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The big difference between buying CFDs and buying shares and how to calculate your brokerage

by , 04 September 2019
The big difference between buying CFDs and buying shares and how to calculate your brokerage
Q. “I received a trade signal last week to buy Reinet… I am a new member with Red Hot Storm Trader and wanted to know what the big difference is between buying 200 Reinet CFDs versus buying 200 Reinet shares and what instrument I should buy with Red Hot Storm Trader?”

The BIGGEST difference between buying shares versus buying CFDs is that when you buy CFDs, you will gain exposure to the full value of the shares but you don't own the share and you only pay a margin to gain this exposure.

To explain this better, allow me to give you an example for buying both instruments - starting with shares…
NOTE: For simplicity purposes – I will leave out trading costs for this example.
Buying 200 Reinet Shares
Let’s say Reinet is trading at R253.00 per share. If you buy 200 shares, you’ll have to pay the full R50,600 (200 shares X R253) to own them.
The problem is that, you’ll have a lot of your capital tied up in this one stock which you can use for other profit opportunities. This is where CFDs come in.
Buying 200 Reinet CFDs
Your broker tells you that the gearing on a Reinet share is 10 times.
This simply means that what ever the share price is trading at, you’ll pay 1/10th of the price to be exposed to the full value of the share.
Note: If you buy 1 Reinet CFD with a share price at R253 – you’ll only pay R25.30 per CFD (R253 per share ÷ 10 times gearing). This is called the initial margin (deposit) per CFD.
And if you buy 200 Reinet CFDs at R253 per share, you’ll only have to pay R5,060 [(200 Shares X R253 per share) ÷ 10 times].
Instead of paying the full R50,600 to own 200 Reinet shares, you’ll just need to deposit R5,060 and be exposed to the full 200 shares with CFDs.
I only recommend using CFDs with Red Hot Storm Trader as the strategy has been designed, back-tested, forward tested and real-tested since 2013.
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“Dear Timon, I have a question with regards to the previous trade you sent out to Red Hot Storm Trader with BHP Billiton.
I have been using your CFD calculator and now I would just like to confirm what total brokerage I would have to pay getting into the trade and getting out of the trade? I am using a portfolio value of R20,300 and each brokerage leg in and out is 0.3%.
Thank you in advance…”
To answer this question, you’ll need to calculate the brokerage you’ll pay to enter your trade and the brokerage you’ll need to pay to exit your trade. To do this, we’ll need to lay out all the necessary information to calculate what brokerages you’ll pay…
Here are all the specifics needed for this trade:
Portfolio value: R20,300
Trade: BHP Billiton
Type: Short (Sell)
Brokerage rate in: 0.30%
Brokerage rate out: 0.30%
Entry: R313.33
Stop loss: R327.00
Take profit: R266.00
Calculation #1: Calculating your ENTRY brokerage with CFDs
Step #1: Know what your max portfolio risk is per trade
Max % risk = (Portfolio value X 2%)
                     = (R20,300 X 2%)
                     = R406
Step #2: Find out the rands risked in trade
Rands risked = (Stop loss – Entry)
                        = (R327.00 – R313.33)
                        = R13.67
Step #3: Calculate the number of CFD contracts to trade
No. CFDs = (Max % risk ÷ Rands risked)
                 = (R406 ÷ R13.67)
                 = 29
Step #4: Calculate your ENTRY exposure for the CFD trade
Entry exposure = (Entry price X No. CFDs)
                            = (R313.33 X 29 CFDs)
                            = R9,086.57.
Brokerage in = (Entry exposure X Broker rate in)
                        = (R9,086.57 X 0.30%)
                        = R272.59
This means, you’ll need to pay a brokerage of R272.59 in order to short (sell) 29 BHP Billiton CFDs.
Now we can move onto the next brokerage leg.
Calculation #2: Calculating your EXIT brokerage with CFDs
Step #1: Work out your EXIT exposure for the CFD trade
Exit exposure = (Exit price X No. CFDs)
                         = (R266 X 29 CFDs)
                         = R7,714
Step #2: Calculate your brokerage leg out
Brokerage out = (Exit exposure X Broker rate out)
                           = (R7,714 X 0.30%)
                           = R231.42
Step #3: Calculate the total brokerage for the CFD trade
Total brokerage = (brokerage leg in + Brokerage leg out)
                              = (R272.59 + R231.42)
                              = R504.01
This means, if the trade hit your take profit level you would have ended up paying a total brokerage of R504.01 for your BHP Billiton CFD short trade. Now you know how to calculate each brokerage leg in, out and total for whenever you take a CFD trade with Red Hot Storm Trader or Pickpocket Trader.
Trade well,
Timon Rossolimos,
Analyst, Red Hot Storm Trader
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The big difference between buying CFDs and buying shares and how to calculate your brokerage
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