Trading CFDs is an exciting way to make money in the financial markets, but it presents several risks that inexperienced traders should be aware of. One of these risks is that if you don’t have a trading strategy planned out before you start trading, you could end up with either significant losses or lots of cash tied up in positions that are difficult to close.
An essential part of your initial research should therefore be to establish what type of CFD trader you are likely to be so that you can get off on the right foot when you open your live accounts.
There are two types of CFD traders – ‘scalpers’ who repeatedly trade for small profits throughout the day and take advantage of tiny price movements by placing lots of trades, and ‘position traders’ who hold on to positions for more extended periods make more significant gains.
Knowing which type of trader you are likely to be will help you decide what type of CFD trading strategy best suits your personality and financial resources.
Position Trading Strategies
It involves keeping a position open for an extended period without exiting too quickly after any slight price movement against you. Your positions are opened in anticipation that the price will move into a profitable area or at least stay within a specific range with limited risk. If it does start heading in your direction, then great – time to make some money.
If not, patience is required until you can get out at break-even or slight profit.
It’s achieved by trading multiple contracts regularly and exiting after brief holding periods or even instantly after entry if the price moves against you by more than a preset amount (known as ‘scalping the bid-offer spread’). This strategy requires close attention to market movements and can be time-consuming, although it does offer potentially high rewards for relatively low risk.
As with any trading, there are no guarantees that either strategy will work, so preparedness to lose money and make it is also essential. That said, it’s certainly possible to generate long term profits from CFDs if you’re smart about how you approach things.
Currency pairs are trendy, especially with newer traders, because it is easier to get started with this option. After all, the trader only needs to consider two instruments that make it easier to trade efficiently. Commodity trades or index options require more discipline due to different market fluctuations that may not be easily predicted.
Many variables affect currency trading so being able to read charts accurately is critical for success in currency trading. Some of the most common strategies used are scalping, hedging and following trends.
Accumulators are traders who look to capitalise on extreme movements in the underlying instrument. Although beyond normal market boundaries, these movements do occur in most financial instruments over time with a relative frequency depending on the product traded.
Accumulators only enter into a transaction when they have identified an acute change in price momentum, then acted upon with great haste. As an example, if a trader notices that the share value of e-commerce giant Amazon has suddenly dropped by 5% after trading at close to $400 per share for months, they would purchase shares in the company through a CFD at say $390/share – since this option offers leverage.
Once the transaction is complete, the trader immediately sells their position at $385/share – locking in a $5 loss per share or $500 on their initial $10,000 investment.
CFDs make hedging a highly viable way of protecting your portfolio against potential market downturns. It can be used to protect all or part of an existing financial product (such as shares) to ensure that the value of the original asset does not decrease during periods of unstable markets (or when traders anticipate that it will).
The most challenging part about choosing CFD trading strategies is not knowing which ones are better than others but finding one that works best for your personality and preferences. It will require some research beforehand, so it is always helpful to keep track of your daily results, even if they are minimal.