What is derivative trading and how do I start trading derivatives?

To help reduce risks in trading leveraged derivatives, it is important to plan a trading strategy​​ in advance. A popular risk-management tool traders can use when trading with leverage is a stop-loss. By implementing a stop-loss order​ to a position, a trader can limit losses if the chosen market shifts in an unfavourable direction. However, it is important to be aware of potential risks, such as the market experiencing a negative short-term fluctuation, which could activate the stop loss order before the market conditions improve again. Explore our risk-management​​ guide to learn more about how to protect your money in trading.

Spread betting​​ is a popular derivative product. It is a tax-efficient** way of speculating on the price movement of financial instruments​​, including forex, indices, commodities, and shares. Without purchasing and taking ownership of the underlying asset, traders can bet on whether they predict the price to rise or fall. If the expectation is for the value of a security to rise, then a trader may look to buy, otherwise known as opening a long position. If they expect the asset to fall in value, then they may look to sell, which is also known as ‘going short’. The profit or loss made is based on whether or not the market moves in the chosen direction. The investor buys or sells a pre-determined amount per point of movement for the traded instrument, which is known as the ‘stake size’. For every point that the price moves in a favourable direction, they will gain their stake multiplied by the number of points by which the instrument price has moved in their favour. On the other hand, they can lose multiples of their stake for every point the price moves against them. With spread betting, losses are based on the full value of the position. Explore our page about understanding spread betting​​ to learn more.

There are many advantages of spread betting​​​. For example, spread betting is a form of margin trading, which means that you can open larger or more positions than you would be able to if you had to fund the full value of the position. This is because you are borrowing funds from the broker.

There are several risks of spread betting​​​ to be mindful of, including the fact that margin trading​​​ can increase your losses as well as profits as they are relative to the full value of the position. Another risk to note is that market volatility and rapid price movements may occur outside of normal business hours when spread betting on international markets. This can have an effect on your positions, potentially cause your account balance to change quickly. If your account has insufficient funds to cover these situations, there is a risk that your account will drop below the close-out/margin requirement level. This will result in your positions being automatically closed by the platform. Therefore, it is important to consistently monitor your account to ensure that the funds cover your total margin requirement.

CFD trading (contracts for difference) is another leveraged derivative product that enables traders to speculate on short-term price movements. It is a contract between two parties to exchange the difference between the opening and closing prices of a specified financial instrument at the end of the contract. Similar to spread betting, you do not actually own the underlying asset. Instead, you buy or sell a number of units for a particular asset depending on whether you think the movement of price will rise or fall. You gain multiples of the number of CFD units you have bought or sold for every point the price of the instrument moves in your favour. In the opposite scenario, when the price moves against you, you will make a loss. You can trade CFDs on many financial instruments with us. Learn more about understanding CFDs, the costs involved and gain insights from a variety of examples.

There are a range of benefits of trading CFDs​​. One example is that you can trade on the price of a product that is falling as well as rising. Therefore, you can aim to benefit from going short and selling as well as buying opportunities, which is also true for spread betting. Through periods of short-term volatility, many investors trade CFDs as a way of hedging their existing portfolios. Another advantage is that, similar to spread betting, there is no stamp duty to pay, however capital gains tax would need to be paid.

There are however, risks of trading CFDs​​ to be aware of, for example gapping. Gapping occurs when the price of an asset suddenly moves from one level to another, without passing through the level in between. Traders may not always have the opportunity to place a market order between the price levels. Gapping arises as a result of market volatility. It is possible to limit the risk and impact of market volatility by applying an order boundary or guaranteed stop-loss order. Another aspect to be aware of is CFD holding costs​​. These are charged to your account if you hold positions on certain securities overnight past 5pm New York time.

Forward trading​​ is a transaction between a buyer and seller to trade a financial asset at a future date and at a specified price. The forward contract’s value is based on the stability of the underlying asset and it includes the agreement of the asset price and trade date. Forward trading is an alternative to purchasing an asset at spot price.

An advantage of forward contracts is that the agreement to buy and sell at a specific price in the future ensures that your position is protected from unfavourable market movements. However, this can also act as a disadvantage because the price can fluctuate in a favourable manner and the asset can become more valuable. As you are locked in at a specified price, you will not be able to take advantage from this movement in price.

An option is an agreement between two parties that gives the buyer the right, but not the obligation, to purchase or sell an asset at a set price on or prior to a specific date. Options can be traded on several types of underlying securities such as stocks, ETFs, and indices. Forex options​​ work in the same way but are specific to currency pairs and are driven by factors such as interest rates, inflation expectations, and geopolitics.

Futures trading​​ is the trading of financial instruments as contracts via a futures exchange. It is an agreement between parties that an asset will be exchanged at a predetermined price and date in the future. One party is obligated to purchase the asset once the futures contract expires whilst, when expired, the other party is obliged to produce the asset.

It must be noted that we do not offer the opportunities of trading options or futures. However, our trading platform does offer you the opportunity to trade forward contracts, which are an underlying form of futures, on a wide range of financial markets and assets.

You can trade on the price movements of stocks​​ through spread betting and CFDs trading. Our trading platform offers you the opportunity to trade derivatives on thousands of shares. You can also trade derivatives on exchange-traded funds (ETFs). These are investment funds that hold a collection of underlying assets, such as shares, commodities and bonds. Learn more about ETFs​​ and how you can trade on them with our Next Generation platform.

With CMC Markets, you can get exposure to over 330 currency pairs by way of spread betting and trading CFDs, which is the largest forex market offering in the industry***. Trading derivatives on forex indices​​ is an effective way of investing in some of the most popularly traded currencies, such as GBP, USD and EUR. You can trade on our 12 baskets of forex pairs, which includes the popular CMC USD Index, giving you exposure to multiple currencies in just one trade.

Traders can also spread bet and trade CFDs on a wide range of commodities​​, which are categorised into either hard or soft varieties. Examples of hard commodities includes natural resources like gold and oil, whereas soft commodities are agricultural products, like wheat and coffee. Discover more about how to trade commodities​​.