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Risk Warning
One of the most powerful attractions to trading CFDs is the fact that CFDs are traded on margin. This enables you to trade an entire portfolio without tying up large amounts of capital.
Margin is a term derived from the futures market, and provides for leveraged trading in financial products. In its most simple format, if you offered the trading of an instrument at 5% margin, you are in fact saying that you need to only deposit 5% of the total purchase cost of that deal to open that position (e.g. a margin of £5,000 enables you to trade up to £100,000 of stock - a leverage factor of 20:1).
This is the initial deposit required to open a position on an instrument once you have opened your account.
To calculate your Initial Margin for a particular instrument you will need to do the following:
Price x Number of Contracts = Total Contract Value
Then,
Total Contract Value x Margin Rate = Margin Requirement
(Please note that the Margin requirement for Equity CFDs is from 5% and for Indices from 0.5%).
Example
You purchase 100 of shares in Company A at £1, but only deposit 3%, or £3 towards this transaction. This is attractive to people who do not want to hold the position for the long term, and provides for leverage when trading. In this case the client has only paid £3, if the stock they purchased goes up 6p the next day, and they sell, they will have made a £5 profit on a £3 investment, or 200% return (less roll-over costs). If they had been cash buyers of the shares they would have made a 6% return. A 3% margin provides a trading leverage of approximately thirty three times the initial deposit or 1:33. Initial Margin for share CFDs is calculated on a percentage basis.
This is the difference in margin requirement once you have opened a position, and provides for trading profits and losses.
Example
You buy 2000 Company A CFDs, at 140.25. This provides a notional position of 2000 x 140.25p = £2,805. Company A is margined at 5% so you would need at least £140.25 Initial Margin to hold this position. If Company A's price goes down to 138, you would now show a loss on your account of £45 (2.25p lost at 2000 CFDs). This loss (known as variation margin) is subtracted from the Initial Margin of £140.25, leaving a deposit of £95.25 However, you still hold Company A at a position of 2000 CFDs now at 138. This gives a notional value of £2,760 (i.e. 2000 X 1.38). Knowing that Compnay A has a 5% margin requirement, you would need a minimum of £138 Initial Margin to cover this position. As your Initial Margin is now only £95.25, you are in deficit margin by £42.75. This shortfall or deficit is known as Shortage in Equity, and you will be required to add additional funds to maintain the position.
If the market moves against you and your Equity Balance (see below) falls below your margin requirement you have the option to:
i) Close one or more of your open positions, in order to reduce your margin requirement to the required level; and/or
ii) Immediately deposit sufficient funds into your account to meet the margin requirements. In the event that you fail to meet the margin requirement then your open position(s) may be automatically closed.
Please note: It is your responsibility to ensure that you have sufficient funds on account to meet your margin requirements. You will generally be contacted by phone or email for more margin when the need arises, however, it remains your responsibility to ensure that there is enough free equity to hold your open positions. Should your position prove untenable then liquidation orders may be placed on your account to automatically close your positions at prevailing market prices. You will be liable for any loss as a result of such liquidation.
The equity (or balance) on your account will fluctuate according to the money you have deposited in your account and your profit or loss from trading activities. During the trading day your account balance(s), including all open positions, are valued against the prevailing market bid/offer spread and your equity balance is constantly calculated in line with market movements. The equity balance on your end-of-day statement is calculated using the closing prices of the trading day.
Please Note: You will only be allowed to trade and maintain open positions on the basis of cleared funds on your account, not on promised funds or funds in transit.
Once the stop-out level has been triggered, you will not be allowed to trade on your CFD account until the Equity Balance is restored to meet the margin requirement. Margin calls can be made at any time during the day and alternative payment arrangements must be made if you cannot be contacted or if you are travelling.
Profits made on your trading activities increase the Equity Balance on your account. Any surplus equity may be withdrawn from your account upon request. Losses made on your trading activities decrease the Equity Balance on your account, and hence the margin available for trading or holding positions.
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Securities and Derivatives markets may be subject to rapid and unexpected price movements and past performance is not necessarily a guide to future performance. Trading in these markets is generally considered to be suitable only for the more experienced investor as it carries a high degree of risk. An investor may not receive back the amount of their original investment and in certain circumstances may be liable for a sum that is greater than their original investment. If in any doubt, please seek independent financial advice.