How to Hedge With CFD Trading

LONDON, October 6, 2010 - For many traders, CFD trading is purely taking a position on the price
movements of financial markets. For others, however, CFD trading
(www.cityindex.co.uk/cfd-trading/) is the ideal hedging tool to help
protect their investment portfolios.

The principle behind using CFD trading to hedge is one of
cost-efficiency. For instance, let us say an investor possesses GBP5,000 of
Vodafone shares. If that investor suspects that the share price might decline
over the coming months, they could sell their shares, wait for the value to
fall and then repurchase the shares at a cheaper price. The problem with this
method is that it can be a costly one, involving 0.5% stamp duty, two lots of
dealing commission and potentially capital gains tax.

CFD trading hedge example

If the same investor was to apply CFD trading to their situation, they
could 'hedge' their position by short selling Vodafone on a CFD trade. If the
buy-sell price was 2500-2500.1p, the investor would go short with a CFD trade
of GBP2 per point (GBP5,000 divided by 2500).

From this position, the investor will either make GBP2 for every point
that the index falls, thus covering the near-equivalent loss of their
portfolio, or they will lose GBP2 for every point that the index rises, a
deficit balanced out by the near-equivalent increase in value of the Vodafone
shares they own. In other words, by hedging their bets with a CFD trade, the
investor retains almost all of the original GBP5,000 value of their portfolio
even if the portfolio itself does not. (Example sourced from
www.cityindex.co.uk).

The only cost incurred by the investor in this hedging process is Capital
Gains Tax, meaning that any gain they make from the CFD trading side of the
hedge is taxable. Conversely, however, you can use any losses you incur to
offset against your Capital Gains Tax (CGT) liabilities. With no costs to
consider beyond the commission for the opening and closing of each trade and
with no spread added to the buy/sell price, hedging via CFD trading is a very
attractive proposition. You can find more on CFD trading risk management at
www.cityindex.co.uk/cfd-trading/how-to-manage-risks.aspx.

CFD trading can also be used to hedge a favourable exchange rate for your
holiday via forex. In this case you would open a CFD trade of GBPX per point
on selling price Y of the relevant currency pair (X multiplied by Y = your
predicted spending money). This creates a balance whereby if the exchange
rate moves up, then your CFD trade makes a loss but you regain the difference
through the better exchange rate, and vice versa.

Clearly, this technique will never make you actual profit, but that is
not the idea of hedging. The aim is to protect your investment by ensuring
that you roughly break even regardless of what the markets do.

CFD trading carries a high level of risk, but an understanding of it
might prove a vital piece of armoury in your investment activity. A CFD
trading seminar (www.cityindex.co.uk/learn-to-trade/seminars.aspx)
could be the ideal place to start.

To learn more about CFD trading and hedging with CFD trades, visit
www.cityindex.co.uk/cfd-trading/what-is-cfd-trading.aspx.

Spread betting and CFD trading are leveraged products which can result in
losses greater than your initial deposit. Ensure you fully understand the
risks.

Spread betting and CFD trading are exempt from UK stamp duty. Spread
betting is also exempt from UK Capital Gains Tax. However, tax laws are
subject to change and depend on individual circumstances. Please seek
independent advice if necessary.

Joshua Raymond, City Index Group, Tel: +44(0)20-7107-7002, Email: joshua.raymond(a)cityindex.co.uk; Jonathan Smith / Alex Nekrassov, New Century Media, Tel: +44(0)20-7930-8033, Email: jsmith(a)newcenturymedia.co.uk / alexnekrassov(a)newcenturymedia.co.uk