CFDs – Play The Gamble With Caution

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What are CFDs? A CFD or Contracts for difference is basically an agreement with an issuer to exchange the difference between the price of something now and the price when you close the contract. You have an option to either take a position that the underlying market index or stock will go up or that it will fall.

This type of investment was enticing to the "get rich quick" crowd who lapped it up ever since Britain first introduced CFDs back way in 1974. And why not, when you can borrow as much as, or even more, than 90 percent of the Contract value? Imagine a puny payment of $ 100 can buy you an investment 10 times over!

Like all trading, CFD is associated with risks. Some dangers, however, are unique to CFD trading; Since understanding of the following traps is essential, especially for newbie traders or someone who intends to start trading CFDs for a living.

* Trading In Unfamiliar Territory: CFDs are traded in many products. For example in currency, precious metals, and international business. Someone may exhort you to trade in an alien currency or in an instrument of another country. But before you hop in, ask yourself how familiar you are with the foreign environment and the associated risks.

* Trading Beyond Risk Appetite: It is not unusual for a newbie to be carried away by the prevailing market sentiment and overtrading for potential quick money. Such a knee jerk action, more often than not, is followed by a reversal of decision, usually too late, resulting in an exit with sizeable loss. Professional traders are past masters in manipulating the gut feelings of inexperienced players who play the CFDs without any strategy.

* Trading Against The Trend: Someone may suggest you to be a non-conformist and play against the long term trend. This can be a very risky proposition indeed, especially in highly leveraged trade. In no time, a seemingly small loss can snowball into an exponential loss.

* Putting All The Eggs In One Basket: When one strategy works beautifully, it is natural for many inexperienced traders to allocate more money into the same trade thinking the plan is fool-proof. Using all available capital in making too large a trade is fraud with catastrophic hazards. You can be overwhelmed by a margin call that you can not honor, forcing you to close the position with a significant loss.

* Playing Without Stop-Losses: Like stocks, playing CFDs without stop-losses can be a risky proposition. If the trend does not buck, you will run out of exit options and losses will mount, putting a lid on all your finances. On the other hand, putting stop-losses can deprive you of habitat profits if the market trend moves in a predictable manner. So it is tricky both ways.

Today, CFDs are perhaps the most aggressively marketed leverage product. New entrants must understand that these are high risk trades.

Unfortunately, there are growing concerns that CFD trading is spreading its tentacles wide, embracing a wider investing community that includes novices who do not understand the risks.

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Source by Coleen Chang