CFD Day Trading
CFD day trading is an accessible, jargon free way to speculate on the financial markets. This popularity is largely due to the range and scale of CFDs on the market, allowing traders to open and close many positions throughout the day. This article will explain what CFD day trading is, how it works and how to get started. We also run through CFD day trading strategies and top brokers.
What Is CFD Day Trading?
A contract for difference (CFD) is an agreement between a broker and a trader whereby each party agrees to pay each other the difference between the value of an asset when the position is opened and when the contract is closed.
Most CFD contracts do not have an expiry time/date, they can be held and closed whenever the trader wants.
However, financing fees are often incurred when the contract is held for long periods, e.g. overnight.
With day trading, positions are rarely held for more than a day. So CFD day trading entails a trader opening and closing multiple CFD contracts within one day. Focus is generally placed on the most liquid and volatile assets and markets.
Considering CFD vs stock day trading, the key difference is that the investor purchases and owns the underlying asset with the latter. With CFD day trading, the investor merely speculates and predicts the price movement of the stock, without owning the asset.
How CFD Day Trading Works
Traders use CFDs when day trading to make trades based on the value of an asset falling or rising. The investor can choose to open a buying (long) or a selling (short) CFD depending on which direction they think the price of the asset will move.
If the trader believes the asset will rise in value, they will open a long position. If the value has risen, they will close the contract and be paid the difference between the start and end price of the asset as profit or loss. Equally, with a short position, the contract pays the difference as loss or profit based on whether the price has fallen or not.
Let us consider an example. A day trader thinks the value of the FTSE 100 index will fall from its current sell/buy price of 7,210.39/7,211.39, so they purchase 250 short CFD contracts. This requires a stake of £18,025.98 (250 * 7,210.39p). After 2 hours, the sell/buy price has dropped to 7,159.39/7,160.39, the trader spots this and closes the contract.
The price has moved by £0.50 and profit is calculated by multiplying this by the position size (250), which equals £125. The brokerage charges £7 to open a position and £7 to close it, so the gross profit is £111 from a position worth £18,000.
Spot Day Trading Vs CFD Day Trading
So what is the difference? Should you be day trading CFDs or should you invest in the assets?
Day trading without a CFD is also common. In this case, called spot day trading, an investor would outright purchase an asset if they believed it would rise in value. Unlike with CFDs, the trader owns the underlying asset.
When CFD day trading, the investor speculates on the price movement and has a contract that states they will either be paid or pay the difference between the value of the asset at the start and end of the contract. The investor never owns the underlying asset.
CFD day trading has several advantages over spot trading, beyond the simplicity that comes with no ownership transferral.
CFDs let you easily short assets, so you can make money from both bullish and bearish markets. Additionally, CFDs often have higher leverage rates available, so investors can better take advantage of margin trading (taking out positions using only a fraction of the stake, borrowing the rest from the broker).
There are many successful CFD day trading strategies that you can employ, we have outlined a few popular ones below.
Momentum & News Trading
With this strategy, you either purchase CFDs before or just after a news release. The aim of investing in the CFD beforehand is to understand and anticipate the reaction to the announcement and therefore correctly predict the resulting price movement.
This can be risky, as it is very hard to predict the reaction to some releases.
Trading just after an announcement allows you to go with the flow. You might not see such a volatile trade, but you know the initial reaction and can follow its momentum.
Pattern CFD day trading entails opening positions for the same financial market or asset, like forex or stocks, on the same day and from the same account. Pattern day traders will focus on a particularly volatile asset, opening plenty of avenues for trading. This strategy requires high concentration levels as the trader must constantly monitor the assets’ charts so that they are ready to close a contract at any moment.
Scalping is a popular strategy for CFD day trading that is particularly prevalent in the forex market. Scalpers look to close a contract as soon as the trade becomes profitable, usually within minutes. The idea is to conduct many low-risk, low-reward trades and accumulate profit. A quick succession of losses are also possible of course.
Scalping is a fast-paced and exciting way to trade but it can be risky, as one loss can wipe out a significant portion of your successful trades.
Also, check that your broker allows scalping prior to trading.
Best CFDs For Day Trading
The best instruments for CFD day trading are often those in markets with high price volatility. This means that prices are more likely to move (either for or against you), allowing you to close the position within the day and finalise the trade.
The key to day trading is getting in and out of a trade in a short period. More liquid markets usually have tighter bid-offer spreads, helping you close positions more quickly and cheaply. As a result, forex, indices and large-cap stocks are generally favoured by CFD day traders.
Pros Of CFD Day Trading
- No ownership
- No stamp duty
- High leverage rates
- Low/no commission
- Access to multiple financial markets
- Trade both short and long positions
Cons Of CFD Day Trading
- Traders pay the spread
- Lack of ownership/voting rights
- High leverage can increase losses
How To Start CFD Day Trading
Our CFD day trading tutorial can help you start your journey today:
Choose A Broker
Selecting the right brokerage is an important consideration. While low spreads and commission are useful things to look out for, other factors are also important. Compare the different assets a brokerage offers and ensure those that you wish to trade are offered. Moreover, check they have a suitable leverage level that you feel comfortable with, have a look at their trading platforms and look out for customer reviews.
We have compiled a much more detailed guide to choosing a day trading broker here.
Choose A Market
Once you have a brokerage account, you need to select a market and asset to trade. Each asset has different pros and cons. With UK stock CFDs, for example, you will usually be charged a commission (£7-9 per trade), while other assets may be charged via spreads.
An asset’s volatility is another factor to look out for, more volatile assets values will fluctuate more drastically, creating smaller windows to close trades, which is key for CFD day trading.
Decide Whether To Buy Or Sell
If you believe you have found the right asset, you need to decide whether to go short (if you think the price will fall) or go long (if you think the price will rise). Take time to research past trends and charts at this stage to get a feel for the general price movements for an asset.
Open A Position And Implement Risk Strategies
When you are ready, begin CFD day trading with position sizes that you feel comfortable with. Make sure to implement risk management strategies, especially when trading with high leverage. These could be stop-loss orders to limit potential losses, or take-profit orders to cash out when the price hits a certain value.
Monitor Position And Close
Hold the CFDs and monitor the price movement of your asset. Remember, with CFD day trading you want to be closing multiple trades in a day, and you don’t want to hold the contract open overnight. Once the price has reached a suitable value, close your position and close the contract.
CFD Day Trading Tips
Below are some of our top tips to help you get started CFD day trading:
- Knowledge Is Power: Knowledge of the trading world and what’s happening at any point is vital for anyone shooting for success on the financial markets. News announcements and press releases have a huge impact on the value of assets so make sure you stay up-to-date and follow financial news sites such as Bloomberg, Google Finance and Yahoo Finance, especially when it comes to assets with which you have opened positions.
- Risk Management: CFD day trading is a risky business. Make sure you are only staking capital that you are willing to lose. Also, implement risk management strategies like stop losses, take profits and hedging (check your broker permits hedging first). These will ensure your losses don’t start to get out of hand.
- Demo Accounts: If your chosen brokerage offers it, a demo account is a great way to practise your trading skills without having to stake real money. Use the account to perfect your strategies and get a general feel for the platform you are using.
- Keep On Learning: Learning is key to any trader, and it is no different for CFD day trading. Try and learn something new every day. There are tons of resources out there, such as forums, YouTube videos, blogs and PDFs to teach you more about strategies, risk, indicators and charting.
Final Word On CFD Day Trading
CFD day trading is an exciting and fast-paced method for trading. With a quick learning curve and a simple user interface, CFD day trading is suited to both beginners and experienced traders. If you want to begin speculating using contracts for difference, follow our step-by-step tutorial above or check out these CFD brokers.
Is CFD Day Trading Tax-Free In The UK?
CFD day trading is not completely tax-free in the UK. It is exempt from stamp duty but is eligible for capital gains tax (CGT), unlike spread betting. Consult a tax specialist for guidance.
Is CFD Day Trading Legal In The UK?
Yes, CFD day trading is legal in the UK. There is some regulation in place but always try to use popular and trusted brokers.
Is CFD Day Trading Regulated In The UK?
Yes, CFD day trading is regulated in the UK. The FCA oversees the regulation and management of firms offering CFD contracts. Choosing a regulated broker in the UK also affords you legal protection, insurance and security standards.