Indices Trading

Indices Trading Example 1 – Long Position in UK100

Taking the UK100 as an example, the price is quoted at 5773.4/5774.4 and you buy 10 contracts as a CFD at 5774.4, which is the offer price.

While your position remains open, your account is debited to reflect interest adjustments.

Interest Adjustments/Financing Charges

The interest cost of your position is calculated daily, by applying the applicable interest rate to the daily closing value of the position. The daily closing value is the number of contracts multiplied by the closing price.

In this example, if we take the interest rate charged to be 3.5% and the closing price of the index on a particular day to be 5775.5; the closing value of the position would be £57,755.

So the interest cost for the position for this particular day would be £5.54 (i.e. £57,755 x 3.5% / 365).

Each day's interest calculation will be different. Interest adjustments are calculated and posted to your account daily.

Closing the Position

Assume that the price of the UK100 rises to 5840.5/5841.5, and you decide to take your profit. You sell 10 contracts at 5840.5, which is the bid price.

Your profit on the trade is calculated as follows:

Profit = (Closing Price – Opening price) x Number of contracts

Therefore, profit equals:

(5840.5 – 5774.4) x 10 = £661.

Calculating the Overall Result

To calculate the overall profit on the transaction you also have to take account of financing charges that have been credited or debited. In this example, you may have held the position for 10 days at a total interest cost of £55.

So your total profit is calculated as follows:

(Profit on Trade) – (Interest Adjustment).

(£661) – (£55) = £606

Index Trading Example 2 – Short Position in US30

Taking the US30 as an example, the price is quoted at 13336.0/13340.0 and you sell 10 contracts as a CFD at 13336.0,  which is the bid price.

While your position remains open, your account is credited to reflect interest adjustments.

Interest Adjustments/Financing Charges

The interest charge of your position is calculated daily, by applying the applicable interest rate to the daily closing value of the position. The daily closing value is the number of contracts multiplied by the closing price.

In this example, if we take the interest rate credited to be 2.5% and the closing price of the index on a particular day to be 13334.5; the closing value of the position would be $133,345.

So the interest credit for the position for this particular day would be $9.26 (i.e. $133,345 x 2.5% / 360).

Each day's interest calculation will be different. Interest adjustments are calculated and posted to your account daily.

Closing the Position

Assume that the price of the US30 rises to 13360.5/13364.5, and you decide to cut your losses. You buy 10 contracts at 13364.5, the offer price.

Your loss on the trade is calculated as follows:

Profit = (Opening Price – Closing price) x Number of contracts

Therefore, loss equals:

(13336.0 – 13364.5) x 10 = -$285.

Calculating the Overall Result

To calculate the overall profit on the transaction you also have to take account of financing charges that have been credited or debited. In this example, you may have held the position for 3 days at a total interest credit of $27.

So your total profit is calculated as follows:

(Profit on Trade) + (Interest Adjustment)

(-$285) + ($27) = -$258


Benefits of Trading Indices

The most popular index to trade is the Dow Jones Industrial Average as this index comprises of 30 of the most well-known companies in the world. Although, in Europe both the DAX and FTSE100 are very popular indices. The FTSE100 is heavily weighted towards commodity related companies so commodity prices play an important part to the index with BG Group, BHP Billiton, BP, Rio Tinto and Royal Dutch Shell comprising approximately 50% of the index; whereas the DAX is more reflective of German manufacturing.

In a Price-weighted index such as the Dow Jones Industrial Average, the price of each component stock is the only consideration when determining the value of the index. This means that price movements of even a single company's stock could potentially heavily influence the value of the index, ignoring the relative size of the company as a whole.

Conversely, a market-value weighted or capitalisation-weighted index, such as the Hang Seng Index, factors in the size of the company. Therefore, a relatively small shift in the price of a large company will influence the value of the index more than a similar price movement of a smaller company.

There are many equity indices globally. The US has the Dow Jones Industrial Average, the S&P 500 and the NASDAQ, for the UK there is the FTSE100 and for Japan we have the Nikkei. Instead of having to carry out a great deal of equity research in order to select the right individual stock to trade, you can take a position, either long or short, on the overall national market index.

You can get greater leverage through taking a position on an equity index than by trading the individual shares.

There are a number of great benefits to index trading compared to other types of market trading:


Invest in broad markets

Index trading allows you to participate in broad market moves with just one trading decision. This way, you don't have to select individual issues.

Low margin, better leverage

Index trades allow investors to operate on margin, which means that in order to take a position, only a fraction of the total value needs to be available in a trading account.


Liquidity

Like FX and Commodity trading, index trading is a very liquid market as there are many market participants.


Control

Major indices are so large and heavily traded that they are beyond the financial control of any individual participant. Even governments, who may intervene heavily to influence the short-term direction of their economy through methods such as quantitative easing, cannot easily control the underlying trend if it’s already strongly negative..


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