There is great speculation as to whether or not Contracts for Difference or CFDs are an investment vehicle for the long term buy and hold investor. Today we’ll take a look at some of the key reasons why long term buy and hold investors could benefit from trading CFDs.

Using CFDs as a risk protection strategy on your existing portfolio

What many retail investors and traders don’t understand is that Contracts for Difference are often used by professional money managers as a risk protection tool. You see if you own say 5,000 Woolworths shares and you don’t want to sell them, then one option is to take out a short CFD position for 5,000 CFDs. This means every time WOW shares rise or fall, your portfolio doesn’t make or gain any money. You’ve effectively hedged your position once you short say the equivalent amount of CFDs short.

One of the benefits of this type of strategy is that your CFD broker will pay you interest every day you hold your position short. They normally pay you 2-3% less than the current cash rate. So if the current bank rate is 3.5% you might earn 1.5% per year. It’s not much, but it is a credit to your account nonetheless.

Use CFDs instead of options to protect your downside risk

One of the disadvantages with option trading is that in Australia you need to own parcels of 1,000 shares and when you buy or write options it is done on 1 contract being the equivalent of 1,000 shares. If you are used to hedging your portfolio using put options then you are limited to blocks of 1,000. What happens if you own 3,468 shares of BHP. How can you hedge that amount? You either have to take out 3 or 4 put option contracts and as you can see that is not a perfect hedge.

This is one of the many great benefits of using Contracts for Difference

Instead of worrying about a possible short fall when buying the put option for 3 contracts you can simply short sell the exact quantity in CFDs. Many long term buy and hold investors will turn to options to protect a blue chip portfolio and with the ease and flexibility of CFDs you can now have much more control over your portfolio and earn interest for every day you are short.

So as you can see I have outlined 2 pretty powerful ways for long term investors to utilize CFDs on their portfolio. With such flexibility you should see how CFDs can benefit you.

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