To get some exposure to the US markets, you might want to consider trading contracts for difference (CFDs) on the S&P 500. The Dow covers 30 of the major blue-chip US companies, but the S&P 500 is compiled from the share values of 500 largest companies, and is a good benchmark of the health of the US economy. In fact, some people argue that it is better than the Dow at reflecting the fitness of the market, as it covers about 70% of the total traded value.
Here is a typical example of how trading the S&P 500 normally works.
- You purchase a CFD instrument from your CFD provider. Let’s suppose you purchase the S&P 500 Index.
- The S&P 500 CFD contract will mirror the price of the S&P 500 Index traded on USA stock exchanges. The main difference is that your CFD broker will widen the spread a bit, but will not charge you any direct commission for the trade. If you are an active trader, CFD trading may end saving you considerable money.
CFDs are always a good use of your money, as the leverage may be as much as 100 to 1. Typically, you may be quoted 1146.25 – 1146.75 for your CFD trade on the S&P 500 index. Because of the leverage that you are achieving, you need to follow the markets closely to make sure that you’re not on the losing side. However, as you have a “basket” of stocks, you’re only interested in the economy as a whole rather than any individual companies.
Having decided that you anticipate the market will go down, you may go ‘short’ at a price of 1146.25, and you sell 100 contracts which means you now have a notional value of $114,625. With 100 to 1 leverage, your margin requirement is $1146.25. As you are short, if you hold this position overnight you will receive some interest, which is minimal now the base rates are so low. Say by the next day the S&P 500 index has dropped 10 points, which is in your favour. Your CFD broker may quote 1136.25 – 1136.75, and you need to buy back the position at the higher price in order to close your trade. The value of all your contracts is $113,675.
The difference between the value when you opened the position and the value at close is $114,625-$113,675, which works out to $950. With the interest added for the overnight position, your profit is just over $950.
If instead of thinking the S&P 500 would go down, you decided that it was going to increase, then you would have lost most of your initial margin. It is worked out in this way. You would buy 100 contracts at $1146.75, controlling a value of $114,675 for a margin of $1146.75. As you have a long position, you will be charged interest overnight, which will be around $15 – $20.
In the morning, when you decide to close the position before you lose any more you would sell your hundred CFDs at $1136.25, a value of $113,625. This is a loss of $1050, plus the interest charge of say $15, giving a total loss of $1065. The impact of leverage on your gains and losses is significant, and that is why you should be sure that you approach trading CFDs as a business, and do your research carefully to ensure you are on the right side of the trade as much as possible.
