Top 10 Trading Mistakes with CFDs
June 2013
Over leverage - the biggest killer of CFD trading accounts Averaging down - never fall in love with a stock If a share drops by 30% - you need it to rise by 43% just to break even

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TOP 10 TRADING MISTAKES | 24 MAY 2013

10
5 June 2013 #1 Too Little Preparation
Many people start trading without a trading plan, thinking they can beat the market. You need to set out your rules of trading and guiding principles. At least covering major components like methods of trading, method of identifying positions to trade, entry and exit rules, risk management and trading reviews. Treat your trading like a business. Have a business plan. Set goals and understand what you want to achieve and answer the following questions: 1) Why are you trading? To make money? If that is your answer think again. How will you make that money?

Disclaimer

Trading Mistakes with CFDs

No responsibility for loss occasioned to any person or corporate body acting or refraining to act as a result of reading material in this publication can be accepted by the publisher, sponsor or author. The author may have a position in any or all of the speci c investments or investment categories mentioned in this publication. MarketViews™ is a dianomi service and some of the companies or investments mentioned may be clients of dianomi.

Most investors believe trading mistakes only happen to other people. However, the reality is that the vast majority of investors make them frequently. To help you consider the best course of ac-­ tion when trading or just to refresh your memory, below are some of the main mistakes to avoid. What percent returns are you expecting? Note that the more money you risk, the higher the potential return but also the higher potential losses. What kind of losses can you stomach? What kind of losses will keep you up at night? 2) What products will you trade? shares? FX? commodities? indices? Obviously you cannot be an expert in all off these areas so you should really consider which areas you are comfortable trading in. In fact, you should only trade what you know. With a multitude of products available to trade, it is tempting to trade all sorts of products that you may have no experience in at all. So, for example, if you are a regular share trader and want to trade CFDs, then you should trade share CFDs. 3) What are the value of CFD contracts? How are they structured? Did you know that 1 FTSE contract at the 6500 level is a total exposure of £65,000 and 10 contracts is £650,000.

#2 Not using Stop-­Loss
If you are day trading you may need tight stop-­losses to avoid excess losses. If you are trading more strategically you may need wider or no stop-­losses and smaller positions. For example, if you buy £50,000 of Vodafone on a day trade, you should consider a stop-­loss of 2% rather than a 10% stop-­loss you might use if you were buying Vodafone as part of a longer term trade.

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TOP 10 TRADING MISTAKES | 24 MAY 2013

#3 Over Trading
There are two forms of over trading: frequency and open positions. Today there is an abundance of information available to the investor whether received via a newspaper, trading magazine, investor website, trading signal program/platform or direct from your broker. All of these sources create trading ideas for the investor to consider. You need to remember that you have the choice as to which ideas you will trade and how many. The more you trade the higher the risk. But rest assured that there will be more opportunities tomorrow. A result of trading too often invariably means that you may end up holding too many positions in the hope that they will all eventually affects your decision making process. Frequently, making your positions unmanageable.

You need to consider how much you will be trading within your trading plan and review your frequency regularly and do not stray too far from your set trading limits. Over trading is easily done. Ask yourself why you are entering and exiting positions. If you have a formula and rationale then you should stick to it. The emotion of making and losing money may often yourself making it up as you go with little plan behind your trading.

“Trading using leverage carries a high degree of risk to your capital, and it is possible to lose more than your initial investment.” is given for a reason. In our opinion over leverage is the biggest killer of CFD trading accounts. Let’s look at a scenario: You have £10,000 in CFD account and you buy 10 FTSE contracts at £10 a point when the FTSE is at 6500. That’s £650,000 of exposure. If the FTSE drops by 1.53 % (which it does regularly). You will have lost £9,945, almost the entire value of your account. This is a classic case of over leverage. You are not allowing market movements.

#4 Over Leverage can lead to the costliest mistake. You have the ability to trade large exposure with a small margin requirement, but this does not mean you have to use the maximum that

#5 No Trading Diary
(value) of your positions and not the initial margin. Always look at maximum exposure of all of your positions and the potential losses of these positions. The risk warning It is important to keep a trading diary when you are trading. When you make a trade, record: -­ Why you bought the share -­ Where you read about it -­ When did you plan to sell it

trade or make a loss, it is important to analyze the trade. Was it a good share pick? Did you stick to your plan? Was the source for the trading tip of value? Is this a trade that you want to repeat? All of the answers will help you develope a better trading discipline and improve your trading in the future. Notably legendary traders like Warren Buffet are merciless with

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TOP 10 TRADING MISTAKES | 24 MAY 2013

themselves in analyzing their trades and accepting responsibility for bad decisions.

#6 Expensive Egos
Do you want to prove yourself right or do you want to make money. No one likes to be proved wrong. In fact, we always think we are right and the market is wrong, but this can be a very expensive habit. When the market moves against our convictions, we have to face the fact that our assumptions may have been wrong and learn from the trade. Instead, many individuals dump more and more money into a losing trade, convinced that they are right and the market is wrong. At times like this, it is useful to remember two quotes from John Maynard Keynes: “Markets can remain irrational a lot longer than you and I can remain solvent.” and “When my information changes, I alter my conclusions. What do you do, sir?”

The math relating to getting back to break even may surprise many traders not accustomed to it. If a share drops 20%, you need it to rise by 25% to get back to break-­even. If a share drops 30%, you need it to rise by 43% to break-­even. If a share drops 40%, you need it to rise by 67%. And of course if a share drops by 50%, you need it to rise by 100%. How likely is it that a stock, which has just dropped by 50%, is likely to double in value? Cutting losses early is key to successful trading. Never fall in love with a stock.

we have seen substantial and sudden drops. When this occurs your losses can accumulate very quickly. Having short positions in your portfolio can reduce your risk if used properly. Other defensive strategies include Pairs trades. For example, Let’s say you think Tesco’s price will rise and Sainesbury’s will drop. You could go long Tesco (buy) and go short on Sainsbury (sell). This can take out some of the market risk as you are trading the difference between the two prices.

#8 Long only portfolios
If you only have long positions in your portfolio, your entire strategy is based around one trading idea that the market will only go up. This long when the whole market goes down all your positions will lose money. You are missing an essential investment tool that allows you to be able to your portfolio and have the option to pairs trade. This means varying your portfolio with both long and short positions so that your investments are more balanced. Investors should be aware that in a short position the risks can be very large indeed and are in effect unlimited as the value of an

#9 Unrealistic Expectations
You will hear of people doubling their money or see adverts claiming you only have to trade for 15 minutes a day and you will no longer have to work. Anyone can double their money just visit a casino and choose red or black, but the risk is everything you stake. Your trading plan should have to achieve and what you are prepared to risk. This should tell you whether the trade is right. Many clients expect to achieve very high rates of returns. You need to be realistic about what you are trying to achieve. It would be naive for example to expect to generate an income of £2,000 per month from an investment of £10,000.

#7 Averaging down
We have all been there. It’s a great stock. We know all about it. It has good fundamentals and a growth story. Now, for some unknown reason it tumbles down 30%. We buy more because at this price it’s an even better deal and when it bounces back we will be able to make up for the initial loss. Then, the share drops another 20%.

Long only positions work well in a market that is moving up, however

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TOP 10 TRADING MISTAKES | 24 MAY 2013

#10 Taking too much risk
CFDs are high risk and you need to should stem from your trading plan. You should only be trading with what you can afford to lose. Then your rules of trading and guiding principles should be followed when considering: exposure, open positions, whatever tools your platform provides such as stop losses, guaranteed stop losses and trailing stop losses. Always run through your trading plan before you place a trade. Finally if you are risk adverse or do not have funds that you can afford to for you and you should not consider trading these products.
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TOP 10 TRADING MISTAKES | 24 MAY 2013

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Guardian Stockbrokers Risk Policy
It is Guardians’ policy that all CFD advisory clients, should be provided with the following two-way risk warning notice: You should not deal in CFDs unless you understand their nature and the extent of your exposure to risk. You should also be satis ed that the product is suitable for you in the light of your circumstances and nancial position. Although CFDs can be utilised for the management of investment risk, it may not be suitable for some investors. In deciding whether to trade in CFDs, you should be aware of the following points: (i) CFDs can only be settled in cash. Investing in a CFD carries the same risks as investing in a future or an option or other derivative product. Transactions in CFDs may also have a contingent liability and you should be aware of the implications of this as set out below. (ii) Contingent liability investment transactions, which are margined, require you to make a series of payments against the purchase price, instead of paying the whole purchase price immediately. If you trade in contracts for di erences, you may sustain a total loss of the margin you deposit with your rm to establish or maintain a position. If the market moves against you, you may be called upon to pay substantial additional margin at short notice to maintain the position. If you fail to do so within the time required, your position may be liquidated at a loss and you will be responsible for the resulting de cit. Even if a transaction is not margined, it may still carry an obligation to make further payments, in certain circumstances, over and above any amount paid when you entered the contract. Before you begin to trade, you should obtain details of all commissions and other charges for which you will be liable. If any charges are not expressed in money terms (but, for example, as a percentage of contract value), you should obtain a clear and written explanation, including appropriate examples, to establish what such charges are likely to mean in speci c money terms. In the case of futures, when commission is charged as a percentage, it will normally be as a percentage of the total contract value, and not simply as a percentage of your initial payment. Guardian Stockbrokers 14 City Road, London, EC1Y 2AA T. 020 7638 6996 F. 020 7638 6997 E. info@guardianstockbrokers.com Guardian Stockbrokers Limited registered in England and Wales. Company No. 6756375. Registered o ce: 43–45 Dorset Street, London W1U 7NA. Authorised and regulated by the Financial Conduct Authority (No. 492519).Exedra Capital Ltd is a subsidiary of dianomi™ and an Introducer Appointed Representative of Guardian Stockbrokers.

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