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Introduction to Contracts for Difference Trading
Wed, May 16 2007, 09:32 GMT
by Global Trader Team
What Are Contracts For Difference?
Contracts for Difference (CFDs) differ from traditional cash-traded instruments (such as stocks, bonds, commodities and currencies) in that they do not confer ownership of the underlying asset. With CFDs you are buying the price movement in the stock (or bond, currency, commodity, etc.). You never take ownership of the underlying asset.
This takes away a lot of the headaches of stock ownership, such as script custody and tracking dividend payments. This also makes CFDs perfect for hedging or gearing up a portfolio where ownership of the underlying asset is neither desirable nor relevant.
CFDs are margin-traded instruments, so fund managers can buy exposure to market movements using only a fraction of the capital required in the cash market. The ability to "short sell" without having to execute script borrowing allows fund managers to hedge against market downturns with great ease and at relatively little cost. There are no laborious script borrowing procedures to administer.
CFDs allow fund managers to hedge portfolios more efficiently than through traditional means, such as futures. There are no costs other than a small cost built into the CFD price together with a small funding charge.
Finally, with CFDs there is no MST. This substantial costs is avoided since the CFD trader never actually purchases the underlying instrument. This explains why so many UK fund managers are using CFDs as an indispensable part of their investment strategies.
Investors can trade dozens of different instruments, from shares to commodities, currencies, bonds and indices. They can go long just as easily as going short. Unlike warrants which are subject to time decay and other price distortions, CFDs track the movement in the underlying asset price in a predictable way.
Why Institutional Investors Are Turning To Contracts For Difference
A growing number of market analysts are now convinced the bull market of the previous 20 years has drawn to a close, and institutional fund managers are rethinking their investment strategies to accommodate what may be a protracted downturn.
This explains the proliferation of hedge and absolute return funds seeking to generate positive returns whether markets are rising or falling.
The phenomenal growth of the US$600 billion global hedge fund industry suggests a measure of investor fatigue with the traditional long-only style.
The long-only investment approach presumes asset prices will rise over the long term, and is suitable only in bull market conditions. This worked well in the 1990s when asset prices increased well in excess of prices derived from historic valuation methodologies, but many analysts now believe it may be some years before we see a return of a sustained bull market. This calls for a change in fund managers' methodologies and investment styles and will require fund managers to generate profits whether markets are rising or falling to keep their clients satisfied.
CFDs have been described as the near perfect investment tool since they address many of the shortcomings of traditional vehicles such as equities and bonds; and are far more efficient.
For additional information on Spread Betting and CFD's contact Global Trader.
Published on Wed, May 16 2007, 09:32 GMT
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Legal disclaimer and risk disclosure
Information on past performance, where given, is not necessarily a guide to future performance. The investments and services referred to may not be suitable for everyone. If you have any doubts as to suitability, you should seek advice from an investment adviser. We deal in derivatives that are traded off exchange. While some off-exchange markets are highly liquid, transactions in off-exchange or 'non transferable' derivatives may involve greater risk than investing in on-exchange derivatives because there is no exchange market on which to close out an open position. It may be impossible to liquidate an existing position, to assess the value of the position arising from an off-exchange transaction or to assess the exposure to risk. Bid prices and offer prices need not be quoted, and, even where they are, they will be established by dealers in these instruments and consequently it may be difficult to establish what is a fair price. We deal in derivatives that involve a contingent liability. Contingent liability investment transactions, which are margined, require you to make a series of payments against the purchase price, instead of paying the whole purchase price immediately. If you trade in contracts for differences you may sustain a total loss of the margin you deposit with us to establish or maintain a position. If the market moves against you, you may be called upon to pay substantial additional margin at short notice to maintain the position. If you fail to do so within the time required, your position may be liquidated at a loss and you will be responsible for the resulting deficit. Foreign markets will involve different risks from the UK markets. In some cases the risks will be greater. The potential for profit or loss from transactions on foreign markets or in foreign denominated contracts will be affected by fluctuations in foreign exchange rates. The investments and the services and transactions referred to may have tax consequences and it is important to bear in mind that GT247 does not provide tax advice. The levels and bases of taxation can change. You should consult your own tax advisers in order to understand any applicable tax consequence.Interested in forex trading? forex brokerage firms!
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