Indices (or indexes) are baskets of securities, such as stocks, used to track the performance of a specific market sector. Different indices follow different groups of assets. For example, the FTSE 100 tracks the 100 largest companies on the London Stock Exchange (LSE). Indices trading lets you gain exposure to an entire economy or sector at once, requiring only a single position.
You can speculate on whether the price of an index will rise or fall without owning the underlying assets by using CFDs. Indices are highly liquid, and with longer trading hours than most other markets, they offer better exposure to potential opportunities.
Why trade indices?
By trading indices, you can access an entire market, take long or short positions, use leverage, or hedge existing positions.
Gain exposure to an entire index
A main advantage of trading indices with derivatives like CFDs is the ability to gain broad market exposure in a single position.
As an index reflects the overall performance of many companies, you can trade on how major events might impact a whole market or sector, not just individual stocks. For example, taking a position on the S&P 500 lets you trade on the performance of hundreds of leading U.S. companies at once. When you trade an index, you enter at the exact market price at that moment (plus any charges incurred).
Go long or short on an entire index
With index CFDs, you can trade in either direction. Going long means buying an index because you expect the price to rise. Going short means selling it because you expect the price to fall. This gives you the opportunity to benefit when an index’s price decreases in value.
Trade with leverage
CFDs are leveraged products, which means you only need to put down a small initial deposit, known as margin, to control a much larger position.
However, your profit or loss is based on the full position size, not just the initial margin used to open it. This means leverage can increase your profits, but it can also increase your losses.
You should always make sure you understand how leverage works and that you can afford the high risk of losing your money before you start trading,
Hedge your existing positions
An investor who owns a variety of shares might short an index to help protect their portfolio. If the market falls and their shares lose value, the short index position can increase in value and help mitigate those losses. But if the shares go up in value, the short index position will slightly reduce the proportion of the profits made.
Alternatively, if you’re short on several individual stocks that are part of an index, you could hedge against potential price increases by taking a long position on that index. If the benchmark rises, the profit on the long index position will earn a profit, offsetting some of the losses on your short stock positions.
What indices can be traded?
There are several types of indices, each tracking different assets or markets.
Trading Stock Indices
These track a group of companies, usually within a specific market or category. Examples include the S&P 500 (top 500 U.S. companies) and the FTSE 100 (top 100 UK-listed companies).
Commodity Indices Trading
These track the prices of multiple commodities, like gold and oil. The Bloomberg Commodity Index tracks up to 23 commodities across six sectors.
Bond Indices
Bond indices measure the performance of a segment of the bond market. For example, the Barclays Capital Global Aggregate Bond Index includes bonds in 24 local currencies.
Sector Indices
Sector indices track companies within a specific sector. They can be used as benchmarks for sector performance. The Nasdaq-100 tracks the 100 largest Nasdaq-listed technology stocks.
Currency Indices
Currency indices measure the strength of a currency against others. The US Dollar Index is an example that tracks USD.
Most Traded Indices for Index Investment
S&P 500
The S&P 500 tracks the top 500 U.S. listed companies and is one of the top day trading indices.
FTSE 100
The FTSE 100 measures the performance of the top 100 London Stock Exchange-listed companies.
Dax 40
Contains the 40 largest companies listed on the Frankfurt Stock Exchange.
NASDAQ 100
Tracks 100 of the largest tech stocks listed on the NASDAQ.
Nikkei 225
This is the benchmark index of the Tokyo Stock Exchange, containing stocks of the 225 firms with exposure to Asian markets.
What drives the price of indices trading?
The price of an index is based on the value of the assets it contains, such as individual stocks. If these assets rise in value, the index goes up, and if they fall, the index goes down.
Individual stocks can influence the overall price of the index, but as capital is spread across multiple positions, a major price move for one stock won’t have a big impact on the overall value of the index.
Index prices mainly move with overall investor sentiment, which is influenced by factors like interest rates, inflation, employment, and major global events.
How to start trading indices?
Totrade indices, you can open positions with CFD or ETF instruments. Once you’ve set up an account with a broker offering markets in these instruments, you can start buying and selling indices straight away.
As you track the price of indices, you will observe that there are times of the day when the price tends to be more volatile. This volatility tends to be when the underlying market first opens or closes for the day, such as the U.S. market open at 9:30 AM EST.
Risks of trading indices
The main risk of trading indices is that the market may move in the opposite direction to your initial prediction. This is an unavoidablerisk of trading, which is why all investors should have a solid understanding of the assets they trade.
CFD trading is risky because leverage can magnify losses. Even small market movements against your position can cause losses greater than your initial deposit.
Final thoughts
Investing in indices involves following the overall market’s performance, instead of trying to outperform it. Picking individual stocks doesn’t guarantee greater returns, and investing in indices takes less time for research and portfolio management.
Because they offer the opportunity to diversify, many investors include indices in their portfolios. Before you trade indices, take some time to do some research and analysis to help you make better decisions. You should also use risk management tools.
Many trading platforms offer risk management tools and resources to help traders protect their positions against sudden market moves. These tools include stop-loss orders and guaranteed stop losses.
A stop-loss order automatically closes a losing position when the price hits a pre-determined trigger level. These are very effective in the event of sharp price action. Another effective risk management tool when trading indices are limit orders. Limit orders are used to enter a trade at a specific price above or below the current market price, and within a set time period.
Disclaimer: This information is not considered investment advice or an investment recommendation, but instead a marketing communication.
