Stock market indices are indicators of several vital things like business confidence, economy health, faith in stock market, and more. Confidence helps to make stock market prices rise because investors start buying shares. Alternatively, investors start selling shares or invest somewhere else, when prices fall because of no confidence.
There are many other factors, which influence the stock market activities. It includes national budget, interest rate changes, trade & economic performance announcement, political events, etc. Therefore, it becomes difficult to pinpoint the direction market is going to move next.
How indexes are formed?
Shares of group of companies listed on public stock exchange are selected to form indexes [indices]. The grouped stocks values are used for calculating index values [stocks used carry market capitalization weightage and price weightage]. Any kind of changes in stock prices leads to changes in index value. Thus, index is indicative of market changes. Learn more on Capital.com/stock-market-indices.
How to trade index with CFDs?
Index CFDs are regarded to be less risky than individual stock trading. Actually, the risk is spread across the entire market instead of a single company. Trades exposure gets diversified because majority of factors which affect an individual company gets eliminated from the equation.
Opening a CFD position, you agree to exchange difference in index price from opening to close. Index CFDs allow trader of one country to participate in global market because world-wide key indices are covered.
Reasons to trade index CFDs
Benchmark of performance
Stock indices are benchmark of each country’s market performance. Indices are consistently in news, so investors can easily get familiarized. There are no worries about picking stocks or clearing fees in relevant exchanges. Moreover, majority of key indices are based on blue chip company groups, so are regarded to be good measures of real-time market reaction. Therefore, when you open index CFD position, you are successfully investing in performance of blue chip securities.
Sectorial diversification
Indices are extremely responsive to financial news. Analyzing individual countries is not an easy task but if you believe that BSE 500 index appears to be good than directly take position on the basis of market performance.
Index CFD cannot go to nil because it is benchmark of biggest stocks referred on an exchange. For index CFD to go zero, those entire big chip securities will need go nil, which is impossible. Certainly, this is a cheap and hassle-free way to invest in basket of stocks, which diversifies your investment instantly across few sectors [sectorial diversification].
Geographical diversification
Global index CFDs allow investors from the UK get efficiently exposed to the US market cost-effectively, irrespective of bullish or bearish market condition. Most of the trade markets are open 24/7, so there is less possibility of suffering from huge gaps like individual stocks.
Margin provides leverage
Another advantage is margin requirement for indices is 1% to 3% of total index value. However, it is wise to keep aside some extra funds to cover possible losses. Single CFD agreement will be calculated in local currency. For example, In the US for $1,000 BDEV share price, investors will be able to trade $100,000 at 1% margin. It is a very economical way to gain exposure to world economy’s ups and downs.
How CFD providers establish index value?
Generally, there is no commission to be paid for index CFDs because the provider will add a couple of points to the spread. The difference between bid and ask price is called spread and this is where the provider earn their profits. Besides spread, the trader will need to consider overnight financing charges, if a position is held overnight. As you are not taking ownership of shares there will be no other cost involved like capital gains or stamp duty.
Besides sectorial and geographical diversification global index CFDs can be used for hedging a potential loss in your portfolio.