During the last few years CFDs have become one of the most popular methods of trading and investing. In this article we take an in-depth look at CFD Trading on eToro and tell you what you need to know.
CFDs have a number of key advantages:
Here’s a quick summary:
- Use leverage
- Go short
- Access to assets you wouldn’t usually get access to
- Avoid taxes
- Hedge
Sounds good so far, but as with anything in life, they also come with a number of disadvantages.
Number one being the fact that you can loose money if you don’t know what you are doing. In fact, even if you do know what you are doing there’s still a risk of big losses.
Because of this all CFD providers need to provide a disclaimer and eToro is no different, so before we get going it is worth reading and digesting eToro’s disclaimer:
CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 76% of retail investor accounts lose money when trading CFDs with this provider. You should consider whether you understand how CFDs work, and whether you can afford to take the high risk of losing your money.
In other words, it pays to be sure you know what you are doing before you start using CFDs, especially if you intend to trade with leverage!
What is a CDF?
CFD stands for contract for difference.
A contract for difference or CFD is a contract between two parties based on the difference between an asset’s present and future price.
Essentially a buyer is obligated to pay a seller the difference between the current value of an asset and its value at some agreed point in the future.
Traditionally you need to own an asset to profit from that asset’s price movement. However, CFDs enable you to profit from price movement without owning the underlying asset.
In other words, you don’t own the asset but can still make or loose money based on the price movement of that asset.
How is does this contract work on eToro?
A CFD is a contract between a client and a broker. When CFD trading on eToro you are the client and eToro is the broker.
A CFD requires two trades. Firstly, you enter an opening trade with eToro at one price. This initiates an open position. Then at some point in the future you close this position. The price at the time the position is closed determines whether you have made money or not.
For example, let’s say you wanted to buy some Apple stock and the stock price is $100. You could simply buy the stock itself i.e. you don’t use a CFD. And let’s say you kept hold of this stock for a year and the price increased to $150. When you sold the stock you would have made $50.
However, an alternative is to open a CFD long position. Opening a long position when the stock price is $100 and closing a year later when the stock price is $150 will give you exactly the same results as buying the actual stock. You still make $50.
Both of these transactions may have some fees involved which I’m ignoring to keep things simple for the time being, but you get the picture. Opening a CFD long position is similar to buying the underlying asset.
Going short
Of course, CFDs aren’t just limited to going long. You can also open a short position too.
In just the same way you opened a long position when shares in Apple stock were selling for $100, you could also open a short position. In this instance, you’d be expecting the price to go down and if it did go down, you’d make money.
Let’s say you kept a short position open long enough for the price of Apple stock to go down to $50 per share at which point you closed your position. You’d also make $50 (ignoring fees again).
So just to be clear. There are two key trades you can make with CFDs: Long and short.
If you open a long position and the underlying asset price increases, you’ll make money, but if it decreases you’ll loose money.
If you open a short position and the underlying asset price decreases, you’ll make money, but if it increases you’ll loose money.
There will also be fees involved that take away from your gains and increases your losses.
What assets are available in CDF format?
You can trade the following assets using CFDs:
- Commodities
- Cryptoassets
- Currencies
- Indicies and ETFs
- Stocks
*You can buy actual stocks, ETFs and cryptocurrency on eToro not using CFDs if you want to. In fact you can buy and sell stocks and ETFs commission free
(Your capital is at risk. Other fees may apply. For more information, visit etoro.com/trading/fees)
Preparations to make before trading
CDFs can be a lot of fun, and enable you to carryout interesting trades, but if you want to do it right, you’d better prepare.
Here’s a few steps you can as a minimum:
- Read this guide thoroughly. Then do lots of additional research. Then do a bit more. Seriously, there are plenty of sources of info out there. There’s also loads of information on eToro’s own site that you could use to bolster your knowledge even further.
- Open an account at eToro but remember 76% of retail investor accounts lose money when trading CFDs with this provider so don’t just start trading. That comes later!
- First, switch your account to virtual mode (See below for instructions on how to do this).
- Decide what kind of CFD trade you want to undertake.
- Then practice this trade in virtual mode.
- If there’s something you don’t understand about your trade. Do some more research and practice until you fully understand it.
- After that, you are ready to trade but remember start small. Use the minimum amount of money you can and make sure it is money you can totally afford to loose because there’s a good chance you’ll loose some if not all of it!
- Once you know what you are doing and have experienced both virtual and real trading with small amounts of money, you can try increasing the trade size.
How to switch your account to virtual mode on eToro?
Switching to your virtual account on eToro is pretty straightforward. All you need to do is complete the following steps:
- Log in to your eToro account
- Click the drop-down menu located below your profile picture
- Choose Virtual Portfolio
- Confirm your choice
To switch to your real account compete the above steps in reverse, choosing Real Portfolio.
How to trade your first CFD
Let’s say you want to trade a stock market Index on eToro. These include the FTSE100 index, S&P 500, DAX 30, NASDAQ 100 Index for example.
To open (begin) your trade carryout the following steps.
- Select the MARKETS page, and then choose INDICES which will show you all available indices
- Choose the index that you want and then select TRADE. In this example we’ll choose DJ30.
- Choose BUY or SELL depending on your intended trading direction. Remember, if you choose SELL you need the price to go down to make money, and if you choose BUY you need to price to increase to make money.
- Enter the number of UNITS you would like. The more UNITS the more money you will commit to the trade. In the beginning it makes sense to choose the minimum number of UNITS available, which will limit the amount of money you can loose if the trade goes against you
- Adjust the CFD parameters STOP LOSS, LEVERAGE, and TAKE PROFIT according to your requirements (each of these are discussed in more detail below but in the beginning as a minimum you want to set LEVERAGE as low as possible)
- Select OPEN TRADE (you now have an open trade that can make or loose you money!
To close (end) your INDEX trade on eToro carryout the following steps:
- Select PORTFOLIO which will show you all your current open positions.
- Click on DJ30 (which was the trade we opened above). This will show you a breakdown of all your individual positions. (For example if you buy 100 units of DJ30 one week and then buy another 100 units of DJ30 the week after, these will be two separate positions).
The next steps depend on which version of eToro you are using.
On the web edition of eToro —> click on the red X beside the position you intend to close, and then click CLOSE TRADE.
On the mobile edition of eToro —> swipe left on the position you want to close and tap the red x, and then tap CLOSE TRADE.
What is stop loss?
If you open a BUY position without LEVERAGE, you don’t need to use STOP LOSS. However, all other positions include STOP LOSS so it pays to understand how it works.
The STOP LOSS feature on eToro is designed to limit your loss on an investment. It is essentially a risk management tool. It enables you to set a limit. When your trade reaches this the limit the position is automatically closed.
Let’s say you open a BUY position because you expect the price of a stock to increase. If the price increases you will make money. However, there is always the risk that the price could decrease. In which case, you’d loose money.
Let’s say you buy one share of Apple at $150, and out of nowhere Apple goes bankrupt and the price drops to $0. Unlikely I know. But if it did happen you’d loose all your money. However, if you set a STOP LOSS at say $50, your position would automatically close once you’ve lost that amount, which would limit your loss to $50.
How to use stop loss?
When you open a position a pop up window opens. STOP LOSS is located in the middle of the window to the left.
After you click on STOP LOSS, you can then adjust according to your requirements.
You can do this according to a specific rate in the market by using the +/- buttons or you can click on amount and enter a monetary value. This is perhaps more intuitive in the beginning.
Setting the STOP LOSS to $500 means that if the trade loses $500 STOP LOSS will automatically kick in and close the position thus limiting your losses.
If you open open a BUY position without leverage you have the option to remove STOP LOSS by clicking No SL (bottom right hand corner).
It is possible to adjust the STOP LOSS throughout the life of a trade.
What is take profit?
If you open a BUY position without LEVERAGE, you don’t need to use TAKE PROFIT. However, all other positions include TAKE PROFIT so it pays to understand how this works too.
A TAKE PROFIT order is more or less the opposite of a STOP LOSS order. It is a risk management tool to ensure you get your profits. Like STOP LOSS, you set a limit and when the price reaches that limit the position automatically closes.
Let’s say you buy a share of Apple for $150, then in the preceding days the price goes up to $250. So far so good, but then Apple runs in to some trouble and the share price suddenly drops to $100 per share. Unless things change you’ve lost $50.
However, if you had set a TAKE PROFIT order (sometimes called limit order) at $75 your position would have been closed when your share of Apple reached $225, netting you a $75 profit.
How to use take profit?
When you open a position a pop up window opens. TAKE PROFIT is located in the middle of the window to the right.
After you click on TAKE PROFIT, you can then adjust according to your requirements.
You can do this according to a specific rate in the market by using the +/- buttons or you can click on amount and enter a monetary value. This is perhaps more intuitive in the beginning.
Setting the TAKE PROFIT to $500 means that if the trade makes $500 TAKE PROFIT will automatically kick in and close the position and bank your profits.
If you open open a buy position without leverage you have the option to remove TAKE PROFIT by clicking No TP (bottom right hand corner).
It is possible to adjust take profit throughout the life of a trade.
What is leverage and how does it work specifically on the eToro platform?
LEVERAGE (sometimes termed gearing) is essentially borrowing money. It enables you to open bigger trades with less money, and more importantly, it has the potential to provide bigger profits.
However, in just the same way you can make more money, you can also loose it. As the chance to gain more profit is increased so is the likelihood of loosing money.
If the price of a non leveraged investment of $100 moves up by 10% you’ll have $110. If you close the position you make $10. However, if the price went down by the same amount, you’d loose $10 and be left with $90.
Let’s say you instead invested your $100 with x10 LEVERAGE. For trading purposes, the value of your $100 is increased to $1000.
So that 10% price movement has much more of an impact. $1000 x 10% is $100, so a 10% increase in price would increase your original balance by $100. Remember you only invested $100. The rest is borrowed so if the price went up 10% you’d double your money.
Of course, if the price goes up this is great. The problem is, the price can go down too, and in reality 10% moves up or down aren’t that rare for many types of assets.
In this example, only a 10% decrease in price would totally wipe you out!
The good news is eToro has Negative Balance Protection (see below for an explanation). This means your eToro account balance can’t go negative, but that doesn’t mean it can’t go to zero. Using leverage increases the chances of this.
So it pays to be sure you know what you are doing before you start and also to fully understand the implications of using leverage.
Increasing knowledge, practicing and starting small will all help to control risk.
Increase Knowledge
The more knowledge you have, the more chance you have of completing trades successfully, and at the same time, the less chance you have of making big, costly mistakes.
Practice before you trade
Practicing trades in eToro’s virtual mode is a great way to familiarise yourself with how to trade. You can make as many trades as you like without loosing money.
When you trade start small
You can only loose the amount you trade. Keeping trades as small as possible, at least in the beginning is a great way to protect your wealth.
Even professional traders can get into trouble using LEVERAGE. When you hear of big hedge funds getting wiped out, excessive LEVERAGE is always involved. Perhaps the biggest examples being Long Term Capital Management (LTCM), and more recently Archegos.
Long Term Capital Management was a single hedge fund filled with the best talent on Wall Street including multiple Nobel Prize-winning economists. Their use of LEVERAGE almost brought down the entire financial system. When Genius Failed, is a great read if you are interested.
More recently Bill Huang’s Archegos cost Credit Suisse $4.7 billion, Morgan Stanley nearly $1 billion and Nomura $2 billion and caused multiple companies stock prices to decline!
So at this point it’s worth just reiterating eToro’s disclaimer about CFDs and LEVERAGE:
CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 76% of retail investor accounts lose money when trading CFDs with this provider. You should consider whether you understand how CFDs work, and whether you can afford to take the high risk of losing your money.
What is x1 leverage?
Now, whilst leverage makes sense to most people, and the common way of describing it x10 seems pretty intuitive ie 10 times as much as you put in, many people still question eToro’s use of x1 LEVERAGE.
Let’s face it. That name is more than a little confusing. But don’t worry. It is actually quite simple. x1 LEVERAGE means no leverage.
What is margin trading?
MARGIN is the amount needed in to undertake a leveraged deal. If you wanted to invest $10,000 in Google stock leveraged 1:10, the MARGIN would be $1000, which means you’d need to invest $1000.
MARGIN takes account of spreads, leverage and currency conversion.
How to use leverage when trading?
When you open a position a pop up window opens. LEVERAGE is located in the middle of the window.
After you click on LEVERAGE, you can then adjust according to your requirements.
Just choose the correct amount of LEVERAGE. In the following example (Pic below) you’ve got a choice of X1, X2, X5 and X10. These options will depend on the asset in question.
A $100 position at X5 means you are using $100 to invest the equivalent of $500.
And don’t forget – it is possible to trade CFDs without LEVERAGE using X1.
Below the LEVERAGE options available there is a warning “Higher leverage means higher risk,” that is worth noting.
What is Negative Balance Protection?
So we’ve established that using leverage can be a great thing to do when the price direction moves in your favour, but not so much if the price moves against you.
The real possibility of loosing all your money exists. However, as bad as that is, that’s where it should end if you use eToro, because of Negative Balance Protection.
In theory, your eToro account balance could become negative. Say all your funds are invested and then your suffer big losses and get wiped out. Depending on exactly what trades you had active, there maybe some charges applied to your account. This means the possibility of your equity turning negative exists.
ie 0 balance and then fees are taken by eToro meaning your account balance is negative. Ouch!!!
However, this can happen. If it did occur, eToro will simply undertake a margin call, close your trades and reset your equity to zero. The losses over and above your equity going to zero will be absorbed by eToro.
What are the advantages of CFD trading on eToro?
Here are the key advantages of trading CFDs on eToro.
- Leverage: You can use more leverage – as explained above. Using leverage enables you to make bigger trades with less money. This is a massive advantage if the price moves in your favour.
- Shorts: It’s easy to short sell using CFDs, which in theory means you have more potential to profit in bear markets or stock market crashes. Shorting a plunging stock price has the potential to produce large profits. You can also use shorting to hedge your investments.
- Diversification: There are more options for you to choose from. This enables you to invest in different types of asset, and in doing so, enables you to diversify. And by diversifying you avoid putting all your eggs in one basket.
- Trade size: You can invest smaller amounts of money.
- Convenience: Increased ease of execution
- Taxes: A CFD is a derivative instrument, so not subject to all the taxes applicable to the underlying assets. For example, unlike with buying shares there’s no stamp duty to pay.
What are the disadvantages?
You’ll notice some of the advantages from above also turn out to be disadvantages below!
- Leverage: You can use more leverage – Using leverage enables you to make bigger trades with less money. This is a massive advantage if the prices moves in your favour, but also a massive disadvantage if the price moves against you. Many a professional have got themselves in to serious trouble using too much leverage.
- Shorts: It’s easy to short using CFDs, but just because it is easy to short doesn’t mean it is easy to make money shorting. Shorting only makes money if the stock price goes down. It you get it wrong you can lose all your money fast. Think of it this way. If you go long the worst thing that can happen is the stock price goes to zero. However, if you short a stock and the price suddenly skyrockets in theory there’s no limit to your loss. In practice mechanisms like eToro’s negative balance protection kick in (but you could still loose all your money).
- Costs: CFDs have some fees attached to them like overnight fees that can add up over long periods of time. Additionally, there are spreads between the buy price and the sell price. Sometimes these can widen meaning it can be expensive to trade.
- Overtrading: Because CFDs are easy to trade there is a risk of over trading. You trade because you can rather than because there is a good investment opportunity in front of you.
- Lacking Ownership: With CFDs you don’t own the underlying asset.
What else can you do with eToro?
Though plenty of people just use eToro as a CFD trading account, plenty of others don’t. eToro has all sorts of options available but three worth mentioning are CopyTrader, Cryptocurrency and commission Free Stocks and ETFs.
eToro is a social trading platform. Alongside communicating with other investors/traders through messaging and commenting you can also copy successful investors’ trades.
If you do you due diligence and find a good investor to copy, you can just sit back and let them do all the work. You’ll automatically buy when they buy or sell when they sell. It’s a bit like investing with an experienced hedge fund manager but without the high fees. In reality, you can also use this as part of your learning process. Essentially, you watch how the pros do it!
Unlike many brokers you can purchase cryptocurrency on eToro. The platform gives you access to all the popular cryptocurrencies and also has unique cryptocurrency products such as crypto funds and the ability to copy the trades of successful crypto traders using the CopyTrader feature described above.
Last but not least you can buy stocks and ETFs commission free on eToro. In short, you could put together a globally diversified portfolio of stocks and bonds together for seriously low costs.
You can read about that here (Your capital is at risk. Other fees may apply. For more information, visit etoro.com/trading/fees)
Fees
The key fees for CFD trading are spreads and overnight fees.
Spreads
The spread is the difference between the buy price and the sell price. The difference between the two is a way for stock brokers to make money.
Spreads are usually shown as a percentage or in PIPs. PIP means percentage in point, which is the smallest price change that a given exchange rate can make. It refers to the very last digit in price.
Typically, a pip is equivalent to one hundredth of a percent, or the fourth decimal place (0.0001). There is the odd exception such as the Japanese Yen, where the PIP is the second digit after the decimal point but generally when we are talking about PIPs we are talking about one PIP being 0.0001.
So if we were talking dollars that would be $0.0001.
There’s a PIP calculator here if you want to calculate the cost of your trades in terms of PIPs, but many of eToros spreads are shown in terms of percentages, which are quite easy to work with.
For example, Bitcoin has a spread of 0.75%. That means if Bitcoin costs $8000 per coin and you want to buy $1000 worth you can calculate the spread as follows:
First of all you work out how much Bitcoin you are buying so $1000/$8000 gives you 0.125. You then multiply this value by the spread and then by the price of Bitcoin like this:
$8000 x 0.1225 x 0.75% = $7.5
There are too many different assets with different spreads to list here but the range of spreads on eToro assets are shown on the table below:
| Asset | Spread |
| Currencies | 1 to 50 PIPs |
| Commodities | 2 to 20000 PIPs |
| Indicies | 100 to1200 PIPs |
| Stocks | 0.09% |
| Cryptocurrencies | 0.75% – 4.5% |
Overnight fees
Platforms that allow you to trade CFDs usually have overnight fees. This means a position that stays open overnight will incur a fee.
Just to be clear, if you buy (go long) stocks or ETFs there won’t be an overnight fee. However, if you sell a stock short or use leverage the trade would be executed as a CFD, which would incur an overnight fee.
Just like with spreads, there are too many different assets with different overnight fees to list here. If you want to see the actual overnight fee of a particular asset just go to the home page and then choose Trading / Fees / CFDs and then scroll down to overnight fees and choose the actual asset
But as an example eToro fees for an overnight sell position of a stock are calculated like this:
Annual interest of 2.9% + 1 month LIBOR*, divided by 365 and multiplied by the opening sell price.
*you can read about LIBOR here.
So if you want to buy 10 units of Apple stock priced at $200 dollars per unit and LIBOR was 1.55% you’d calculate your overnight fees as follows:
(1.55%+2.9%) / 365 x $200 x 10 = $0.24/day
But don’t fret about calculating overnight fees. When you trade on eToro a pop up box opens showing the overnight fee at the bottom of the box. See the pic below. The last line of text under the set order button.
Is there an alternative to eToro?
There are many alternatives to eToro, but here are a couple of popular alternatives:
Is CFD trading on eToro safe?
Safety and security is critical with trading and investing and this is a big topic. As a result, we’ve broken it down into four key areas:
- How is eToro regulated?
- How long has eToro been operating?
- How big is eToro?
- Is CFD trading safe?
How is eToro regulated?
eToro’s brokering services are provided by eToro (Europe) Ltd. (“eToro Europe”), a registered Cypriot Investment Firm (CIF). The company’s registration number is HE20058. eToro Europe is regulated by the Cyprus Securities & Exchange Commission (CySEC) under license number 109/10.
In the UK, eToro (UK) Ltd. (“eToro UK”), company registration no. 7973792 is authorised and regulated by the Financial Conduct Authority (FCA), under firm reference number 583263.
eToro Europe and eToro UK both operate under and comply with the Markets in Financial Instruments Directive (MiFID).
In Australia, services and products are provided by eToro AUS Capital Pty Ltd. (“eToro Australia”), ABN 66 612 791 803 is the holder of an Australian Financial Services Licence (AFSL) 491139 issued by the Australian Securities and Investments Commission (ASIC), and regulated under the Corporations Act (Commonwealth). eToro Australia arranges for its clients to be provided services by eToro Europe.
How long has eToro been operating?
eToro has been going for 17 years (at the time of writing). It was founded in 2007.
How big is eToro?
eToro is one of the biggest trading and investment platforms out there.
It has around 20 million users. It is valued at $10.4 billion and is expected to list on the Nasdaq stock exchange imminently.
Is CFD trading afe?
We’ve already touched on this, but it is definitely worth repeating.
All financial assets have risk involved. If you invest in the share of a traditional company there is always a risk that the share price will decrease and you will loose money. If you invest in a CFD (going long) and the underlying asset looses value, you will loose money in the just the same way as with a traditional investment as long as leverage isn’t involved.
However, when you add leverage the risk of loosing money is increased dramatically. Remember, on eToro you don’t have to use leverage. You can invest in any asset without applying leverage.
Lots of people just use the platform for trading stocks and ETFs commission free.
The bottom line
CFD trading gets more and more popular everyday and with good reason. There are lots of advantages to trading CFDs and they make it easy to add complexity to your trades, diversify and lowers taxes.
However, there are also disadvantages, the biggest of these is the risk of loss with the use of leverage.
Though leverage can magnify your gains, it can also magnify your losses.
The bottom line is CFDs are complex instruments, and as such, it makes sense to make sure you fully understand how to use them before putting real money on the line.
Doing your research, practicing and starting small should all help to control risk.
Here’s a few words from eToro themselves to finish.
eToro is a multi-asset platform that offers investments in stocks and crypto assets as well as trading CFDs. Please note that CFDs are complex instruments and, due to the leverage effect, carry a high risk of losing money quickly. 76% of retail investor accounts lose money when trading CFDs with this provider. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money. Past performance is not an indication of future results. The trading history shown is less than 5 complete years and may not be sufficient as a basis for an investment decision. Copy Trading is a portfolio management service provided by eToro (Europe) Ltd. which is authorized and regulated by the Cyprus Securities and Exchange Commission. Don’t invest in Cryptoassets like Bitcoin unless you’re prepared to lose all the money you invest. This is a high-risk investment, and you should not expect to be protected if something goes wrong. Take 2 mins to learn more.