One of the most attractive aspects of trading CFDs is the easily available access to leverage. Leverage involves taking a small deposit and using it as a lever to borrow and gain access to a larger equivalent quantity of assets. CFDs use the power of leverage to trade which is one of the key reason they are such a powerful tool. CFDs are collateral financed, meaning you only need an initial margin of 1-30% of the total value of the trade to enter the position.
Examples
This means if you wish to enter a position of 1000 BHP Shares at $35 each, usually you would need to front $35,000. Using contracts for difference, trading on a 5% margin, you would only need an initial deposit of $1,750.
An example is the easiest way to show the power of leverage.
If you had $1,750 to invest, and wished to purchase BHP at $35 and sell at $37, a standard trade would look as follows:
BUY: 50 x $35 = $1,750
SELL: 50 x $37 = $1,850
PROFIT = $100 or 5.7%
Using the power of leverage the above example reads as follows:
BUY: 1000 x $35 = $1,750 (5% deposit) + $33,250 (95% borrowed funds)
SELL: 1000 x $37 = $37,000
PROFIT = $2000 or 114%
As you can see the profit received after using leverage was far greater than without. It is important to note, that losses are also magnified when using leverage.