The initial margin or margin deposit
While it requires a proportion of the investment price over which a CFD is issued to acquire a position - say 10 per cent - it is important to be aware of the relationship between this and the investment.
Whether the CFD is over shares or gold or an index, the initial margin or deposit that must be made is based on what it would cost to buy the investment for its full price.
This deposit could range from five per cent to 50 per cent depending on the risks the CFD provider considers exist as far as either requiring you to top up your initial deposit if the price of the investment goes against you or to sell your entire position if you can?t meet the margin call.
What is important to note is that unlike buying a share or any other investment where you pay an amount that gives you ownership of an investment, with a CFD this is not the case.
The initial margin you pay is not a cost but rather a deposit that must be maintained to secure your CFD position across your chosen trading horizon.
The value of all CFD positions is constantly being monitored and re-assessed by providers. As a trader an important part of the contract is you must agree to maintain the positions at the required deposit value on an ongoing basis.
In circumstances where investment market prices move against you, there will be a requirement to pay additional margin amounts to top up the position.
With CFDs, every position is valued at the close of each business day with any profits credited to your trading account while losses are deducted and must be covered.
What is therefore very important is that in most investment situations the price of the investments should not move more than the margin deposit amount, whether this is 5 per cent, 10 per cent or more.
Where it does, you as the trader risk not only losing all your deposit but also finding yourself having to sell other investments or come up with the cash to meet payment requests on positions that have been liquidated.
With CFDs, the liquidation risk ? which means having your investments sold by the provider because you can?t meet the margin top up requirements ? is much higher where the margin deposit levels do not reflect the market risk.
Frequently Asked Question
Tracking volatility
Smart CFD traders keep track of the daily price volatility of investments over which they own CFDs. This allows you to keep tabs on the likely margin calls you could face if prices move against you.
In circumstances where providers are very generous when it comes to initial margins, astute traders either reduce their exposure or have plenty of cash available to meet any top up margin calls that are made.
