Mastering CFDs
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Top 10 tips for CFD traders
Do you want to get started as a CFD trader? It really pays to prepare fully, set yourself goals and learn exactly how the markets work. Read our guidance to build your knowledge.
Contracts for Difference have gradually built up traction as a new way of trading stocks, indices, currency pairs and commodities in today’s financial markets.
CFDs allow traders to access leverage, giving them deeper access to markets in a similar way to retail forex trading. Trading CFDs is also a mechanism to get involved in markets without buying the underlying asset.
They allow traders to speculate on downward price action. Taking a position this way is sometimes known as “going short”.
Through leverage, a trader can secure a position in the market at a relatively small initial cost, yet still reap the full benefit of its subsequent move in the market.
Trading with CFDs involves significant risk of loss and is not suitable for all traders. Although leverage can greatly increase your chances for profit, it can also magnify your losses and it is with that warning in mind that we bring you our top 10 tips for how to make the most of your chances for success in the CFD markets.
- Be honest with yourself
- Put in the homework first
- Know your markets fully
- Manage your risk
- Practice with a demo account
- Use the tools at your disposal
- Diversify your risk
- Make the trend your friend
- Learn when to close trades
- Track your results
1. Be honest with yourself
Not everyone is cut out to be a trader. However, if you are naturally level-headed and can react calmly to setbacks there is a chance you might be.
You should also possess an appetite for risk and an understanding that any potential rewards are not simply going to fall into your lap.
Are you able to set aside an initial trading pot you can afford to lose? Do you have enough time on your hands to manage active positions?
Are you prepared to listen to professionals, read up on the news, and examine both technical and fundamental analysis courses to earmark your trades?
If you can answer yes to these questions, keep reading.
2. Put in the homework first
Trading in any form is a high-risk activity and is not suited for raw beginners. With that in mind, training, education, and practice trading are a must before dabbling in any market. As you gain experience, you will begin to learn more about yourself and the way you react to price action.
FOREX.com understands what new CFD traders need access to. That’s why we have articles like this, and other training materials on hand, to provide you with a strong foundation before you access the markets.
While you read about how the markets work, you should also reach out to us for support over any questions you may have. Set yourself some objectives; work out how much you can afford to risk.
Don’t rush headlong into CFD trading without being fully cognizant of how it works, the margins required to trade on leverage, and a full awareness of the underlying assets you are trading.
3. Know your markets fully
Knowledge is king. In trading, you can access CFDs in stocks, indices and commodities but it’s not necessarily a good idea to get stuck into all three straight off the bat.
By common consent, you will have a better chance of finding trading opportunities if you focus on one of the three first and only trade that. Afterwards, you can take on one or the other. Finally, you may feel ready to trade all three, but many successful traders choose not to.The markets are connected, but in fairly complex ways. Margin requirements, which dictate how much leverage you can access, vary considerably between asset classes.
Always study both current news and historical price trends before making an assessment about price direction.
4. Manage your risk
The amount on deposit in your account that underpins a leveraged position is your margin and can be lost if the market moves heavily against you.
So mitigating market risk is vitally important to avoid the potential of your position being liquidated through a margin call in unexpectedly volatile market conditions.
Setting stop losses on open positions can lock in manageable losses, while preventing potentially bigger loss, protecting your margin, and leaving you free to take a new position in the same market, or a different one.
It is often wise to avoid having too many active positions at one time. With CFDs, the need to monitor positions is greater, bearing in mind the potential for major swings.
Learn to accept losses as a necessary component of any trading activity. Your goal is to record “net” gains over losses, but losing streaks do happen, even to veterans.
5. Practice with a demo account
FOREX.com gives all new traders the option to initially trade with virtual funds in a demo account.
You can do this for 90 days, risk free, while getting access to all the tools and features that funded account-holders enjoy.
Many experienced traders claim to have spent many weeks trying out their strategies and learning from their mistakes with such demo accounts before committing their cash to trades.
Practice sessions are also intended to wean traders off the temptation to make damaging emotional calls. If you make the biggest trading mistakes you’ll ever make on a demo account, then so much the better.
6. Use the tools at your disposal
A FOREX.com account opens up access to the kind of tools that active traders of all types enjoy. But you don’t need to earn the right to use them.
The Trading Central Technical Analysis portal shows you short-term trade ideas complete with pivot points, support and resistance levels, the rationale behind each trade and even alternatives if things change.
You'll also have access to a wide range of technical indicators to help you identify trading opportunities.
7. Diversify Your Risk
Try not to be overexposed to a particular sector. For example, let’s say you have several positions with energy-related assets, across both commodity and stock CFDs.
They would be likely to show a tendency to move together in one direction. This could prove advantageous if you are on the right side of the market, but if you are not, it spells potential danger as they could all be losing money at the same time.
There are two ways to avoid this risk. One is to put in a trade the opposite way to hedge against deeper losses. The other is to diversify into other sectors that are not related to energy.
Finally, CFD trading allows you to switch strategies if the overall market flip-flops in the opposite direction.
8. Make the Trend your Friend
Winning at the trading game with CFDs is about self-belief. You should feel confident that your trading plan is sound and giving you the 'edge' you need.
It is not about betting on bottoms and tops. Trading range-bound assets can also be difficult with CFDs due to expanded bid/ask spreads.
The odds favor finding trends, confirmed by indicators. Markets may only trend 30% of the time, but that’s not a problem if you pick your moment accurately.
If momentum is on your side, sustained price action can overshoot a projected mark, providing an additional opportunity when the reversal occurs.
The great scientist Louis Pasteur once said, "Chance favors only the prepared mind." In trading, sudden flashes of insight don't just happen. They are the product of putting in the work first.
9. Learn when to close trades
You should always give a trade a chance by setting a stop loss that allows it some time and space to develop. However, it is often dangerous to drop a stop loss to let it breathe more, or to add more money to a losing trade in hopes of a quicker way to recover your losses.
When a trade is winning, on the other hand, how long should you let it run? The odds tend to favor an active trend continuing, so that employing a trailing stop may provide a solution as opposed to bailing out early.
If you do take a profit too early, it’s best to focus on the bright side. Finding the top of a market is nigh-on impossible, and any profit is preferable to any loss.
10. Track your results
By keeping a record of all your trades, you can then review them and, after the event the strengths and weaknesses of the decisions you made that led to your profits and losses.
Consider the baseball hitting coach who looks back at every pitch made, and every batter’s response to those pitches. Preparations for the next game often involve reaction to that analysis, and an adjusted strategy in response.
So too in CFD trading, weekend preparation is often spent understanding why failures occurred and why winning trades happened. It’s a healthy habit to know your flaws as well as your strong points, and with FOREX.com’s Performance Analytics we make it easy for you to track your historic trading.
