CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 75.00% of retail investor accounts lose money when trading CFDs with this provider. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.
George Soros became known as the man who broke the Bank of England with his impeccable timing of short selling. The renowned forex trader’s short sale of the British pound led to the currency’s massive devaluation in 1992. So much so that today we know the devaluation day as Black Wednesday. Many shorters have made the highest profits off downtrends. The key is to use the asset you understand well and time your short trades precisely. CFDs are one of the most popular shorting instruments. However, remember that no trading strategy, including short selling, can guarantee wins.
Contracts for difference (CFDs) are derivative instruments. Their value depends on an underlying asset or basket of assets. However, you do not take ownership of the underlying asset with CFDs. You speculate on the direction of price movement and gain from the accuracy of your analysis. This way, CFD trading enables you to optimise gains from both bullish and bearish markets. CFDs can be used to trade almost all assets, including forex, indices, commodities, cryptos, etc. You do not buy or sell the asset but enter a contract that represents the expected price movement. Therefore, you exchange only the change in the price at the time of closing the position, compared to when you opened it.
The best part about CFDs is that they are traded on margin. It is a great technique for traders with low capital to gain large market exposure. You borrow money from your broker in the ratio of your capital outlay. For instance, a 1:25 leverage means for every $100, your buying capacity rising to $2,500. The leverage offered differs across brokers and the underlying asset.
Note that amplified purchase capacity translates into higher potential for both gains and losses. Therefore, robust risk management is critical when trading CFDs.
Short-selling CFDs means purchasing contracts that define a speculated drop in price. Although shorting might seem counterintuitive, it is a powerful technique to increase market participation and the chances of potential gains. You can express the negative sentiment around an asset and capture profits without waiting for the market to turn optimistic. This is great for the markets too, since it improves liquidity and facilitates price discovery.
While traders can take long positions directly (by purchasing the asset) or via derivatives, short selling is mostly done with derivative accounts. CFDs allow you to buy contracts, mentioning the speculated rise or decline in price. Short selling via CFDs is a more streamlined method than traditional shorting, where you follow the long process of borrowing, selling, repurchasing and returning.
To short CFDs, you open a sell trade. When the price reaches the target (your expected decline value), you close the position. An accurate prediction means that the price declines by the expected amount and the difference becomes your gain. You need a comprehensive strategy with fundamental, technical and sentiment analysis to adequately predict the future price direction.
Here’s a step-by-step explanation and example of shorting while trading CFDs:
To open a position, first choose an asset and identify its future price direction. For example, you choose commodity X, which is currently overvalued at $45 per ounce. Your technical analysis suggests an impending pullback to $40. You enter a contract with the broker for a lot size of 1,000 ounces, which represents $45,000 worth of trade.
Assume that your broker offers a leverage of 1:10 for the asset under consideration. Therefore, you need $4,500 as margin in your account to open this position
After a week, the price of X declines to $40 per ounce, proving your prediction right. Your contract value is now at $40,000.
Close your position so that you make a profit equivalent to the change in price, i.e., $5,000.
A prominent risk with short selling is that you can lose more than the amount you invest. To minimise this risk, you need strong risk management measures.
For instance, if the price of X moves from $45 to $50 per ounce, you could lose $5,000, which is $500 more than your total capital outlay. To minimise such losses, you can place a stop loss or even open a long position.
Consider the above example where price of X rises to $50 per ounce, which takes your total loss to $5,000.
If you place a stop loss at $48, your position closes automatically at this price point and your loss comes down to $3,000.
Another technique is to open a position in the opposite direction to hedge against your trade.
Now, if you also open a long position with 4 mini lots of 100 ounces, you could gain $400, which offsets your loss. The total loss comes down to $2,600.
A prominent way to gain expertise on short-selling CFDs is to practise on a demo account. Learn about the markets of your interest and develop a short-selling strategy. Gradually, refine it for diverse market conditions by tracking your performance and learning from successes and failures. Build a steadfast trading psyche to prevent emotions from interfering with rational trading decisions. Keeping a journal can help you gain insights into your strengths and continue to develop techniques that help you strengthen your trading strategy.
Disclaimer
All data, information and materials are published and provided “as is” solely for informational purposes only, and is not intended nor should be considered, in any way, as investment advice, recommendations, and/or suggestions for performing any actions with financial instruments. The information and opinions presented do not take into account any particular individual’s investment objectives, financial situation or needs, and hence does not constitute as an advice or a recommendation with respect to any investment product. All investors should seek advice from certified financial advisors based on their unique situation before making any investment decisions in accordance to their personal risk appetite. Blackwell Global endeavours to ensure that the information provided is complete and correct, but make no representation as to the actuality, accuracy or completeness of the information. Information, data and opinions may change without notice and Blackwell Global is not obliged to update on the changes. The opinions and views expressed are solely those of the authors and analysts and do not necessarily represent that of Blackwell Global or its management, shareholders, and affiliates. Any projections or views of the market provided may not prove to be accurate. Past performance is not necessarily an indicative of future performance. Blackwell Global assumes no liability for any loss arising directly or indirectly from use of or reliance on such information here in contained. Reproduction of this information, in whole or in part, is not permitted.
