What Is the Difference Between Traditional CFDs and Knock-Outs?
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Current volatile market conditions have presented trading opportunities for those who know how to take advantage of them. But they have also resulted in heavy risk.
On top of that, FX margins have recently been increased from 2% to 5%, which means traders now need to put up more money in order to execute trades of a similar size. That makes managing risk an even more pressing need.
Trading into Contract for Difference (CFDs) is one way traders do to take advantage of price movements. But given the current volatile market conditions, taking steps to limit risk will be paramount.
How are CFDs and Knock-Outs similar?
CFDs are derivatives that can be traded. Simply put, a CFD is the difference in price at the start and at the end of a trade.
CFDs can be pegged to assets such as shares, forex, indices and commodities. Instead of trading the underlying asset, you simply trade a CFD that tracks the price movements of the asset. You gain or lose CFD units according to these price movements.
IG Knock-Out (KO) is a type of CFD product where trades are made on either 24/7 indices, commodities and FX and the price of the KO moves one-on-one with the price of the CFD’s underlying asset.
What makes them special is that you can set a knock-out level before entering a trade. This will be the maximum loss you are willing to risk. If your knock-out level is hit, your position will be closed automatically, thereby limiting your loss to what you have preset.
Knock-Outs enable you to benefit from price movements while limiting your losses to the level you are comfortable with.
How are they different from CFDs?
– Knock-Out level cannot be changed once trade is placed — Knock-Outs are limited-risk CFDs. You cannot change your knock-out level once you have placed a trade, so you are required to determine your maximum risk before entering a trade. Once you enter a trade, you can close your position at any time before your knock-out level is reached. If you do not, however, your trade will automatically be closed if your knock-out level is hit.
– Loss cannot exceed margin — Unlike CFDs, your maximum loss when trading Knock-Outs will not be more than your initial margin. This means you cannot lose more than the cash you have already put up for the trade.
– Additional stop-loss — Knock-Outs enable you to set an additional stop-loss on top of your knock-out level. This gives you the option of closing your position at an earlier stage if you are making losses. On the flipside, if you are making a profit, you can lock in your profits at an earlier stage.
– Helps you trade in a disciplined manner — Unlike Guaranteed Stops, which allows you to adjust your stop before the trade is closed, you cannot constantly change your knock-out level. Once your knock-out level is set at the beginning of a trade, it cannot be changed. This instils discipline in you as a trader, as you need to consider your risks at the very start before placing the trade.
How does it benefit traders?
– Transparent way to trade — Trading Knock-Outs is a very transparent endeavour as you always know what your maximum potential loss is.
– Flexible and customisable — Knock-Outs are highly customisable, so you’ll be able to preset a level of risk that is appropriate to you based on your individual comfort levels.
– Simple pricing — The knock-out price moves one-for-one with the CFD provider’s underlying price, provided the knock-out premium does not change. If the knock-out premium changes, the price of the Knock-Out will move by the amount the premium changes.
In today’s turbulent markets, IG Knock-Outs give you an edge by helping you manage risk. Download your free “Alternatives to FX CFD trading” guide. Set up your free IG demo account and find out more about how to use Knock-Outs to better manage your risk.
This advertisement has not been reviewed by the MAS. The information in this article is meant for informational purposes only and should not be relied upon as financial advice. Users may wish to approach a financial advisor before relying on any advice provided by the website to make any decision to buy, sell or hold any investment product. Contracts for Difference (CFDs) are speculative products. The leveraged nature of CFDs involves the risk of losing substantially more than your initial investment.