4 reasons why CFD trading might be right for you
Most people start out trading by opening a cash account. That was how I started trading too. But as I have moved away from the traditional “buy and hold” investment style, I have been exploring some new and different options. While I still focus on equities, I have switched to trading CFDs instead of cash stocks. Below are some of the reasons why CFD trading has worked out for me.
Ability to “short”
CFDs offer the ability to go both long and short of the equity market. This is something a cash stock account cannot offer, because short selling is prohibited on SGX. Being able to short CFDs enables me to trade down-trending stocks.
Leverage essentially means that you “borrow” money to trade. While leverage always entails a certain degree of risk, if managed well, it is a very high return strategy.
As with all trading and investment, one universal rule applies: only trade what you can afford to lose. This applies equally to leveraged trading. Poorly managed leverage can easily result in huge erosion of your capital.
The advantage to me of leveraged trading is that I need to use only a percentage of what I would have paid in cash. With this leverage, I can continue to keep my cash elsewhere in other liquid assets, or even fixed income. This allows me to obtain two sources of income from just one pool of money.
All brokerage accounts in Singapore charge commission on a transaction basis. On top of commissions, there are other fees such as clearing fees and access fees. For traders who are starting out with modest capital, the commission and fees are a real drain on profits. A lower commission rate can be the difference between a losing and winning trade.
When it comes to CFD accounts, in general, trading with leverage means you pay daily financing costs on your positions. There is also a commission charge per transaction. However, most CFD accounts charge much lower commissions than cash accounts. So even including financing costs, overall it tends to be cheaper than a cash account, unless you hold your positions for a long time. It is highly recommended to compare the rates and charges of various brokers before committing to one.
CFDs provide me with exposure not only to Singapore stocks, but also to international stock exchanges, indices, forex and commodities. There are limitations to what a cash stock account allows you to trade. Trading foreign exchanges can also come at a high cost with a cash account. The ability to trade in a broad variety of financial assets allows me to diversify and manage concentration risk.
Of course, following the rules of diversification also suggests that I do not put all my money in CFDs. As the saying goes; never put all your eggs in one basket (or if you do, you better keep a very close eye on that basket!). Who knows? CFDs might become a great addition to your trading portfolio too!