Trading CFDs is a way to buy or sell units in shares, commodities, indices, currency pairs and more. They allow traders to take a variety of positions, gain exposure to a range of markets and trade on price movements without taking ownership of the underlying asset. Because of this, you may want to learn how to trade CFDs for yourself.  

CFDs can undergo rapid changes, which require careful monitoring and a good foundational knowledge in order to make the right strategic trades. 

In this article, we’ll explain how to trade CFDs, what skills you need to develop to make successful trades and how to manage risk with the right management tools, insights and market analysis. 

How to trade CFDs

Learning how to trade a contract for difference can be more complex than other financial instruments because it is a speculative product that uses leverage.  

Leveraged trades require you to have a good understanding of how CFDs work, what strategy you want to implement and a powerful trading platform to help you navigate the live trading environment. 

In our six-step guide to trading CFDs, we’ll cover all these bases, from creating your account to choosing a position to open.

1. Understand what CFD trading is

CFD trading refers to the buying and selling contracts for difference; these units are financial instruments that give you exposure to various markets without the need to take ownership of the underlying asset or index. Instead, traders speculate on the movement of that asset, predicting whether the spot price will rise or fall within a given time frame. 

If you don’t want to trade a leveraged financial instrument, another option is share dealing, which, unlike CFD trading, requires traders to put down the full value of the asset in order to make a trade.   

Trading a CFD, by comparison, only requires a margin of the full value to be put down in order to make a trade. This means that if you correctly predict the market’s movement, your profits will be magnified in comparison to the capital you put in as a deposit. However, if the market moves against your prediction, your losses will also be amplified and can exceed your initial outlay amount. 

You can learn more about how CFD trading works, including examples of CFD trading, in our in-depth guide. 

2. Create and fund a CFD trading account

It doesn’t take long to set up a CFD trading account and begin to speculate in live markets. However, before you start speculating, you may want to practise with a demo account first. At VT Markets, we offer clients a 90-day, obligation-free trial period so you can learn to apply trading strategies in a risk-free trading environment. 

Then, once you’re ready to open a live account, you just need to fill in a few details and then start funding your account. At this time, you’ll also want to download a platform to your PC or mobile device so you can monitor your trade positions. VT Markets uses the power of MetaTrader 4 and next-generation MetaTrader 5, which gives our clients a convenient and flexible way to make trades on a schedule that suits them.

3. Choose your market and timeframe

There are a number of different markets you can choose to trade CFDs in. 

Just some of these include: 

• Forex — Forex, or foreign exchanges, are the markets by which you can trade all the major, minor and exotic currency pairs via CFDs. You can also learn more about Forex markets and trading with our detailed guide.
  
• Indices — Indices are baskets of shares from major companies on various stock exchanges around the world. With CFDs, you can choose to speculate on the movement of an index like the S&P 500, the ASX 200, the Dow Jones or the Nasdaq.
  
• Energies — Amongst the markets that make up hard commodities, energies are some of the most valuable and potentially volatile, offering extra opportunities for experienced traders. Energies CFDs include crude oil, natural gas, solar and wind power. 
  
• Precious metals — You may also choose to trade CFDs in other hard commodity markets, those of precious metals. This includes gold, silver and copper.
  
• Soft commodities —  Soft commodities are defined as raw natural materials which must be cultivated by human effort to produce a yield. They include many highly liquid markets like soy, lumber, wheat, livestock, coffee, cocoa, hogs, sugar and rice.
   
• Other markets — CFD trading is also possible in a number of other markets, for example, bonds, exchange-traded funds (ETF) and options. 

As well as these markets, CFD trading can take the form of trading on spot prices, which is a popular option for short-term trading, and on futures, which suit medium and longer-term positions.  

4. Decide whether to go long or short

In trading, a long position refers to buying with the expectation that prices will rise and going short to selling when you expect the market price to fall. CFDs offer traders the opportunity to go both long or short on a trade, depending on what your market prediction is. 

The amount you put down to open a position on a CFD trade is called a margin, and it is a percentage of the total asset value. So, for example, if you want to gain exposure to £1,000 worth of a company’s CFD units — and the margin rate was 20% — you will pay a margin of £200. Remember, although your outlay is £200, your profit or loss will be calculated on the full value of your position — in this example, £1,000. 

Then, you’ll wait to see how the market moves. The spread — the difference between the buying and selling price of your trade, will define the magnitude of your profit or loss. 

Brokers will also charge a commission each time to take a position; that is, open or close a trade on the market. When assessing your performance in a trade, you’ll need to take these commission fees into account, as well as the performance of the asset’s full value.   

Beyond taking a short, medium or long-term position, there are various more detailed CFD trading strategies you can pursue, especially as you become a more experienced trader. VT Markets offers in-depth guides for these strategies, so you can refine a more sophisticated approach to trading CFDs in live markets.   

5. Set your stops and limits

An essential part of a good CFD trading strategy is making use of the appropriate risk management strategies in order to make sure you don’t lose more money than you can afford if a trade doesn’t go your way. 

One of these tools is a stop-loss order. This is an automatic order you as a trader set up, which ensures your position will automatically close if it drops below a certain threshold you’ve set up. 

A limit order can be used for situations where the market has moved to a more favourable position for you. It automatically closes your position at this more favourable level so you can cash out on your advantageous position.  

6. Monitor your CFD trade and close your position

With your strategy in place, it’s time to monitor your open position in real-time and close it at a point when you’re happy with the performance or when you want to mitigate any further losses. 

VT Markets offers a range of trading tools, real-time updates, market signals, investor insights and daily market analysis in order to help you decide when the best time to close out your position will be. Our lightning-fast trading platforms quickly execute orders, so you can make your move exactly when you mean to. 

VT Markets — your online trading broker partners

AT VT Markets, we aim to give our clients the most transparent, fast and reliable live trading environment to make trading on whatever market you choose easy. We offer access to over a thousand instruments across all asset classes, from CFDs to commodities trading and more. Our superior trading platforms, expert analysis and insightful tools give you the resources you need to develop your knowledge and skill as a trader.  

Looking for more advice or need a hand setting up your live trading account? Our customer service can help. Contact us today and take advantage of our client services.   

FAQs

How does a contract for different CFDs work?

If you’ve been wondering how to trade a contract for difference, the complexity of this financial derivative product may have confused you. In order to understand and use CFDs to diversify your portfolio, there are a few essentials about how they work you’ll need to know. 

• CFDs allow traders to speculate on whether the price of an underlying asset or index will rise or fall. You can profit from price movements in both directions if you correctly predict what the market will do. 
• CFDs are traded using leverage, which means sales are made by putting down a marginal deposit rather than the full value of the asset. This makes them more affordable than other trades. 
• Profits and losses from CFDs are always calculated based on the entire value of the trade, not from the marginal deposit.
• You can trade many asset classes with CFDs, and you can trade out of hours too. 

How do I start trading CFDs?

To start trading CFDs, you’ll need to create a live trading account, deposit your initial funds and use a powerful trading platform in order to monitor the price movements of your underlying asset. 

CFDs mimic the movement of their assets and rise and fall with them. You can choose from thousands of live markets and different asset classes. Once you’ve chosen which market is right for you, you can decide on a CFD trading strategy, like swing trading or day trading. 

After you have your chosen market and trading strategy, you can open your first position, monitor your trade and choose to close your position when it’s most beneficial to you.

Is it better to invest or trade CFDs?

Both investing and trading CFDs can offer unique opportunities for experienced traders to make a profit. At VT Markets, we offer traders a wide range of options so they can build up a diverse and risk-averse portfolio that suits them.

Sydney, Australia, 29 May 2023 – VT Markets, a leading online broker, today announced a record number of new trading accounts secured within the LATAM region. Following its formal entry into Latin America last year, the company has seen a rapid growth in regional clients, reflecting both the LATAM market’s burgeoning potential and the success of ongoing outreach efforts.

Of these efforts, a notable highlight has been VT Market’s recent participation at Money Expo Mexico 2023. Held from 24–25 May 2023, the much-anticipated event saw VT Markets gain thousands of new account sign-ups, consolidating its growing influence both in and around the country.

Responding to the promising trajectory evident thus far, a VT Markets representative stated: “We are delighted to be making such clear inroads into one of our key strategic markets. With the numerous developments taking place in the region, Latin America is uniquely poised for explosive growth, and we want to be at the forefront of the new financial landscape when it emerges.”

Moving forward, VT Markets looks set to continue its expansion throughout LATAM and beyond. With offices already established across Europe, Asia, and the Middle East, the company’s initiatives in the upcoming quarter are expected to amplify its international presence, further reinforcing its status as a truly global broker.

About the Company:

VT Markets is a regulated multi-asset broker with a presence in over 160 countries. Since its inception in 2015, the company has set out to make trading a simple and more accessible experience for everyone. As of today, VT Markets has emerged as one of the world’s top brokers, recently adding a haul of seven awards to its growing list of accolades.

For more information, please visit the official VT Markets website. Alternatively, follow VT Markets on Meta, Instagram, or LinkedIn.

On Monday, the U.K. markets were closed for a bank holiday, while U.S. markets were closed for Memorial Day. European stocks had a turbulent week, with the Stoxx 600 index hitting an eight-week low but recovering some losses on Friday due to a rally in tech stocks, driven by Nvidia’s impressive results.

In the U.S., political leaders are working to secure bipartisan support for the debt ceiling bill in Congress before the June 5 deadline to prevent a federal default. The U.S. House of Representatives could vote on the bill as early as Wednesday, followed by the Senate later in the week. Market concerns are expected to ease if the debt ceiling deal is approved, allowing investors to shift their focus to the economic outlook and interest rates.

The Federal Reserve, European Central Bank, and Bank of England were anticipated to pause rate hikes and assess when to change direction, but recent data has complicated the situation for all three institutions. In Asia-Pacific markets, there was a mixed performance, with Japan’s Nikkei 225 reaching its highest levels since July 1990.

Over the weekend, President Joe Biden and House Majority Leader Kevin McCarthy reached an agreement to raise the debt ceiling and avoid a default. The legislation will be voted on by Congress as early as Wednesday. Both Republican and Democratic support is crucial for the bill to pass. The agreement came just before the “X date” on June 5, which was the earliest potential default date signalled by the Treasury Department. The prolonged negotiations between the White House and congressional leaders had concerned investors, who were already dealing with inflation and a banking crisis.

Investors will also focus on May jobs data to be released on Friday, as well as the April Job Openings and Labor Turnover Survey from the Bureau of Labor Statistics on Wednesday. Additionally, corporate earnings from HP Inc. and Salesforce are expected on Tuesday and Wednesday, respectively.

Major Pair Movement

On Monday, the US markets remained closed in observance of Memorial Day, resulting in a subdued atmosphere in the currency market. With limited trading activity, volatility was relatively low. The Dollar Index managed to register a slight rise of 0.05%, indicating a modest strengthening of the US dollar compared to a basket of other major currencies.

Among the currency pairs, the EURUSD experienced a slight decrease of 0.08%, reflecting a slight weakening of the euro against the US dollar. Surprisingly, the GBPUSD pair showed a rise of 0.13%, despite the closure of the UK market. This suggests that market participants may have responded to other factors, such as economic news or geopolitical developments. Meanwhile, the USDJPY pair saw a minor decline of 0.10%, signaling a marginal decrease in the value of the US dollar compared to the Japanese yen. Conversely, the AUDUSD pair demonstrated an upward movement, rising by 0.26%, indicating a relative strengthening of the Australian dollar against its US counterpart.

In terms of commodities, gold remained relatively stable, exhibiting a marginal increase of 0.05%. The price of gold often serves as a safe-haven asset during uncertain times, and its modest rise may reflect investors seeking stability amid the subdued market conditions. On the other hand, USOUSD (WTI), which represents the price of West Texas Intermediate crude oil, experienced a decline of 0.16%. This dip could be attributed to various factors, including global supply and demand dynamics, geopolitical tensions, or market sentiment regarding the energy sector. Overall, with the closure of US markets and limited trading activity, the currency and commodity markets displayed muted movements on Memorial Day.

Picks of the Day Analysis

EUR/USD (4 Hours)

EUR/USD weakens against US Dollar amidst data anticipation and market focus on Debt limit suspension.

The EUR/USD pair maintained its position above the previous week’s lows but experienced another daily loss, closing at its lowest level since March 17. Despite staying above 1.0700 and avoiding new monthly lows, the euro weakened against the US dollar during the European session and declined against the pound. The currency lagged other major currencies on Monday, failing to break its negative trend against the greenback. The focus shifted to Spain’s upcoming release of the preliminary Consumer Price Index (CPI) report for May, which holds significance for European Central Bank (ECB) officials and market expectations. Meanwhile, the US dollar posted mixed results, with a slight gain of less than 0.1% against a basket of currencies, reaching its highest close in two months above 104.20.

As market expectations shift from a pause to a potential 25-basis-point increase at the next Federal Open Market Committee (FOMC) meeting, any decline in the US dollar is expected to be limited. With US markets closed for Memorial Day, Monday saw subdued trading activity, as market participants analyzed the weekend’s agreement in Washington to suspend the debt limit, while awaiting Congressional approval.

Attention also turned to Friday’s US consumer inflation data and the upcoming release of key economic reports throughout the week, including housing data and consumer confidence on Tuesday, as well as the ADP employment report on Thursday and Nonfarm Payrolls on Friday.

Chart EURUSD by TradingView

According to technical analysis, the EUR/USD pair is experiencing a slow movement on Monday due to holidays in the UK and US markets. This has resulted in a narrower range between the upper and lower bands of the Bollinger Bands.

It is anticipated that the EUR/USD will make a modest upward move today, aiming to reach the middle and upper bands of the Bollinger Bands. The Relative Strength Index (RSI) is currently at 40, suggesting that the bearish sentiment for the EUR/USD may be easing for today.

Resistance: 1.0788, 1.0848

Support: 1.0715, 1.0655

XAU/USD (4 Hours)

Gold (XAU/USD) holds steady amid optimism over US Debt Ceiling agreement.

Gold prices (XAU/USD) remained steady at $1,943 per troy ounce on Monday, unaffected by holidays in Europe and the United States. Investor optimism prevailed at the start of the week following an agreement on the debt ceiling reached between US President Joe Biden and House Speaker Kevin McCarthy. However, the deal still requires approval from Congress, and concerns persist due to the limited time remaining before the deadline set by Treasury Secretary Janet Yellen on June 1.

Despite the holiday-induced low trading volumes, stock futures rose, reflecting the positive market sentiment and dampening the appeal of safe-haven assets like gold. With no significant events to monitor at the beginning of the week, the macroeconomic calendar lacks substantial releases, although noteworthy data is expected in the coming days.

On Tuesday, the US will publish the CB Consumer Confidence report, while Germany and the Eurozone will release preliminary estimates of their May Harmonized Index of Consumer Prices (HICP) in the following days. Furthermore, the US will unveil the ADP Survey on private job creation ahead of the Nonfarm Payrolls report scheduled for Friday. These figures hold significance for policymakers and could fuel speculation about future decisions by central banks.

Chart XAUUSD by TradingView

According to technical analysis, the XAU/USD is moving slower on Monday due to the US market holiday. There is a possibility that the XAU/USD will attempt to move higher and reach the middle and upper bands of the Bollinger Bands today. Currently, the Relative Strength Index (RSI) stands at 38, indicating that the XAU/USD is in a neutral position.

Resistance: $1,962, $1,991

Support: $1,934, $1,913

Economic Data

Dear Client,

New contracts will automatically be rolled over as follows:

Please note:

• The rollover will be automatic, and any existing open positions will remain open.

• Positions that are open on the expiration date will be adjusted via a rollover charge or credit to reflect the price difference between the expiring and new contracts.

• To avoid CFD rollovers, clients can choose to close any open CFD positions prior to the expiration date.

• Please ensure that all take-profit and stop-loss settings are adjusted before the rollover occurs.

• All internal transfers for accounts under the same name will be prohibited during the first and last 30 minutes of the trading hours on the rollover dates

If you’d like more information, please don’t hesitate to contact [email protected].

Increasingly popular amongst traders, contracts for difference are a way to speculate on a variety of asset classes without actually owning these assets.  

In this article, we’ll break down what CFDs are, how they can offer traders opportunities, the risks associated with them and the CFD trading strategies you can use to manage CFD positions. 

What is the meaning of CFDs?

CFD stands for contract for difference, and the ‘difference’ it refers to is the difference in an asset’s current price and its price at the nominated contract date. The difference can also be referred to as a ‘spread’. Whether the difference occurs through a rise or fall in prices is less important to a trader when using contracts for difference, as it is the movement itself that you are speculating on. Whether the underlying asset incurs a profit or a loss, you can still profit from holding a CFD position, either by holding onto that position for the long term or unloading it through short day trading.   

What are CFDs?

CFDs are a financial derivative product, meaning they derive their value from another underlying asset or index. They can be used to both go short (i.e. sell) or go long (i.e. buy) in a position, and they can be used to hedge an existing physical portfolio, in order to shield you from potential losses. 

They are generally considered to be a less costly and more flexible way to give traders access to a number of asset classes they wouldn’t otherwise be able to get exposure to. Traders will choose to hold long or short positions with CFDs, depending on where they think the market is headed.  

How do CFDs work?

CFDs work by establishing a contract in which both buyer and seller agree to a date in the future, with the buyer being obligated to pay the seller the difference in the current price of the asset and its price at contract time. 

Contracts for difference do not involve anyone taking possession of the underlying asset. Instead, they speculate whether the value of that asset will rise or fall, with options for traders to profit from both upward and downward movements in this price. Because of this, CFDs are an attractive trading option, allowing for profitable gains even when an asset is not performing well within the market.  

What is CFD trading?

There are numerous ways a trader can approach taking positions within live markets. You may choose to learn about the foreign exchange and trade forex, or you may opt to trade indices and trade soft commodities and hard commodities. In all these cases, you probably think of trading and dealing directly with the asset, either through spot price or futures trading. However, CFD trading offers a different way to gain exposure to certain markets. 

Rather than directly trading precious metals, for example, CFD trading lets traders speculate on the price movements in these markets, aiming to correctly predict these movements and take a long or short position accordingly. 

In general, there are three principles of CFD trading you need to understand: 

• You choose to go long or short — Going long indicates you think the price of an asset will rise, and so you choose to buy it. Inversely, going short requires you to sell CFDs, on the basis of a prediction that the price will fall.
   
• You deal with leverage and margin — CFDs are leveraged financial products. This means that they only require traders to put down a percentage margin of the asset’s true value, but that this marginal buy-in will grant you exposure to the asset’s full value. That means the full value of any loss or profit needs to be calculated according to the total asset value, not your initial deposit.
  
• CFDs move with the market — Contracts for difference are designed to move in line with the price movements of an underlying asset on open markets. This isn’t an exact mirror of the market itself, but it is a good mimic. 

Examples of CFD trades

In any CFD trade, there are two broad possible outcomes: a profitable trade or a losing trade. Let’s look at one example of these two outcomes, based on taking a long position. Remember, going long means buying in with the expectation that the asset’s price will rise. 

Imagine commodity A is expected to increase in price, according to your analysis. You decide to buy 1,000 CFDs, also known as units, at $10 apiece. You may also need to pay a separate commission charge on these units, calculated as a fractional percentage of their price. The total value of the position is $10,000, plus any commission paid. 

However, as CFDs are leveraged, the amount you will outlay in your deposit is based on the company or commodity’s margin rate. In our example, we’ll say that the rate is 20%, so rather than paying $10,000, your trade position margin that you will pay is $2,000. Whether you profit or lose from your position, the full value of the trade will be used to determine the difference. 

• Outcome 1: a profitable trade
  
  In this scenario, you correctly predicted the price of commodity A would rise, and it is now selling at $11 a unit. You decide to sell your units at this price, and each unit you sell is now $1 higher in your favour. You may also be charged an exit commission at this point, so your profit will be $1,000, minus the entry and exit commission fees from the trade.
  
• Outcome 2: a losing trade
  
  You made a bet, and it didn’t go off — commodity A’s stock dropped to $9.30. Wanting to minimise your losses, you sell off your CFDs at this price. In this scenario, the unit price has moved 70 cents against you, so although your initial buy-in was $2,000, your loss in real terms is $700. Again, entry and exit commission fees need to be added to this to determine the full amount. 

Deciding if CFD trading is right for you

In order to decide whether you want to start trading CFDs, you need to understand the reasons why people choose to do so. Some of these include: 

• More flexibility — Unlike some financial products, contracts for difference allow you to both buy and sell, so you still trade no matter which direction the market is headed in.
   
• Less initial outlay — The capital required to buy into a CFD is less than other financial instruments, giving you a cost-efficient way to trade a wide variety of different asset classes.
  
• Longer hours — In some markets, CFD trading continues for longer than the trading times of asset markets. For some traders, this gives them a tactical advantage, although it can also affect prices during out-of-hours trading.
  
• Less potential loss — While CFDs can magnify both profit and loss because of leveraging, they are also useful for hedging your existing portfolio against loss. For example, a trader might open a position based on the expected loss on an underlying asset they are also invested in, in order to mitigate any loss that might occur from a fall in the market price.  

You’ve probably noticed that all of these reasons involve putting much of the decision-making squarely in the hands of the investor. CFDs offer a lot of freedom to traders, but with increased options come increased risk and complexity with any decision. In deciding whether CFD trading is right for you, you need to consider how this complexity will affect your ability to make strategic trades and whether you feel experienced enough to jump into this financial instrument.  

VT Markets — your broker partner for CFD trading and more

AT VT Markets, we aim to provide a transparent trading environment and a plethora of trading tools and insights to help you manage your trading portfolio, no matter what your exposure or strategy. 

Whether you want to develop your skills and knowledge as a trader by using contracts for difference, learn more about trading energies or hone your ability to read market trends, our team can help you get started with a powerful platform and the tools you require. Contact us today to learn more. 

FAQs

Is trading CFDs safe?

Trading using any kind of financial product or instrument involves a degree of risk and requires research and knowledge in order to read the market and make the right strategic moves. No trade is completely ‘safe’, and there is always a chance that you may lose money rather than make a profit. 

Unlike share dealing, trading CFDs involves trading financial derivative products that require leverage. This means traders require less capital to gain full exposure to the product than they might with other assets. Leverage can amplify the amount of profit you make, but it can also magnify the loss. For this reason, it’s important to establish appropriate risk management tools to control potential losses.

If you want to practise opening and closing positions, watching for market trends and coming to grips with the complex financial instrument that is contracts for difference, a great way to do this is with a VT Markets demo account. This account will give you access to all the trading tools and insights you need to start practising trades in a no-risk and obligation-free 90-day trial. You can also become familiar with VT Markets’ powerful trading platforms and live trading environment before you start trading with your own money.  

Are CFDs traded in all international markets? 

Currently, CFD trading is not permitted within the US market, because they are a type of over-the-counter product (or OTC) that bypasses regulated exchanges. CFDs are legal to trade in the UK; however, they do attract taxation, unlike spread betting.  

How can I get started trading CFDs?

AT VT Markets, it only takes a few minutes to get started with a live account and begin trading CFDs. Along with powerful platforms MetaTrader 4 and MetaTrader 5, we offer all of our clients access to state-of-the-art trading tools, expert advice, market analysis and investor insights. Create your account today and start operating in a secure trade environment. 

Corporate bonds are an alternative to company stocks that offer your portfolio diversity, enable you to receive income and earn higher yields than government bonds. 

If you’ve been wondering how to trade corporate bonds, what they are or how they work, learn all about this financial instrument in this in-depth guide. 

What are corporate bonds?

Corporate bonds are a simple debt instrument; a way for corporate entities to raise capital. By purchasing a bond, you become a creditor of that company, or bondholder. The company, or bond issuer, agrees to make interest payments to the bondholder, known as coupons. The coupon rate is calculated as a percentage rate of the loan amount. This coupon rate is paid on specific dates nominated within the bond documents, on coupon dates. At the expiration of the bond, known as maturity, the issuer agrees to repay the full loan amount. This amount is called the principal, or face value. 

How do corporate bonds work?

Corporate bonds, unlike government bonds, are issued by private institutions, and they are generally known to offer a slightly higher risk/reward threshold than government issued debt bonds. Company bonds can be secured, which means that corporations will put up certain assets as collateral for the bond. In some cases, the coupon rates of company bonds are fixed, and in other cases, they may be floating and tied to market interest rates.  

Corporate bonds are considered a negotiable security, which means they can be bought and sold on a secondary market. Within this market, company bonds are sold for an issue price, which is a value related to, but not the same as, the principal. Reselling company bonds offers chances for traders to take on a bond with a better yield. This means that the sale price of the bond is less than the principal, and in turn the coupon rates give the new buyer a better overall yield on their investment than the original bond’s terms. 

For example, say a £10,000 corporate bond is issued with annual coupon rates of £500. The yield of this bond is 5%. If that corporate bond was to be sold for £9,500, the coupon rates would remain £500 per annum, but the yield for the new bondholder will have increased.  

As well as buying and selling company bonds on secondary markets, another way to gain from this debt instrument is by learning how to trade bonds through OTCs.   

How to trade corporate bonds

Investing in corporate bonds can take the form of buying company bonds when they are issued by the corporate institution, or buying and selling them on a secondary market. Both of these methods are good ways to gain exposure to company bonds. Another way is by trading on company bonds.  

For traders who want to gain exposure to corporate bonds but not take possession of the underlying asset, one option is to hedge an existing position you have in the market, mitigating against potential losses. Bond CFD trading is one way to short sell the bond futures market. CFD trading works through leverage, and it’s important that you understand the risks associated with this type of trading.   

Leverage is a type of trading which means an initial deposit, calculated as a percentage margin of the full asset face value, is all you need to put down to gain full exposure to the total value of the company bond. This means that if you make a profit, the win will be magnified. However, losses can also be increased, and may exceed your initial deposit amount. 

No matter what kind of trading strategy you use to trade corporate bonds, you’ll also need a powerful platform to help you monitor your open positions and watch the market to identify trends and relevant developments. At VT Markets, we offer our clients MetaTrader 4 and its newest generation successor, MetaTrader 5, to trade in open markets.  

Why do people buy corporate bonds?

Investing in corporate bonds is an attractive option for a number of reasons:

• They can help you diversify your portfolio
• They allow you to speculate on the movement of interest rates
• They provide income through coupon rates
• They can earn you higher yields than government bonds if you’re willing to take on more risk
• They’re a highly liquid asset, able to be sold at any time on a secondary market that tends to have a healthy appetite for reselling 

What are the risks?

As we’ve mentioned, corporate bonds are considered less risky than other kinds of financial assets and instruments, but no trading is completely risk-free. Here are some of the risks you’ll need to be aware of when learning how to trade corporate bonds.   

• Credit risk — This is the term used to describe the risk of a corporate issuer defaulting on either the coupons or principal of a bond. Credit ratings help traders assess this risk through investment rating grades. The best rating corporate bonds can receive AAA rating, with riskier bonds falling into BB grades and lower.
  
  It’s important to be aware that a company bond’s credit rating can change over the active life span of the bond. In particular, adverse business conditions could affect a corporation’s risk of default. 
  
• Interest rate risk — All bonds have a close relationship to interest rates, because how attractive a corporate bond is to investors depends on how its coupon rates compare to current interest rates.
  
  When interest rates rise, investors may lose interest in company bonds, favouring investments that may produce a better yield for them. In times of depressed interest rates, demand for corporate bonds can be expected to increase.
  
• Inflation risk — Inflation will also impact the value of corporate bonds. In times of high inflation, these bonds will command less purchasing power, making the coupon rates less attractive.
  
  Interest rate increases are also used as a financial tool for controlling inflation, which means that inflation rates could cause an interest rate rise that makes your corporate bonds less attractive. If the inflation rate increases above the coupon rate of a bond, it could also lose money in real terms. 
  
• Liquidity risk — Liquidity risk refers to situations where there may not be enough buyers in the market to quickly offload your company bonds. This lack of demand means that traders may have to sell their bonds for a lower issue price than its coupon price and face value. 
  
• Currency risk — This risk refers specifically to company bonds which were issued in and paid out in a different currency to your reference currency. In a situation like this, currency exchange rates can become an issue that affects the overall value of your investment. 
  
• Call risk — A call risk is produced when a company has the right, but not the obligation, to repay the principal before the maturity date of a corporate bond. This is undesirable for investors because it means you’ll miss out on coupon rates that you would have otherwise been paid during the active lifespan of the bond. 

Start trading corporate bonds with VT Markets today

If you want to start trading corporate bonds, VT Markets makes it easy to gain access to open markets, learn how to implement trading strategies, open positions and monitor them using our state-of-the-art trading tools, daily market analysis, expert advice and investor insights.

You can practise your corporate bond trading strategies using a demo account, which gives you access to a live trading environment with a risk-free, no obligation 90 day trial period. Then, when you’re ready to go live in an open market, create a live account and start opening and monitoring positions. Wondering how to set up your online trading platform? Ask our team for help to get started.

FAQs

How risky are corporate bonds?

All trading and investment comes with a certain degree of risk, however, the bond market is considered to be lower risk than other types of trading. Both government and corporate bonds are rated by external agencies like Standard & Poor’s, Fitch and Moody’s, who provide an investment grade that indicates how risky any given corporate bond is considered to be. 

Are corporate bonds safer than stocks?

Corporate bonds offer investors a very different product to stocks. Stocks are shares in a company; owning them entitles you to certain voting rights and makes you a stakeholder in the company. Owning corporate stocks allows you to benefit from increased share prices, but it also means that you could lose money if the value of the company takes a dive. 

In contrast, company bonds establish you as a bondholder, or creditor of a corporation. You loan that company an amount of money for the duration of the loan, until the maturation date. During this period, the corporation will make interest payments in the form of coupons, and then repay the principal at the expiration date of the bond.

Unlike with shareholders, bondholders won’t gain voting rights or a slice of the company’s profits, but they also expose themselves to less risk. Corporate bonds can be guaranteed by company assets as collateral, and if the company becomes insolvent, bondholders will be paid out their principal before shareholders, a concept known as liquidation preference.

How do I start trading corporate bonds?

One of the options for starting to trade bonds is to deal with over the counter products, also known as OTCs, which are traded through institutional broker-dealers. Bond CFDs are one such product. Contracts for difference, or CFDs, allow traders to speculate on the price movement of corporate bonds, rather than the value of the underlying asset itself. This means that traders have an opportunity to benefit from both profits and losses within the market, because they are speculating on where the price will move, rather than betting on a price increase only.

Bond CFDs are complex financial instruments, and they require traders to thoroughly research the market and understand different CFD trading strategies. They are leveraged financial products, which means that you gain full exposure to the asset based on just a marginal deposit. Your profits can be amplified with CFDs, but you can also potentially lose more than your initial deposit amount. For these reasons, learning how to trade CFDs requires time, education and appropriate risk management tools.

Since they’re considered a low-risk investment, government bonds are an attractive option for traders to diversify their portfolios by taking a position on this government-backed debt instrument. 

If you’ve ever wondered about buying government bonds, how they can be traded or what the risks associated with them are, here’s our in-depth guide on everything you need to know about them. 

What are government bonds?

Government bonds, like all bonds, are straightforward debt instruments. They are used by federal, state, municipal and local governments to raise capital in the form of a loan from an individual, known as the bondholder. The government issues a bond for the amount of the loan, which details both the maturation point of the loan — that is, when the full repayment of the original amount is due — as well as interest repayments that will take place. These interest rates are known as coupon rates, and the bond will detail how much these repayments will be and when they are due — on a monthly, quarterly, semi-annual or annual basis. 

Both the US and UK governments offer bonds. In the US, they are known as Treasuries, and in the UK, they are known as gilts. Both governments offer a debt instrument that works in very similar ways.  

How do government bonds work?

When a government issues a bond for a fixed amount, you loan them this amount for an agreed period of time. The amount is known as the principal or face value of the bond. During the agreed period, the government will give you a return on your loan by making scheduled interest payments known as coupons. This means that government bonds are a fixed-income asset. 

When the bond reaches maturation and expires, the government will return the full principal amount back to you. The maturation period could be anywhere from a year to 30 years, and the maturation length of a bond can affect its value on secondary markets. 

Bonds can be traded and sold before their maturation date to other investors at an amount that’s known as the issue price or bond price. In theory, a bond’s price is equal to its face value, and this is usually true at the point of issue and right before a government bond expires. However, various factors can cause the issue price of a bond to fluctuate dramatically during its active period. 

The interest payments on a government bond are its coupon rates, and the agreed dates on which these payments are made are called coupon dates. The coupon rate is always calculated as a percentage of the bond’s principal — for example, 5% per annum.  

Types of government bonds

Although there might be a lot of specific, seemingly complex terminology around trading and investing in government bonds, they are actually simple. Once you’ve mastered the terminology associated with government bonds, you can learn the distinctions between the different types of bonds offered by a country’s government. 

• In the UK — Bonds issued by the UK government are known as gilts, and they all contain their maturation date in the title. So, a bond that will expire in three years is simply called a three-year gilt.
  
• In the US — The US has three distinct types of government bonds they will issue: Treasury bills, Treasury notes and Treasury Bonds. They are often shortened to simply T-bills, T-notes and T-bonds. T-bills expire within one year, T-notes expire between one and 10 years and T-bonds expire in more than 10 years, often within 30 years. 

Other countries’ governments also issue bonds that have their own distinct types and naming conventions. If you’re interested in government bonds issued by another country, it’s worth taking the time to understand how their government bonds are structured before you make an investment.  

Index-linked bonds

As well as traditional fixed-income asset bonds, it’s possible to buy bonds that don’t have a fixed coupon price and instead offer repayments that are calculated in line with inflation rates. 

• In the UK — Index-linked bonds issued by the UK government are known as index-linked gilts.
  
• In the US — The US government calls index-linked bonds ​​Treasury Inflation-Protected Securities or TIPS for short.

Buying government bonds

It’s possible to become involved in both trading and investing in government bonds. The first way to invest is to buy bonds directly from the government when they are being newly issued, in an auction. Usually, it’s large financial institutions and banks that will purchase bonds in these auctions. It’s also common for these institutions to onsell government bonds to other banks, pension and retirement funds, and individual investors. 

Buying government bonds is also possible on the stock exchange, where many types of bonds are listed. However, the most common way of investing in government bonds is through OTCs (over-the-counter products) that are traded with institutional broker-dealers. 

One such way of doing this is with speculation on the bond futures market through bond CFDs or contracts for difference. Because government bond issue prices are closely related to interest rates and inflation, the choice to trade bonds CFDs can be a good way to hedge against risks associated with these factors. 

To take a position with bond CFDs, a trader puts down a deposit known as a margin in order to open a larger position. This is a method known as leveraged trading, and it’s how all CFD trading works. All leverage financial products are inherently risky because they are so complex, which means they require a careful approach. While your profits will be maximised by successfully speculating on a bond CFD, the inverse is also true. Your losses will be calculated on the total asset value, not the percentage margin you used as capital for a deposit. Accordingly, your losses could outstrip your initial investment amount significantly.

To help you manage this increased risk, it’s important to understand what can affect the price of government bonds. 

What moves the prices of government bonds?

Government bonds can be affected by several factors and are often a reflection of larger trends within a country’s economy. 

• Supply and demand — Just like any asset, supply and demand will affect the price of government bonds on open markets. The government controls a large portion of this supply, as it chooses when it will offer bonds at auction.
  
  Governments may choose to curb this supply in order to better balance out demand, which is less when government bonds are seen as less attractive investments. 
  
• Interest rates — One of the big reasons government bonds may lose their attractiveness is because interest rates are up. If interest rates are higher than the coupon rate for a bond, it’s likely investors will look for a more rewarding asset. However, if interest rates drop below the coupon rate, bond demand can go up.
  
• The distance to bond maturity — When a government bond is first issued, it’s simply a reflection of current interest rates, and so its price is at or close to a 1:1 ratio with its principal. The closer a bond is to its maturation, the more aligned its issue price will be with its principal or face value. This is because the bond’s price adjusts to reflect that it is now essentially just a payout of the principal.
  
  In between these two points though, the price may fluctuate especially when taking into account the amount of interest rate payments it has to pay out. 
  
• Credit ratings — Third-party ratings agencies determine the investment grade of all corporate bonds and government bonds, giving them a rating from AAA downwards. This rating aims to assess risk, and while the default rate for established economies’ government bonds is low, there’s still an element of risk involved. If bonds have a similar interest rate, the lower-rated one will likely trade at a lower price.
   
• Inflation — Increased inflation rates are usually not a good sign for bondholders — they signal that a bond’s fixed coupon price may become a lot less attractive, and they often occur in line with interest rate increases.
  
  Because national reserve banks will often use an interest rate rise as a tool for curbing inflation, a rise in the inflation rate could see your government bond coupon rate drop below current interest rates, therefore making trading bonds less attractive.  

Why do people trade government bonds?

Government bonds, despite having some associated risks, represent a strong, stable way to diversify your portfolio. They can help traders hedge against interest rate fluctuations, and they can also offer regular income via coupon payments. 

If you’re ready to start trading government bonds, the team at VT Markets is here to help. Download the powerful MT4 or MT5 trading platform today and create an account to begin building up your portfolio.
 

FAQs

How risky are government bonds?

All investments and trades are associated with some level of risk. However, when it comes to government bonds from stable countries with powerful economies like the US and the UK, these assets are considered relatively low risk and a good way of calming volatility within your portfolio. 

Government bonds are technically classed as ‘unsecured’ by the US treasury — i.e. government assets are not offered as collateral to guarantee the principal of the bond. However, bonds have been a historically very safe asset, with a low risk of the government defaulting and not returning the full face value of the bond.

Government bonds do carry with them some credit risk. That is, the risk that the issuer — in this case the federal, local or municipal government — will not be able to make their repayments in full and on time. Credit agency ratings for bonds help traders to assess the level of this risk. AAA-rated loans are considered to be the safest and the most likely to be repaid in full. At the other end of the spectrum, a BB+ loan may offer higher rewards, because it also carries a higher risk of defaulting. 

If a national economy faces very high interest rate hikes for prolonged periods, this will also affect the value of a government bond and could make it harder to offload the asset, as investors seek more attractive options within the inflated interest rate market.  

What are the ways to trade government bonds?

When it comes to trading, government bonds can be bought and sold directly, or traders can get exposure to this low-risk asset via the secondary market through the use of over-the-counter products (OTCs) like bond CFDs. To trade bond CFDs, traders speculate about the movement of a bond’s issue price on the market, profiting from both price spikes and drops. 

By trading government bonds in this way, traders are essentially using an instrument that allows them to speculate on a country’s interest rates. The value of a government-issued bond is inversely related to interest rates — when rates rise, the price of bonds fall. To successfully trade bond CFDs on the secondary market, you’ll need to correctly predict the rise or fall of interest rates and back the price of government bonds to do the opposite. 

It’s important to remember that managing CFDs requires a lot of research on and familiarity with these complex financial instruments. Before deciding if trading government bond CFDs is right for you, it’s recommended you thoroughly understand how to trade CFDs and the various CFD trading strategies you can practise in order to maximise your chances of making a profit.

Bonds are one of the most popular financial assets, but if you’ve never explored what they are and how bonds work, you may have been put off by their reputation for being complex or a low-reward asset. 

In reality, bonds are a widely traded asset that can strengthen your portfolio’s risk return profile and add diversification without exposing yourself to excessive volatility. Their supposed low reward is balanced by being a low-risk, safe option for investors, and their inverse relationship to interest rates also offers some profitable opportunities for trading bond CFDs. 

In this article, we’ll break down what bonds are, what kinds are available for trading and how you can add this asset to your own portfolio, diversifying it beyond just stocks. 

What are bonds?

Bonds are, in the most simple terms, a type of debt instrument. Whereas individuals might approach a bank or credit union for a loan, companies and governments can raise capital by going to investors, who become bondholders in the organisation. Bondholders pay interest on the asset, known as a coupon rate, until the maturation of the bond — ‘maturity’ here being the due date when the initial loan amount (known as the principal) is repaid. 

Bonds are considered lower risk than other more volatile assets, but they do carry some risks associated with interest (coupon) rates, credits, defaults and prepayments. There are different types of stocks depending on what organisation, company or institution has issued it, but all are rated for their investment grade. 

What type of bonds are there?

Bonds can be both secured or unsecured. A secured bond protects the bondholder from the issuer defaulting on the loan, by pledging assets as collateral. Mortgage-backed securities are one example of a secured bond. 

Unsecured bonds, on the other hand, are not backed by any collateral. They are also known as debentures and are considered riskier assets because both the interest paid and principal are only guaranteed by the issuing company or organisation.

There are four kinds of bonds: 

• Government bonds — While some government-issued bonds are unsecured, they are considered to be some of the lowest-risk investments on the market, when the bonds are from stable governments that have never defaulted on a bond debt. In the US, government bonds are known as Treasuries, while in the UK, they are called gilts.
  
  Government bonds can be made available on both a fixed interest rate and with a variable coupon repayment that is tied to inflation. In the UK, inflation-linked bonds are called index-linked gilts, while in the US, they are called Treasury Inflation-Protected Securities or TIPS.
  
• Corporate bonds — Corporate bonds, as their name suggests, are issued by corporations. They’re used to raise funding for companies and, depending on the size and established nature of the company, they may be considered higher or lower risk.
  
  Corporate bonds are always higher risk than government bonds, but as a bondholder, you are afforded more protection from loss than an ordinary shareholder. For example, if the company goes bankrupt, liquidated assets are used to pay bondholders ahead of shareholders (this is known as a liquidation preference). Corporate bonds may be secured, and they are rated by agencies like Standard & Poor’s, Moody’s and Fitch Ratings, which assess their overall investment grade.
  
• Municipal bonds — Similar to government bonds, municipal bonds, or munis, are issued by municipalities, councils, cities and other local governments. They often have a lower interest rate and are considered less risky than certain other types of bonds.
  
  Municipal bonds may also be appealing to investors because they do not attract tax in the US.
  
• Agency bonds — Agency bonds are defined as securities, which are issued by government-backed enterprises or other federal government departments than the US Treasury. Largely a US phenomenon, they may be backed by the US government, as with the case of government department issued bonds, or not, as with those issued by government-sponsored enterprises (known as GSEs).
  
  Both the Fannie Mae National Mortgage Association and the Freddie Mac Federal Home Loan Mortgage bonds are examples of GSE bonds.

How do bonds work?

Bonds are simple debt instruments. They govern the process by which a bondholder loans money (known as the principal or face value) to a public or private institution (known as the issuer), and the issuer then repays this on an annual, semi-annual or monthly basis, as outlined in the terms of the bond. When the bond reaches maturation — its expiration date — the principal is returned to the bondholder. 

Because bonds are what’s known as negotiable securities, they can be bought and sold in a secondary market, in much the same way stocks are (although it should be noted that stocks and bonds function quite differently). Some bonds are listed on the stock exchange; however, most bond trading occurs through the use of OTCs (over-the-counter products) like CFDs (contracts for differences), which are traded through brokers. 

Like all debt instruments, bonds are heavily dependent on interest rates to determine their price. In general, interest rate hikes reduce the demand for bonds, as investors seek better interest rates elsewhere. In periods of decreased interest rates, the demand for bonds inversely increases, and their prices will rise. 

Bond characteristics

There are certain characteristics that set bonds apart from other assets and debt instruments. These are: maturation and duration, credit rating, face value and issue price and coupon rates and dates. 

• Maturity and duration — These two terms might sound interchangeable, but maturity and duration are actually different. The maturity of a bond refers to its active term, i.e. the length of time until it expires and its final payment is made.
  
  Duration, on the other hand, refers to both a period of time and a measure of a bond’s price sensitivity to changes in the interest rate. The Macaulay duration of a bond is the actual amount of time it takes to repay its principal, expressed as a number of years. The Macaulay duration is used to calculate a bond’s modified duration, because the longer a bond takes to pay off, the more vulnerable it will be to fluctuations in interest rates. The modified duration is the expression of that bond’s vulnerability.
  
• Credit rating — A credit rating essentially ‘grades’ all bonds on a scale of creditworthiness. As mentioned, ratings agencies are the bodies that produce these ratings — Standard & Poor’s and Fitch Ratings, for example.
  
  Credit ratings are useful to issuers because they can help to advertise a bond’s attractiveness to investors. Likewise, they are a valuable tool for assessing the risk of a bond for potential bondholders. Low-risk long-term bonds are given the highest possible AAA rating, while bonds assessed to be below investment grade are rated from BB+ (these are also known as junk bonds).
  
• Face value — The face value, or principal, is the amount an issuer agrees to pay to the bondholder, less any coupon (or interest) rate payments. Usually, the face value is paid at a lump sum at the expiration of the bond and doesn’t fluctuate in price from when it is initially set. There are some exceptions to this, such as TIPS (Treasury Inflation-Protected Securities), which are adjusted in line with inflation figures.
  
  Issue price should theoretically be the same as a bond’s face value, because both represent the full value of the loan. Where the issue price can differ, however, is on the secondary market, where the issue price of a bond can fluctuate significantly.
  
• Coupon rates and dates — The coupon rate, or interest rate, of a bond is the interest paid to bondholders, usually on an annual or semi-annual basis. It is also known as the nominal yield. The coupon rate is calculated by dividing the annual repayments of the bond by its full face value.
  
  Coupon dates govern the intervals at which these coupon payments occur. They can be monthly, semi-annually, annually or quarterly, but will be specified by the bond. 

What affects the prices of bonds?

The prices of bonds are subject to demand and supply, inflation rates, their credit rating and how close a given bond is to maturity. As we’ve discussed, bonds and interest rates have an inverse relationship to each other — when the price of one is high, the price of the other will be lowered. Demand for bonds is therefore dependent on interest rates and whether bonds represent an attractive investment because they are low or whether higher interest rates will tempt investors with better opportunities. If interest rates become too high, issuers may reduce the number of bonds on offer, in order to curb supply in line with demand. 

Credit ratings remain a strong indicator of a bond’s overall risk, and cheaper bonds will usually carry with them more risk of defaulting. It’s up to a trader how they decide to manage this risk, but credit ratings agencies remain a good guide for which bonds represent good investments. 

As a bond matures, its price will naturally return back to its face value, as the value of the bond reaches its initial loan amount. The number of coupon payments remaining on a bond will also affect its price. 

How do you trade bonds? 

Now that you know the ins and outs of what bonds are and how they work, it’s time to cover how to trade bonds. 

1. Choose the kind of bonds you want to trade. 

Both government bonds and corporate bonds are viewed as important elements of a diversified portfolio. Whichever of these bond types you choose to trade, a popular way to do so is with bond CFDs. CFDs are financial derivatives that work by deriving their value from speculation on the movement of a bond’s value, rather than relying on taking possession of the bond itself.

2. Pick your bond trading strategy. 

Bond CFDs, like all CFDs, are complex financial instruments. There are two broad approaches to bond trading strategies that you can take, but you can also do more research on other CFD trading strategies. 

The first strategy for trading bond CFDs is known as hedging. This is a loss mitigation tactic that involves trading in such a way that your gains and losses offset one another.

The second strategy is interest rate speculation. By correctly predicting the movements of interest rates, you can take a position on government bond futures via bond CFDs.

3. Open a bond trading account. 

You’ve decided on a bond CFD and a strategy; now you’re ready to get trading. To do so, you’ll need to create a live trading account. At VT Markets, you can do so in just a few minutes. If you want to practise your strategy before jumping into the live market, you can also create a risk-free demo account to put your approach through its paces.

4. Take your first position. 

Finally, you’re now ready to open and monitor your first position. Make sure you have the best trading platform at your fingertips. At VT Markets, we use the powerful MetaTrader 4 and its next-gen counterpart, MT5. 
Looking for more trading advice and tools? Feel free to contact our team today.

This week’s key economic indicators, including the US Jobs Report and Canada’s Gross Domestic Product, are in the spotlight for the financial sector. These fundamental reports are crucial for traders to navigate the markets and make informed decisions. Stay tuned for the latest updates.

Australia Consumer Price Index (31 May 2023)

The monthly Consumer Price Index in Australia increased 6.3% in the year to March 2023, slowing from a 6.8% rise in the year to February 2023.

The data for April 2023 will be released on 31 May, with analysts expecting a further slowdown, dropping to 6%.

Canada Gross Domestic Product (31 May 2023)

The Canadian economic activity in February edged up by 0.1%, following a 0.6% expansion in January.

For March 2023 data, set to be released on 31 May, analysts expect a 0.1% decline.

US JOLTS Job Openings (31 May 2023)

The number of job openings in the US dropped by 384,000 to 9.6 million in March 2023, the lowest level since April 2021.

Data for April 2023 will be released on 31 May, with analysts expecting another drop to 9.2 million.

US ADP Non-Farm Employment Change (1 June 2023)

Private businesses in the US created 296,000 jobs in April 2023, a significant increase compared to the downwardly revised figure of 142,000 in March 2023.

May 2023 data will be released on 1 June, with analysts anticipating a job creation figure of around 200,000.

US ISM Manufacturing PMI (1 June 2023)

The ISM Manufacturing PMI in the US rose to 47.1 in April 2023, up from a three-year low of 46.3 in the previous month.

Analysts predict that the index for May 2023, scheduled for release on 1 June, will be at 48.

US Jobs Report (2 June 2023)

The US Non-Farm Employment Change unexpectedly increased by 253,000 jobs in April 2023, outperforming the expected 180,000 and coming after a downwardly revised 165,000 in March. Concurrently, the unemployment rate in April 2023 dropped to 3.4%, matching a 50-year low previously seen in January.

For May 2023 data, scheduled for release on 2 June, analysts anticipate that Non-Farm Employment will see an addition of 180,000 jobs, with the unemployment rate projected at 3.5%.

Stock indices are one of the most important elements of the global financial system. They represent the overall performance and trends within a specific country’s economy, and can also give a strong indication as to the state of the global economy as well. 

If you’ve ever wondered how indices trading works, what these indices represent in particular or how to understand what moves their price, read on to discover more in our in-depth guide.

What are indices? 

Indices are numbers which represent the top performing shares from a particular stock exchange. It’s a financial instrument which essentially gives a snapshot of an exchange’s major players, averaging out individual stock movements and distilling a huge amount of financial activity into just one figure.

Some of the largest indices in the world are:

• Dow Jones (in the US)
• Nasdaq (US)
• S&P 500 (US)
• DAX (in Germany)
• CAC (in France)
• FTSE (in the UK)
• Hang Seng (in Hong Kong)
• Nikkei (in Japan), and;
• ASX (in Australia) 

Indices can be calculated in two different ways; some take the performance of their  largest companies into account, a method known as a market capitalisation-weighted average. This is the case for the S&P 500, the FTSE and the ASX; the stock movement of companies worth the most on these exchanges have more sway over the index as a whole. Most stock indices use this method, however some are calculated using a price-weighted average. Both the Dow Jones and the Nikkei use this method, where shares that command higher prices also command more influence. 

Because indices represent the bundled overall stock value of the best performing company stocks or highest value stocks on a given exchange, rather than just the performance of one particular share, they can be more volatile than a single company’s stock. This volatility provides traders with both more opportunity, but also an increased risk. 

What is index trading?

Because an index is simply a number representing the performance of a group of shares on a particular exchange, you can’t buy and sell (i.e. trade) them directly. Instead, you need to choose to trade a product which mirrors their performance. 

Index trading therefore is trading products that do this, which include: 

• Index funds
• Exchange traded funds (ETFs)
• Futures
• Options, and;
• Contracts for differences (CFDs)
  

All of these products track the price of the underlying index, but not all require you taking ownership of that underlying asset directly. Instead, as a trader, you’ll speculate on whether you think the price of indices will rise or fall in any given period, and open or close positions accordingly. 

What moves the price of indices? 

There are a number of factors which can lead an index to rise or fall in price. In order to learn how to trade indices, you’ll need to be aware of and monitor these factors. 

• General economic news — Because price indices summarise the performance of multiple companies’ stocks, they are often seen as an indicator of an economy more generally. Likewise, economic news will affect their performance.
  
  Announcements by major banks, changes to investor sentiment, economic events, trade agreements, changes to employment figures and more can all cause a price index to rise or fall.
  
• Global news — Even within local price indexes, multinational corporations will be affected by global news events. Unexpected events like pandemics or natural disasters will create movement within an index, as can increased commodities prices, supply chain disruptions, global economic turmoil and conflicts.
  
• Company financial results — The performance of individual companies within an index will have a knock-on effect within the index as a whole. This is particularly true if the company is more highly valued or if its stock price is trading at a higher amount. In these cases, posting a major profit or loss will also have serious ramifications for the index price.
   
• Company announcements — Company announcements have big potential consequences for the future of that corporation. From leadership changes to mergers, updates to manufacturing or employment practices and restructures, the internal workings of individual companies will have broader implications for their stock price and therefore the index price.
  
• Index composition changes — Which companies make up an index will obviously make a difference to its overall price. The addition or removal of a company from an index will require traders to re-examine their positions.
  
• Commodity price fluctuations — Some indexes are made up of both company and commodity stocks, for example the London Stock Exchange’s FTSE. Any fluctuations in these markets can potentially shift the index price accordingly. 

How do you trade indices? 

When trading stock indices, it’s important to do your research, gain a good understanding of the product you’ve chosen to trade and to put into place the right risk management strategies. Of all the index trading products, one of the most popular is index CFDs. As we’ve mentioned, some financial instruments (like futures), require you to eventually take possession of the underlying asset, while others are purely speculative. Index CFDs are an example of a speculative financial instrument; they give you opportunities to profit from both rises and falls in a price index, by correctly predicting in which direction the overall price will move.

In general, there are two ways you can approach trading indices via CFDs: going long and going short. Going long refers to buying index trading products, because you think the price will rise. Going short means selling or closing your positions, because you expect the market to fall in price. 

Whether you decide to go long or short, your overall profit or loss when trading index CFDs will be determined by how accurate your prediction was and the overall size of the market’s movement. 

Leverage and index CFDs

The way CFD trading works is through leverage. If you’ve never used leveraged trading before, it’s important to understand how this differs from other types of trading. Leveraged products only require a small initial deposit in order to open a position – an amount known as a margin – which is calculated as a percentage of the overall actual value. 

Leveraged financial products may require less capital to give you exposure to a larger market, but it’s vital to remember that both losses and profits from index CFDs are calculated on the total value, not the percentage value of the margin. In practice, this means that it’s possible to incur a loss greater than your initial deposit. 

There are many strategies and approaches when it comes to how to trade CFDs, so you should carefully examine the particular CFD you’re interested in trading, and decide which strategy is best suited to your portfolio.

How to start trading indices

Once you’ve decided to trade indices, you’ll need to follow a few steps to get started operating in live markets. 

1. Decide what trade method you want to use — VT Markets offers traders the chance to trade indices CFDs, which allows you to identify opportunities to profit from both rising and falling prices.
   
2. Choose between cash indices and index futures — Generally, cash indices are favoured by day traders for their tighter spreads and on the spot trade pricing, while index futures take a longer term view, and incur less overnight funding chargers for traders looking to hold a position for a longer time span.
   
3. Create an account and log in — When you’re ready to go live, creating a live account with VT Markets only takes a few minutes.
   
4. Select the index you want to trade — Choose from the most popular global indices based on the available analysis and market insights.
   
5. Decide whether to go long or short — Remember, taking a short position means speculating on a decreasing index value, and going long predicts rising values for the index. Both can be the right call to make, depending on the overall outlook for a given economic sector or domestic market.
   
6. Set up risk management strategies — VT Markets offers our clients various automatic tools to prevent you from incurring losses you can’t afford. Stop-loss orders and limit orders are risk management tools you can use to ensure your position isn’t compromised by more or less favourable market prices.
   
7. Open your first position — See an opportunity? Seize it by opening and monitoring your first position. With trading tools and expert analysis from VT Markets, you can closely follow the market, closing out your position at the right time to maximise your profit or cut a loss. 

Diversify your portfolio and hedge your risk with VT Markets

As a full service online trading broker, VT Markets can connect you with the tools and powerful platforms you need to manage your trade positions, diversify your portfolio and manage your risk. Looking to trade Forex, or wondering which trading strategy is right for you to get started with? Get in touch with us today, or make a deposit and start trading your positions with expert market insights. 

FAQs

What are the best indices to trade for beginners?

A good rule of thumb for all trading is that more volatility equals both more opportunity and more risk. If you are a beginner to the world of trading indices, you may want to avoid more volatile markets and trading hours, in order to simplify the amount of decisions you’ll need to make and information you’ll have to make sure you’re across before opening or closing a position. 

Novice traders will therefore want to choose indices which have lower intraday trading volatility. The major national price indexes are good options for this; for example the ASX 200, S&P 500 or the DAX 40. These indices are generally considered to have easy to spot trends and are popular markets. 

Another way to increase your skill at trading indices is to practise with a demo account. At VT Markets, we offer a risk-free 90-day trial period with no obligations, so you can practise opening and closing positions with your chosen index CFD in a live trading environment.

What time are the stock market indices available to trade?

Unlike Forex trading on the foreign exchange which remains open 24 hours a day, 5 days a week, stock market indices operate on local time schedules. By using a powerful trading platform like MetaTrader 4 or MetaTrader 5, you can easily monitor the opening and closing times of local prices, and make your move during their volatile opening hours, or play it safer with a strategy of opening and closing positions later in their specific trading day.

What’s the difference between index trading and stock trading?
Index trading relies on speculation about indices, which are baskets of many stock prices of companies which are listed on the same exchange. Stock trading, by comparison, is the buying and selling of a company’s stocks at their market price. The advantage of index trading is that the amount of stocks bundled together into that index can make it less volatile than trading the stock of a single company.

Index trading is a good option if you want to gain exposure to a growing economy, while stock trading can be useful for traders’ portfolios during periods of slow or subdued growth.