Characteristics of the Best CFD Providers

With the popularity of CFD trading in Australia, there are now a large number of CFD providers that you will be able to find. Most of these CFD providers are available on the internet and a simple search will bring up the top CFD providers that you may want to consider. However, you also need to know the characteristics of the best CFD providers to be able to choose them.

Check the markets that are offered by the CFD providers. While most provide over the counter CFD trading only the best CFD providers will be able to help you with exchange traded CFDs. It is also pertinent to work with the providers that are primarily CFD providers and not those who provide these services as part of a larger array of financial services.

The fee that the CFD providers charge should be seen from various angles. The overnight financing fee, the transaction fee, margin requirements, capital required, platform access fee and more should be taken into consideration before making any decision.

The best CFD providers also provide added services and freebies for their customers. While some may provide access to the trading platform, free of cost there are others that may help you with some high end technical analysis of the market. Look for the possibility of automatic stop losses too.

Make sure that the spread that the CFD providers offer is low and that you are not losing too much money by going through a broker and not going direct.

Different Types of CFDs

There are basically two kinds of CFDs that exist in the market. One is called the Direct Market Access or DMA and the other is called Market Maker or MM. There are advantages and disadvantages of each of the CFDs and one should understand them before one decides the one that should be picked.

In the Direct Market Access, the CFD order is placed in an order book. This order book is the place where the buyers and sellers get prices for asks and bids. When CFDs are bought and sold in this manner, the trade affects the underlying value of the asset. This is the system in which complete transparency is a by-product since there is no middle man involved.

You can also place orders for CFDs via a market maker. It is believed that the prices that are quoted by the market make are slightly higher than those that are available directly in the market. If you want the convenience of dabbling in CFDs via a middle man, you will need to be ready to pay this amount. While the rates quoted for CFDs in this manner also are based on the market value, there is a personal element of price that the middle man adds to the CFDs.

The speed of transaction in the case of  CFDs ordered in the direct method is faster. There is no intervention of the middle person. However, you may find that you are limited to some of the top stocks when using this method.

Why Should You Trade in CFD?

CFD or contract For Difference is a trade where you can win or lose based on the difference in prices. The person who invests in CFD does not really own the asset but only bets on the direction in which the price will swing and the amount to which the price will move. Here are some reasons why you should consider CFD trading.

- High leverage – Since you do not have to purchase the stock itself and only bet on it, the margin required is as low as 5 per cent. This means that the leverage on the investment that you make can be as high as 20 times. However, it is also important to remember that the leverage can work both ways and you stand to lose a similar amount of money if you lose.
- Absence of an expiry date – A CFD does not deteriorate in value and does not have an expiry date like options. However, there are fees that need to be paid if the CFD is held for more than a day.
- Dividends – Some people believe that dividends are paid to only those who own the assets. However, in the case of a CFD, you can get dividends even when you do not own the asset.
- Easy – the concept of a CFD is easy to understand for all. One does not need to be a great player in the stock market to be able to evaluate various options to invest.

One of the main attractions of a CFD is that you do not need to hold the asset and therefore you do not need large sums of money.

CFD Providers

Both CFD broker and a stock broker do the same thing; allow you to trade in stocks. Then why is that CFD brokers are often called CFD providers but stock brokers are never called stock providers

The basic reason is that stock brokers are agents who communicate with the stock exchange on behalf of their clients. CFD providers are principals and counterparty to the trade initiated by you. When traders buy, CFD providers themselves are the sellers. Whereas, traders can buy on a stock exchanges only if there are sellers ready to sell in the market. If there are no sellers, you cannot buy in the stock market. It is another matter that if there are no sellers in the market for the underlying share of a CFD, CFD providers may not offer it to traders for buying unless they are ready to take the risk. This is because they have to hedge their bets in the stock exchange by placing counter trades; if they sell Rio Tinto CFD comprising of 100 shares, they have to buy 100 shares to manage their risk.

CFD providers are a part of a larger over-the-counter market and their activity is not limited to share CFDs. Apart from shares, a typical CFD provider would offer the ability to trade in forex, indices and commodities across global markets.

The CFD market is generally unregulated and it is incumbent on traders, especially beginners to be careful while choosing a CFD provider. Try not to believe those who indulge in aggressive marketing, make unrealistic claims that look too good to be true.

Difference between a Stock Broker and CFD Broker

CFD broker is actually a misnomer because technically he is a principal and not an agent. The reason for this is that in the CFD market trades are placed directly between a dealer, commonly known as a CFD broker and a trader. However, in certain cases there may be a broker acting on behalf of a CFD provider.

Regardless of whether we call him a broker or dealer, the job profile is the same as a traditional broker. The difference is that stock broker is an agent who acts as a go-between you and the stock exchange and earns through the commission he charges on each trade. A CFD broker, on the other hand, does not charge a commission but earns his profit from spreads. A spread is the difference between the rate at which he sells a CFD and the rate at which he buys.

A stock broker does not carry any risk. He will allow trades only of as much value as there is money in the trading account of a client. A CFD broker, on the other hand, is counterparty in the contract and must cover his risk by placing counter trades in the market pertaining to the underlying asset. For example, if you buy a Telstra CFD worth 100 shares, the CFD provider will sell 100 Telstra shares in the stock market at the current prevailing price to hedge his risk.

A CFD broker provides traders with the ability to open, close and manage market positions through a web-based trading platform. A stock broker may however do the same through proprietary software made available for download to a client’s computer.

Pluses and Minuses of Trading in CFDs

CFDs are a relatively new product in the Australian markets. Trading in CFDs has many advantages such as lower margin requirements, simple pricing, easy access to global markets, the ability to short sell, absence of day trading rules and little or no commissions and transaction fees. Actually, CFD is the latest blue eyed boy of the market.

CFD refers to contract for difference, a tradable product where settlements are done on the basis of difference between the closing and opening values of the trade. It relates to an underlying asset and the only thing that matters is the price difference. This means that prior ownership is not necessary and traders can profit by short selling if they are bearish on the underlying asset.

However, despite so many advantages, each trader must weigh the pluses and minuses of CFD trading and proceed accordingly. There are certain disadvantages of CFD trading that have to be taken into account before settling on any trading plan.

CFDs are traded on spreads, the difference between the price at which providers of CFDs sell and buy a CFD. Having to pay the spread on entry and exit means that traders cannot benefit from small move. The spread reduces the profit from winning trades and increases the loss in losing trades by a small amount. If there are commissions and fees and regulations in stock markets, providers of CFDs have their way of cutting down profits of traders with larger spreads.

Another minus point of trading in CFDs is that the CFD market is not as regulated as the stock market is. While there are many reputable CFD providers, being an over-the-counter market, traders still need to be careful while selecting whom to trade with.

CFD and Stock Options

Apart from trading directly in equities, traders have the option of participating in another way as well; they can trade in derivatives instead. Option trading is one of the popular derivatives and has been quite popular with experienced traders. While options have been there since long, many beginners are not familiar with CFD, a derivative product that is relatively new to the Australian markets.

A CFD or contract for difference provides an option to traders to trade in stocks or any other financial instrument in the market without ownership. For example, you can trade a Telstra CFD without having to buy its shares.

Contract for difference is an agreement for paying or receiving the difference between the closing price of the underlying asset and the price at the time the contract was entered into. Every CFD has an underlying asset. It could be a share, commodity, currency pair or an index.

Many investors often ask how it is different from trading options. The primary difference and also the reason why it is preferred over option trading is the simplicity of its pricing. The primary feature of option trading is the time premium attached to it. The premium decays as it nears the expiry date. A contract for difference reflects only the price of the underlying stock; there is no time value attached and no premium to decay. Moreover, CFDs are available for a wide range of underlying assets.

However, the element of risk is the same as in stock and forex trading. Since it employs a high level of leverage, the risk of losing money is as great as the increased potential for profit should the markets move adversely. It is thus recommended that investors be careful while trading in CFDs.

What Kind of CFD Training Do You Need?

CFD is a derivative financial tool and is a specific kind of trading that you can choose to invest your monies in. it is a Contract for Difference between two parties where each agrees to pay the difference between the opening price and the closing value of the asset in question. It is not necessary for a CFD trader to trade on a rising stock alone. 

Since CFD trading is different from regular trading, there is a need to ensure that you understand the specific terms that are used. This is why CFD training is an essential aspect of starting off in the market. You may want to choose a good CFD training curse before you actually start trading in the live markets.

In most cases, a CFD training course has a preliminary basic theoretical course that can help you understand the fundamentals of the markets. This CFD training module is likely to include aspects such as terms used, basic strategies, laws and rules and other such essential aspects.

The more interesting aspect of CFD training is when the course offers you a platform that you can use to trade in a dummy manner. What this means is that while you trade using real figures in the market, you do not really spend any real money.

CFD training also helps you understand the manner in which you should use leverage and the way in which you can always ensure that you are on top of the game in the CFD markets.

Questions to Ask CFD Providers Before Choosing One

Choosing from the many CFD providers that you are likely to encounter in the market these days is an important task that you should not take lightly. It is not recommended that you change CFD providers too frequently because a long term partnership with them can be extremely beneficial for you as a trader.

This is why it is important that you know the specific questions that you need to ask CFD providers during the process of evaluation so that you are able to make the right choice in the first place.

The first thing that you need to know is the amount of time the CFD providers have been in the market. There are many people who want to start trading in the CFD markets and therefore there are also a lot of new CFD providers that have recently incorporated themselves.

Since you are starting off in CFD trading, you need to check the amount of money that these CFD providers expect you to invest as the minimum amount. This is a number that you will see varies drastically across CFD providers and therefore you may have a large number of CFD providers dropping from the list mainly because they require large sums of money to open an account.

You must know the place where the CFD providers keep their client’s money. If you know that the CFD providers that you are evaluating associate with reputed banks and financial institutions, it is greatly assuring. Lastly, do check the markets that the CFD providers allow you to trade in.

Advantages of CFD Trading

As in the case of any kind of investment or trading tool, CFD trading also has its share of advantages. However, there are also some aspects of CFD trading that you may need to watch out for. Before you start to think of the things that you need to be careful when engaging in CFD trading, here are some great reasons why CFD trading is a great option.

Even though blue chip stocks may give you a fair amount of gain in the long term, the fact is that the whole buy is also extremely high risk too. Choosing penny stocks instead is also not a great strategy. The fact that CFD trading provides you with a fair amount of liquidity due to the leverage is a great factor to consider.

While trading short can be an issue in some kinds of assets, markets and exchanges, there is never an issue in trading long or short when it comes to CFD trading.

It is also possible for a trader to indulge in CFD trading in a variety of products like forex and foreign currencies, commodities, energies, metals, rates and bonds and stocks too. This means that you can choose from a large variety if you want to or stick to one type of asset and gain expertise in it.

While options have an expiry date, there is no expiry date when you choose CFD trading. There is the option of holding onto a position if you feel that the asset has more upside to it.

What is a CFD?

CFD stands for Contract for Difference in the financial markets. They can also be referred to as financial derivatives because they are a contract between the buyer and a seller with regards to the asset under question at the time of signing up the contract and the time decided when the payments shall be made. This is also called the term of the CFD. 

The seller pays to the buyer if the difference is positive. However, in case the difference between the current value of the asset and the value at the time when the contract finishes is negative, the buyer needs to pay the seller. 

CFD kind of trading is done in various countries including Australia. Some of the other countries include UK, Hong Kong, Poland, Switzerland, Italy, Singapore and Canada. 

One of the great advantages of CFD trading is that they work on the principle of margin. This means that the trader gets a leverage wherein you can make a small deposit and are allowed to trade for sums that are multiples of the amounts. 

Most of the times, a CFD is traded over the counter with the help of a broker or market maker. These are called CFD providers and they help in defining the terms of the contract and the margin rates too. In most cases, the market maker also decides the kind of instrument that is used to trade on.

While a CFD can be compared to the futures and options market in many ways, a CFD does not have an expiry date and therefore there is no chance of price decay.

Tax Implications of Gains from Trading in CFDs

If you are trading CFDs in Australia, you obviously want to know the tax implications in regard to gains or losses that you make in the process because there is a confusion whether trading CFDs is a gambling activity or not.   

Any gains arising from gambling contracts do not qualify as assessable income/loss nor shall they be considered under capital gain or loss. The ATO holds the view that trading CFDs is not a gambling activity.

The Australian Tax Office (ATO) considers any profit made or loss incurred during the process of trading CFDs is assessable income or tax deductible as the case may be. However, the profits obtained and losses incurred must be a result of a business operation or transaction and the transaction/s must have been entered into as an ordinary part of carrying on a business. Gains from trading CFDs that do not meet these conditions qualify for tax as capital gain or loss.

This also means that while calculating capital gains arising from trading CFDs, the tax office will give due consideration to cost of acquisition and factors that apply to buying and selling assets. In the case of trading CFDs, the cost of acquisition includes the price plus charges, fees, interest or any other expense that you may incur for acquiring and holding the CFD. Similarly, the cost that you may incur for disposing of the CFD will also be considered. Similarly, any benefits such as interest, dividends or any other adjustment made to your account during the course of business of trading CFDs shall form a part of net gain.  

The above provisions apply to resident Australians. If you are a non-resident, you may want to consult a professional to know your status as well as the tax implications of trading CFDs. 

The Adjustments That Might Be Made On Your Short Positions in Australian CFDs

An efficient internal risk management policy is one of the most important issues that CFD providers, including product providers that offer Australian CFDs, have to attend on daily basis. Known as hedging, this is a technique designed to reduce or eliminate financial risk. This amounts to taking two opposite positions in Australian CFDs that will offset each other if prices change.

One of the ways that they hedge their risks associated with short positions in Australian share CFDs is to borrow Australian shares from non-residents for Australian tax purposes.

When you buy or sell Australian CFDs you are actually entering into a contract in which the CFD provider is the counterparty, who is also exposed to a risk. Only, in this case the CFD provider has to take into account its entire exposure based on all positions that clients have opened in Australian CFDs. In many cases the short positions may be offset by long positions but there may be instances where short positions in Australian CFDs far outnumber long positions. To cover its risk, a provider of Australian CFDs prefers to borrow the underlying Australian shares from non-residents for tax purposes.

However, if it has to borrow shares to cover your short position in Australian CFDs from Australian residents, it has to take into account the adjustments that it might have to make in the accounts holding Australian CFDs.  

To this purpose, a CFD provider will make adjustments on AustralianCFDs held in your account to the tune of cash dividends as well as any attached franking credits. However, this may not be necessary in all cases and may be done with or without any prior notice in this regard. 

Adjustments Due to Corporate Actions on Share CFDs

The CFD account maintained for recording transactions made by you is an ongoing account and many adjustments are made in it on daily basis. While some adjustments pertaining to ‘marked to market’ amounts or ongoing margins are made on all types of CFDs, there are some that are specific to share CFDs.

As a general rule, all corporate actions including dividends, rights issue and stock splits must be reflected in share CFDs as well. Announcement of corporate actions that benefit shareholders are likely to have a positive effect on share price of the company as well as on CFDs related to it. For example, when a company announces a dividend, other things being the same, the share price and consequently the price of its CFD, is likely to increase. 

This is done because of the basic nature of CFDs, which are contracts that allow you to make a profit (or loss) without actually owning the underlying asset, the share of a company in this case. Since you hold CFDs and not shares, you are not entitled to receive the dividend the company pays. To compensate those who hold long positions in shares CFDs, the CFD provider pays an equivalent amount in their accounts. On the contrary, it deducts a similar amount from the accounts of those who are short in share CFDs.

All adjustments on share CFDs are made at the end of the trading day and only if you hold positions till the close of business on the date prior to the record date of the corporate action.

All That You Would Want To Know About Margin Requirement in CFDs

One of the advantages of CFD trading is that of not having to put up as collateral the full notional value of the CFD. This means that a given amount of capital can control a larger position, which amplifies the potential for profit. At the same time, you stand to lose a substantial part of the margin money in the event of a downturn in a volatile CFD.

A CFD provider allows you to create long or short positions in any CFD. There are normally two types of margin requirements: Initial Margin and Variation or ongoing margins.

Initial margin is the amount you are required to maintain in your account for as long as the position is open. This may vary from 3 to 30 percent on shares and commodities and 0.5 to 1 percent on indices and foreign exchange. Initial margin is fixed on the basis of the underlying reference instrument of each CFD and the perceived risk in the underlying market.

Variation margins or margin on ongoing basis is applied to CFD positions if they move against you. If you were to buy 1000 shares using a CFD at 1 dollar and the price dropped to 90 cents, the CFD provider with deduct 100 dollars as ongoing margin. On the other hand, if the price were to group by 10 cents, your account will be credited by the same amount as running profit. Ongoing margin is also known as ‘marked to market’ as it is deducted or paid in your CFD account on real time basis.

On the other hand, the initial margin is deducted from your account when you open a CFD position and is replaced only after you close the position. 

How to Buy and Sell in CFD and Shield CFD Accounts with Market to Limit Orders

Most CFD providers have different types of trading orders for your convenience and risk management. The simplest way to trade is to use market orders, which is a buy or sell order at the best current market price. The other way is to use a limit order, which is to set a limit at which you will buy or are ready to sell.

Some brokerages allow you to place a market to limit order in your CFD account/s. A CFD provider may set conditions and define market to limit order differently for various types of CFD accounts.

Market to Limit Order: CFD and Shield CFD Accounts

 Shield CFD account is an account where your liability is limited and you cannot lose more than the amount in your account. In these accounts, market to limit order means that you place and order within a price range. If the product provider does not want to trade within this price range, the order will not be executed.

There may be, at times, situations when there is a lack of liquidity in the underlying reference instrument (the asset that a CFD refers to) in the underlying market. Liquidity in this case implies the number of underlying reference instruments available for buying or selling at a given price. If you are trading on an electronic trading platform, the CFD provider will execute your order within your requested price range in a way that it reflects this lack of liquidity.

Market to Limit Orders: DMA CFD Accounts  

The definition is slightly different in these accounts, which are Direct Market Access CFD accounts. Here it is an order where you want to buy or sell at the current bid or offer price. A buy order is executed at the lowest offer price at the time of the order and a sell order is executed at the highest bid price. 

Limited Liability in Shield CFD Account

CFD providers offer different types of accounts to their clients to suit individual needs. One of the more popular accounts is a limited liability account, which is often known as a Shield CFD Account.

A Shield CFD Account is a limited liability account, which means that the account holder cannot lose more than the total equity in his/her account. Total equity in this context is the account balance plus any benefits and/or interest accruing on the account and less any charges, adjustments and fees that may be payable in respect of a CFD.

To ensure that the account holder does not lose more than what is in the Shield CFD Account, the product provider places one or more liquidation orders that are executed the moment the total equity is equal or less than the liquidation level.

Limited liability CFD accounts often have provisions for placing relevant stop loss orders for closing or reducing existing position/s created in the account but guaranteed stop loss orders are not allowed. Still, a Shield CFD account stop loss order is more or less like a guaranteed stop loss order inasmuch as that it is executed at the agreed price. But in the event of gapping due to sharp movement in the price of the underlying reference instrument and the CFD price gaps through the stop loss level, a limited liability CFD account stop loss order is executed at the agreed price regardless of the next available CFD price. However, such stop losses can be placed at a minimum distance constraint set by the product provider.

Regardless of the fact whether a Shield CFD Account stop loss order is placed or not, the underlying condition of limited liability under which the account was initially opened still applies to the account. 

Information Relevant to Treasury CFDs

CFDs are tradable instruments that mirror price movements of an underlying asset. The profit or loss you make is the difference between the price at which to open a position and the price at which you close it.  In case of treasury CFDs, the underlying reference asset is fixed income securities issued by the government and/or other bonds. A major advantage of trading treasury CFDs is that you can benefit from even extremely small price movements.

The price of most CFDs is influenced by multiple factors. These include the regular demand and supply factors and performances, corporate actions (for example in share and index CFDs) and other finer points that make markets move in the way they move. However, when you trade in treasury CFDs the major and some sometimes the only factor that you need to be aware of is the underlying profit (interest) associated with the treasury instrument related to the CFD. That means that your view of the market depends upon the direction in which you expect interest rates to move in future. 

Normally, treasury instruments and related CFDs trade at a premium if the prevailing interest rate in the country is less than the rate at which the bonds were issued at. That means that you would go long on treasury CFDs if in your view interest rates are likely to fall.

The other factor that influences treasury CFDs is the interest amount paid or payable on the bond. As time passes the face value of a bond increases in line with the interest accrued on it unless it is a bond that actually pays out monthly/quarterly/annual interest. In that case, the price of related CFDs will increase gradually in the run up to the record date for interest payment and revert back after the record date.   

Are Commodity CFDs a Better Option to Futures?

If you want to trade in commodities like oils, metals, grains and some agricultural or ‘soft’ commodities, a simpler way to trade them is through commodity CFDs. Access to commodity CFDs is much easier and more convenient than futures exchanges. However, just how many of these commodities are available to you depends largely on the CFD provider you choose.

It is crucial that you understand the way commodity prices are shown because it may lead to a bit of confusion at times. Commodity prices are reported as spot price (the current market price at which a commodity can be bought) as well as futures price, the price at which it will be available in future and reflects market sentiment. A regulated exchange shows the price of futures contracts and this is the underlying reference instrument of commodity CFDs. 

The price of commodity CFDs depends upon the futures of the underlying commodity. A CFD provider endeavours to match the bid and offer prices of commodity CFDs with prices in futures exchange but there is no guarantee.

Commodity CFDs enjoy a distinct advantage in that they provide easy access to commodity futures and lend well to trading flexibility due to smaller manageable lot sizes. However, all good things have a flip side. You may have to manage between futures and CFDs because the provider that you choose may not allow trading in all commodities that you want to. Moreover, it is not uncommon to see providers to increase their spreads to increase profits or manage their risks in volatile market conditions.

Bullion CFDs and Forex CFDs: The Connection

If you are an Australian and in any way connected with the financial markets you cannot afford to ignore gold. And if you are a forex trader, bullion CFDs provide you an excellent hedging opportunity.

Australia is one of the biggest producers and exporters of gold and its financial markets are greatly affected by the price of gold. For many years now, the currency pair AUD/USD has been moving in tandem with the price of gold, which is also the underlying reference asset for bullion (gold) CFDs.

CFDs refer to contract for difference that allows investors to take advantage of fluctuations in price without actually owning an asset. As such, when you create positions in bullion CFDs, you do not actually own physical gold or silver but only the right to make a profit or loss when the price gold or silver moves favourably. As an investor you must know certain basic aspects that relate to the positions you take in bullion CFDs.

Gold and silver bullion CFDs have a strong connection with Forex CFDs because the trading position you take reflects your view on the price of the metal in relation to currency value. While most CFDs are related to the underlying reference instrument or asset, gold CFD mean that you are taking a view on the price of gold as well as the currency it deals against. If you create a long position in gold you are expecting the price of gold to go up. It automatically means that you are short on the US dollar. Similarly, short positions in gold CFDs mean that you are going long on USD.