the market changes.
They cut losses quickly and use prudent risk management.
They never stop learning.
Get an understanding of how a professional does it with FP Markets’ model portfolio complete with position sizing and risk management.