How Leverage Can Cause Huge Losses in CFD Trading

If you are wondering if you should go for traditional stocks or trade CFD then this comprehensive guide will give you the facts you need to make the right decision.

CFD Trading and Traditional Stocks

Stocks and CFDs are very alike in so many ways. But, identifying its differences will draw a line on which one to use for beginners like you. Contracts for Difference is a financial product and its most obvious distinctive factor against stock trading is its leverage. Although you don’t actually own the underlying asset in CFD, you are entitled to have leverage meaning you can trade just by paying part of the original amount of the asset.

Leverage

Before checking the differences between CFD trading and stocks trading, you need to understand the two methods used in trading as well as the concept of leverage which is used in contracts for difference.

Contracts for Difference is a leveraged product. CFD traders can trade on margin. This gives the traders a chance to trade without paying the full amount of the asset. The trader can open a larger position and therefore, his exposure to the market is broadening. But first, the trader needs to deposit an amount required by the broker to open a position. This percentage of the actual amount is called margin.

Knowing the meaning of leverage gives you a glimpse of how useful it can be for traders, precisely retail traders who don’t have the capacity to shed a huge sum of money. When a trader has access to a larger trading position, the trader can automatically expect a bigger return. This is all possible if the market goes along with the speculations that you had. However, if the profits are mirrored, the losses are mirrored too, if the market goes against you. This means that you should take leverage very seriously. You have to make sure that your risk management is properly planned and executed.

The Advantages of Stock CFDs

There are more to Stocks CFDs than the ones mentioned above. This time, we are going to discuss the advantages and disadvantages of Stock CFDs.

Advantages

CFD traders can either go long or go short. This is one of the best features of CFD trading because traders can speculate on the rise and fall of the market. More importantly, since you don’t own the underlying asset, you will not be paying the stamp duty, one of the expenses that investors have to shoulder in the UK. What you will be paying is the capital gains tax.

Disadvantages

Yes, trading CFD is useful and a lot of traders are reaping its benefits. However, the leverage, which makes trading CFD very popular, is a double-sided sword. It can work to your advantage but if the market goes awry, it can cause you to lose even your investment capital. But with the use of proper risk management tools, you will somehow get away with the risks of CFD trading. Utilize stop loss and trailing stop to avoid as many losses as possible.

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