The main difference between CFDs and trading stocks or other assets is that you do not actually purchase or sell the underlying stock, instead making a contract with a broker. That said, there are some key rules for trading CFDs.
Understand the market
Most important of all is to have a good background knowledge of the area that you are trading in. You might be a fantastic mathematical analyst, but if you aren’t aware of the background behind the financial trends of the underlying asset that you’re trading, then you’re putting yourself at huge risk, and will be less able to predict what the market is going to do.
For instance, if you are looking at using Oil as an underlying asset for trading CFDs, then you should be acutely aware of the politics surrounding oil – is a major oil producing country going to announce a policy that will impact the supply of oil? What moves to decrease the demand for oil are there?
Second, you need a comprehensive investment plan. You will find many people in the investment world who have traded using their gut instinct and made a lot of money, but these people are in the minority.
The vast majority of people who enter investing without investment plans lose a lot of money – don’t be one of them! Keep an investment diary, tracking why you made each investment, how you are feeling at the time, and what you expect the investment to do. Where things went wrong, learn from them. Know when you will exit, setting boundaries to avoid losing too much money.
Keep a clear head
Third, as with all trading, you cannot let your emotions rule your investments. It is gutting to make an investment that ends up making a large loss, but you need to be able to let that loss go, and trade with a clear head. Continuing to trade whilst emotional is only going to compound your losses.
Be aware of your spread
Fourth, when trading CFDs it is important to be acutely aware of the spread. As CFD brokers make their money on a spread, any trade you do will be subject to it, and attractive short term investment options can end up being a waste of time if the CFD does not appreciate beyond the spread.
You might expect an asset to appreciate 1-2 cents, which can be significant when trading in high volumes, but with CFDs that is unlikely to beat the spread. CFDs generally are not a suitable financial instrument for people wanting to trade on short term, small market movements.
Leverage your investments
The final rule for trading CFDs is to remember the leveraging. CFDs give you higher leveraging, enabling an investor to make a significant amount of profit with a relatively low initial investment, but equally CFDs have the potential to be very costly to people who do not plan properly.
When it comes to CFD trading, you should follow the above 5 rules to make sure that you invest in markets that you know and that you are investing responsibly, in order to maximise your return.
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