More informed trading Getting Started

Transcription

1 Getting Started Beginner Level

2 Introduction 1 Stocks have been traded for hundreds of years, and since the 1980s it has become accessible to anybody. With the growth of the internet and development of different products, individuals can trade stock shares and 'contracts for difference', or CFDs, a share-based product that adds flexibility to an individual's trading options on global markets. Whether they are trading shares and CFDs from companies with household names like Tesco or Virgin, or entire indices like the FTSE 100 Index, they put their money to work for them in a more dynamic and intriguing way than depositing it in a bank appears to do. This series of Tutorial presentations aims to provide you with the information you need to understand to trade Stocks and CFDs. In this first presentation, Shares will be explained, and then CFDs will be compared.

3 Shares Pieces of a Company 2 Shares are pieces of a company, with every individual share representing partownership. So even if you own just 1 share in a company that has issued 1,000 shares, then you still own 0.1 percent of that company. Likewise if you own just 1 share in a company that has issued 1,000,000 shares, then you own percent of that company. Shareowners are entitled to share in their company's successes and failures, its profits and the losses. Speculation on any share price can drive it up or down in the short term, but a company's performance is really what drives its price in the long term. Traders buy and sell shares to capitalize on a share's price movement. If a share rises in value whilst you own it, then you make money. So if you bought a Google share (GOOG:xnas) for $400 and then sold it after the price soared to $500 you would make $100 ($500 - $400 = $100). If you sell a share short (which means you borrow the share from your dealer and sell it on the open market), and the price of that share goes down, you make money. For example, if you borrow a share of Google from your dealer and sell it on the open market for $600, buy it back for $500 and then return it to your dealer, you make $100 ($600 - $500 = $100).

4 Shares cont 3 As a shareholder, you are entitled to vote for members of the company's board of directors - and on other issues that are brought before the owners of the company. So you can take a real and proactive interest in its management. But money is very much what stock trading is about. Companies issue shares to raise money. Very often this is not because they do not already make money but because management sees a potential to generate more product or service if the company has more money to invest. Share price goes DOWN Share price goes UP BUY the Share Lose Money Make Money SELL the Share Make Money Lose Money

5 Contracts for Difference (CFDs) 4 Contracts for difference (CFDs) are derived from the stocks and stock indices on which they are based. They are beneficial because they give users extra leverage. Whereas stocks are certificates of company ownership, CFDs are simply contracts between two parties (you and your dealer, in most cases) that decide how much money you will make/owe depending on where the price of the underlying stock or stock index moves. So, in a sense, they're like virtual shares. Whereas there are a limited number of stock shares available for each company, there are no such limits on CFDs. Companies don't issue CFDs or determine how many are available - traders do. Providing there are traders willing to buy or sell CFDs, and dealers or others willing to take the opposite side of the trade (which can mean believing the opposite of what you are convinced will be the case), the number of CFDs you can trade on each share or share index is effectively limitless. Share price goes DOWN Share price goes UP BUY the CFD Lose Money Make Money SELL the CFD Make Money Lose Money

6 CFDs - Leverage 5 CFD values fluctuate daily as the price of the underlying asset climbs or falls. CFD holders are not entitled to vote for members of the company's board of directors or on other issues that are brought before the owners of the company. CFDs also give you no ownership rights whatsoever in a company. Leverage CFDs benefit from leverage, and leverage is the one characteristic of CFDs that intrigues individual investors the most. Levers employ a small amount of power to achieve a big effect. The physical world is full of levers. Our bones are levers through which we apply force, using muscles, to do everything from tap on a keyboard to land a knockout punch. And CFDs are the stock market's levers. They can sometimes allow traders to use smaller amounts of money to achieve disproportionate gains. You can lever your CFD accounts, or increase their investing power, by using some of your own money to enter a trade and then borrowing the balance from your dealer. So you might buy or sell a CFD on some popular shares and indices using as little as 10 percent of your own money and borrowing the remaining 90 percent of the price from your dealer. The leverage employed when trading CFDs is decided by the margin you post for each trade.

7 CFDs - Margin 6 Margin The CFD market offers exciting possibilities for those traders whose dealers are willing to lend money to enable them to increase the profit-generating potential of all trades. Before your dealer loans money, you will need to show that you have sufficient funds to cover any and all losses you may incur. This money, set aside by your dealer for safe-keeping, is called margin. For example, if you bought an Exxon Mobil CFD, you would perhaps be required to set aside 10 percent of the share price as margin. With a share price is $90 you must set aside $9 to prove to your dealer that you can cover losses of at least $9 (a 10 percent loss) should your trade move against you. But the aforementioned 10 percent margin is an example. Different CFDs have different margins. CFDs corresponding to shares and indices that are actively traded need smaller margins because their high levels of liquidity make it easier to enter and exit trades quickly. Dealers therefore can be confident that they can rapidly close out your positions without incurring unexpected losses if the going gets tough. CFDs covering stocks and indices that are not actively traded need bigger margins since their low levels of liquidity make it harder to enter and exit trades quickly. Many novice CFD traders often mistakenly believe that the money they set aside as margin is a deposit on stock shares or indices. It is not. They borrow 100 percent of the price from the dealer. The margin only assures the dealer that there is money to cover any losses as they occur.

8 CFDs - Financing 7 CFD Financing credit/debit rates As it is a margined product, you finance the traded value of the CFD with an overnight credit/debit charge. In return for that charge, your dealer is flexible in its lending. When you hold a CFD overnight (e.g. you have an open CFD position at close of market i.e New York time) your CFD position will be subject to the following credit or debit: When you hold a long CFD position overnight, you pay interest, meaning that you are debited an amount calculated using the relevant Inter-Bank Offer Rate for the currency in which the underlying share is traded (e.g. LIBOR) plus a mark-up (times Actual Days/360 or Actual Days/365). When you hold a short CFD position overnight, you receive interest, meaning that you are credited an amount calculated using the relevant Inter-Bank Bid Rate for the currency in which the underlying share is traded (e.g. LIBID) minus a mark-down (times Actual Days/360 or Actual Days/365). If you open and close a CFD position within one trading day, you are not subject to these credits and/or debits.