The 10 Golden Rules of CFD Trading

Contracts for Difference or as they are commonly known—CFDs—have brought a new dynamic in trading especially for those who speculate on the financial markets. CFDs provide flexibility, leverage, and the capability to earn big money, not without risks, however. They are perfectly suitable for those traders who have the necessary experience, understand what is at stake and can always remain rational.

But trading on the CFD market is not just a question of knowing and understanding financial instruments. It is also important to have a particular approach to managing risk and cultivating a measure approach, where emotion is not the main driver of trading. It is crucial to fully understand the possibilities of CFDs, but also the risks involved. Here, we have tried to provide a few rules and tips of how to navigate trading CFDs.

Building an understanding of the market

CFDs, unlike conventional share investing, offer an opportunity to speculate on price movements without having to own the security. They provide flexibility as they allow traders to speculate on both rising and falling prices.

However, the use of leverage can easily lead to profits or losses. Understanding how leverage works and the consequences of trading with borrowed money, will help you stay focused and find ways to mitigate risk.

One solution is to develop a trading plan, where you can identify your objectives, level of risk and trading strategies. It should have clear entry and exit points, identify guidelines for size and risk of position, stop losses, and describe the general approach about how positions will be managed as market conditions evolve. By remaining focused and following your trading plan, you will be able to minimise the number of trades that are based on emotion and increase consistency.

Managing risk

It is always very important to avoid a reckless exposure to risk at all times. It is very crucial that you remain calm, even when your gut is telling you to put all your money on a specific trade, so you don’t lose more than you can afford to lose.

Placing stop-loss orders is also a good approach to risk. Additionally, not putting all your eggs in one basket, and trading different types of assets will help you diversify your portfolio and minimise risk.

As opposed to trading just one market and being exposed to it, diversification will help you reduce risk by dividing it among many different assets all of which have different return profiles. This will ensure that any short term moves will be mitigated by the positive movements by other assets, thus creating stability by diversification.

Utilise stop-loss orders effectively

The stop orders are useful for managing trading losses in rather volatile markets. These automated orders allow for a position that was left opened to be automatically closed at a prior specified price range if the market moves against you and at the expense of your specific position.

Stop loss levels that are set to technical analysis indicators such as the simple or the exponential moving averages or trendlines, help prevent further losses on an open position due to other unfavourable price movements. Stop orders guarantee that the set parameters are followed as per standard procedure.

Since dynamics in the market are bound to change, it also means that risk management has to change and adapt from time to time. Through regular follow-up of stop orders based on new changes in the support and resistance levels, momentum indicators, or any other analytical indicators, a trader can close a trade earlier to minimize risk, as it may not perform as well as expected.

Keeping up with Fundamental and Technical analysis

Wise and competent traders are the ones who acknowledge that certain market factors influence prices and use both technical and fundamental analysis to speculate on the direction of prices.

Fundamental analysis basically consists of analysing the macroeconomic data of a country, a company’s documents, tendencies in a certain industry, or geopolitical events and monetary policy decisions that may affect a specific currency, share or commodity.

Technical analysis refers to the analysis of price charts, trends and indicators for determining the right timing to place trades. There are other resources traders also employ including real-time news, an economic calendar, and real-time market news via advanced trading platforms. This way, staying ahead of market changes will help you maintain discipline and remain organised and well-informed.

Discipline and patience

Patience and discipline are believed to be among the most important values for a trader when it comes to trading CFDs. Traders should avoid acting on sudden emotion, be it fear or greed and should stick to their plan and strategies.

Patience will allow a trader to wait for high probability setups rather than act instantly and without plan. Self-control is about keeping to a specified, predetermined and fixed trading plan and avoiding reactions to changes that happen in the short-term. This, in turn, helps one to maintain his/her composure and thus perform at optimal level at all times.

Leverage management

Leverage is effective in increasing returns in CFD trading since it can boost profits. But, it is also risky since it can increase losses. Traders should be very careful as far as leverage is concerned and understand how it will impact their capital.

Traders should always keep a reasonable level of risk exposure, therefore refraining from over leveraging as huge losses could exceed their initial deposits. Some choose to use a smaller amount of leverage, adjusting their position sizes in a way which would allow them to control the downside risk properly.

Selecting a reputable broker

Traders should always research and compare various brokers so they can find a trusted broker that could provide what they require. Not all traders are the same, and some may focus on the broker’s platform offering, others on education and others on costs and expenses. Whichever broker you choose, you should make sure they offer a trading environment that is safe an secure for you to trade seamlessly.

Continuous learning

Since the markets are dynamic and constantly changing, the best traders are always the ones who are ready to learn as well as improve. Attending webinars and seminars, reading articles from reputable magazines and ensuring that you are always updated with market changes is important. Flexibility means changing strategies, adapting, and gaining knowledge from both successes and failures.

Maintaining emotional control

Self-control, particularly self-responsibility, is one of the most critical skills needed by traders. On the other hand, fear, greed and excitement are the worst attributes and they precede any unnecessary decision at the worst time.

High performance traders tend to adhere to their plan and ensure they remain rational and always in control of their trades. This fosters decision-making which is based on fact, research and analysis instead of being an emotional reaction to market changes.

Cultivating the right balance

Trading CFDs requires knowledge, self-control, flexibility, and overall, you need to develop trading psychology. In other words, following the golden rules that we have discussed here, will help you navigate the complexities of trading with a rational mind.

Mistakes cannot always be avoided. But knowing how to respond to them with a calm mind, while remaining focused on learning more and adapting will help you stay in the game for the long run.

Education with IronFX

IronFX has a tailored and free library of educational resources to help all traders of all levels. The IronFX Academy contains a wide range of educational materials including, but not limited to webinars, podcasts and articles on fundamental analysis, technical analysis, strategies and many more. If you are a beginner and would like to build a solid foundation, registering for one of our trading courses will allow you to learn at your own pace and build your knowledge step by step.

Disclaimer:
This information is not considered investment advice or an investment recommendation, but instead a marketing communication. IronFX is not responsible for any data or information provided by third parties referenced or hyperlinked in this communication.