How to Trade the DAX Index with CFDsAs it’s impossible to invest directly into a stock index, investors who are looking for exposure to the DAX can find it by investing in financial instruments like contracts for difference (CFDs), futures and exchange-traded funds (ETFs). So, how can you trade the DAX index through CFD’s?
Germany is Europe’s largest economy, and the home of Europe’s most liquid index – the DAX. The DAX is an index that was established in Germany in 1988 and represents the 30 most liquid stocks traded on the Frankfurt Stock Exchange, including well-known brands like BMW, Deutsche Bank, and Adidas.
The companies included in the DAX are selected based on their size – companies are added to the index if they become one of the 25 largest companies in terms of market capitalization, and are removed if they fall below the 45 largest firms. The value of the index itself is calculated using volumes and prices that come through an electronic exchange called the Xetra trading system.
The DAX is also one of the world’s most popular indices to trade, along with the S&P 500, FTSE, and NASDAQ. Why? Keep reading to find out.
Why do traders choose to trade the DAX?
There is a range of benefits to trading the DAX, which include:
- Trade the market: Many new traders and investors struggle to choose individual companies to invest in. Stock indices solve that problem by allowing you to trade on the changing values of all of the companies that make up an index in a single transaction.
- Volatility: The DAX can be quite volatile, ranging from 10% volatility in low-volatility periods, to up to 50% during high-volatility periods. Every market movement provides more opportunities to trade the markets, which means that volatile markets provide more trading opportunities.
- Long trading hours: The DAX is open for 60 hours a week, which is twice the number of hours of most other stock exchanges, which are open for 25-35 hours per week, giving traders far more opportunities to trade.
How can you trade the DAX?
As it’s impossible to invest directly into a stock index, investors who are looking for exposure to the DAX can find it by investing in financial instruments like contracts for difference (CFDs), futures and exchange-traded funds (ETFs).
A CFD is a financial derivative that tracks the movements of an underlying instrument. In other words, it is a contract that allows traders to profit on the price movements of a financial asset, without having to own that asset.
CFDs are available on a wide range of assets, including Forex, shares, cryptocurrencies, commodities, bonds and, of course, indices, and CFDs directly track the value of each of these assets.
For instance, a CFD on the DAX would move in tandem with the DAX index itself. So if the DAX was valued at 11,500, the DAX CFD would also be valued at 11,500. If the value increased or decreased, so would the CFD. Ultimately, this allows traders to speculate on potential price changes without having to physically purchase an asset and later sell it when the price changes.
The benefits of CFD trading
There are a number of trading the DAX as a CFD, including:
- Low margin requirements: To invest in shares of all 30 of the companies represented by the DAX would require significant capital. By contrast, CFDs can give traders access to the same market for a fraction of the cost.
- The power of leverage: CFDs are a leveraged tool, which means traders can access a larger portion of the market with a smaller initial investment. For instance, at Admiral Markets, a CFD broker offering CFDs on the DAX, Retail clients can access leverage of up to 1:20. This means that for every dollar in your account, you can access $20 in the market, meaning you can open trades that are 20 times larger than your account balance. This then multiplies potential profits (in relation to your investment) by the same amount. However, keep in mind that losses are multiplied to the same degree.
- Access to a wide range of markets: While this article is focusing on trading the DAX, CFDs are available on a range of other financial instruments, as discussed earlier. This means you can trade and invest across a range of markets from within a single account.
- Trade long or short: One of the challenges with traditional investing is that investors only make money when a market is increasing in value. Simply, you buy at one price and sell when the price of an asset increases. Because CFDs simply mirror the price movements of assets, rather than involving a direct investment in an asset, traders can provide on positive price movements with long trades, and negative price movements with short trades. With CFDs, you can open a trade by selling a CFD contract, and then buy it back when the price falls, making a profit on the difference.
Why are CFDs different from ETFs and futures?
ETFs and futures are other types of financial derivatives, meaning they derive from other financial instruments. Like CFDs, they allow people to trade and invest in financial instruments without having to purchase the underlying asset. However, CFDs do have some unique features.
While both CFDs and futures provide leverage, a futures contract represents the obligation to purchase an index at some point in the future (this future date is based on the expiration date of the future, with futures expiring monthly or quarterly). The liquidity of DAX futures contracts is generally robust and is a gauge that is used to measure the DAX index. However, to trade a DAX future, you need to open a futures account, which can be an arduous process. By contrast, opening a CFD account is a straightforward process.
An ETF, on the other hand, is a basket of stocks that are used to mimic the movements of an index. So an ETF that mirrored the DAX would be a basket of stocks in the 30 companies that make up the DAX.
The issue investors face when they buy an ETF is that they are required to invest close to the entire value of the index when purchasing the shares. As already discussed, CFDs have much lower initial investment requirements.
How to trade the DAX? DAX CFD strategies
There is a range of potential strategies for trading DAX CFDs. These include:
- Buy and hold: Simply open a long, or ‘buy’ trade on the DAX CFD, and keep the trade open until the price of the DAX increases. Once the price goes up, you can close the trade for a profit.
- Short-term trading: Short-term trading can range from intraday trading, where trades might run for a few days, to scalping, where trades open and close in a matter of minutes. In both cases, the goal is to profit on short-term price volatility, and this strategy will involve making many short-term trades instead of a single long-term one.
- Hedging: A hedging strategy involves protecting your portfolio by holding opposing positions. For instance, you could sell a DAX CFD against a long trade on a basket of correlated stocks. That way, when the price of the DAX goes up, the stocks will go down, and vice versa, keeping your overall position neutral. This can be a useful strategy when trying to protect your portfolio in uncertain or volatile periods.
CFDs on the DAX are an excellent tool for short-term trading. Whether you are day trading or holding a position for a couple of weeks, as CFD allows you to allocate limited amounts of capital and experience robust returns. You can trade around economic releases, earnings report or political events, or trade based on technical analysis by identifying patterns in price movements.
The DAX is Germany’s most liquid European equity financial instrument and can provide you with a benchmark to trade European shares. One of the most efficient ways to trade the DAX is using CFDs, which allow you to access large portions of the market for relatively small investments. The power of leverage also allows you to multiply your profits, but it’s important to protect yourself against the risks.
By combining one of the most liquid indices with an efficient trading instrument, you can formulate several strategies that can lead to trading success.
Risk disclosure: Forex and CFD trading carries a high level of risk that is not suitable for all investors. Presented information is not an offer, recommendation or solicitation to buy or sell. Before making any investment decisions, you should seek advice from independent financial advisor to ensure you understand the risks involved. Read more at admiralmarkets.com.