Traders often have moments when they feel the stars are aligned to favour
a particular trade. And, though they may not be able to explain exactly
why they believe a share or index is going to move in one direction or another,
they just know the move is going to happen. Not wanting to miss the profits
that would follow from the move they know is going to come, they place a
speculative trade.
Speculative trades are typically short-term trades and traders generally
employ them around major market events such as corporate earnings announcements
and central bank interest-rate decisions. Traders want to quickly get into
the trade, enjoy the profits that they hope will come from a quick move
as prices adjust to the news from the major market event, and then get out
of the trade.
CFDs are often the investment tool of choice for speculators. One of the
most important advantages CFDs offer is leverage. As you know, leverage
allows you to increase your exposure while minimizing your investment in
a trade. Leverage can enhance you gains in a speculative trade, but it can
also enhance your losses. Remember to utilize appropriate risk-management
techniques such as trailing stops when placing your trades.
In this section we will outline situations which lend themselves to speculation
and explain how to implement the speculative trade itself:
Speculative trading opportunities arise frequently, and most of them
tend to have one thing in common: they are based on news announcements.
Whether the news announcement comes from a government providing information
regarding the employment outlook in that country or from a company reporting
its quarterly earnings, they have the potential to cause dramatic shifts
in the market.
The following are examples of news announcements that could lead to ideal
speculative trading opportunities:
- Breaking news
- Company reports
- Economic data
- Index additions/deletions
Breaking news announcements are unscheduled events that
catch traders off-guard and are therefore the most difficult news announcements
of which to take advantage as a trader. Some breaking news announcements,
like merger announcements, are beneficial to share and CFD prices whilst
other breaking news announcements, like fraud charges against a company's
CEO, are harmful to share and CFD prices.
As you would expect, negative news typically pushes CFD prices lower
whilst positive news typically pushes CFD prices higher.
Company reports are scheduled events that provide information
regarding the current performance of the company and what the company
expects to see in the future. Because these reports are scheduled well
in advance traders have a chance to prepare themselves beforehand and
take advantage of the announcement.
When you analyze company reports it is important to remember that the
market is typically looking ahead at least six months down the road when
it prices shares and CFDs. So, whilst the current earnings and performance
numbers for a company are important, the future outlook the company provides
must also be digested.
When a company's reports show it is performing well and is expected to
continue performing well, share and CFD prices tend to move higher. When
a company's reports show it is performing poorly and is expected to continue
performing poorly, share and CFD prices tend to move lower.
Economic data comes out in news announcements that are
typically scheduled months in advance, giving you an opportunity to thoroughly
prepare yourself for the announcement. Economic data covers a broad range
of topics including inflation and gross domestic product (GDP) information,
interest rate announcements and unemployment figures.
Economic data announcements tend to affect broad markets, not just individual
shares and CFDs. Accordingly it is often preferable to utilize index-based
CFDs when speculating on these announcements.
When economic data shows the economy is doing well, share and CFD prices
tend to move higher. When economic data shows the economy is doing poorly,
share and CFD prices tend to move lower.
Index additions/deletions occur when major market-tracking
companies like Standard & Poor's decide to adjust the composition of their
market-tracking indices. For example, if a company no longer meets the
market-capitalization requirements to be listed in the S&P 500 index then
Standard & Poor's will remove it from the index.
The Expected is Already Priced In
One important thing to remember when you are looking for speculative
trading opportunities around news announcements is that what is expected
is already priced into the CFD.
Investment analysts, economists and other market participants are constantly
analyzing anticipated news announcements, trying to determine ahead of
time what the news is going to be. Whilst no two analysts will arrive
at exactly the same conclusion, if you examine a spread of opinion you
can determine the consensus.
Knowing the consensus, the average estimate, will help you to take advantage
of price movements once the news announcement is released because the
average estimate will already be "priced into" the value of the CFD. Here's
how it works:
Once investors complete their analysis they start placing their trades
to take advantage of where they believe CFDs are going to move in the
future. They don't wait for the announcement itself. They want to be ahead
of the market. So, by the time a news announcement is released, most of
the major market participants have already placed their trades.
If a news announcement is released and the result is in line with the
average estimate, the CFD will probably not move very much. Since most
of the big traders will have already placed their trades there would be
no new traders to jump in and move the CFD. If the actual number from
the news announcement is higher or lower than the average estimate, however,
the price of the CFD will have to adjust either up or down to factor in
the new economic information - giving you an opportunity to enter a speculative
trade.
Once you have identified a news announcement or other speculative stimulus
that should cause share and CFD prices to move you have an excellent opportunity
to take advantage of the price movement. You can do so in one of the following
three ways:
Entering immediately following a news announcement is typically the most
difficult way to trade the news. Share and CFD prices tend to adjust sharply
when the result of a news announcement is not what investors had anticipated.
Depending on how quickly you get the news and how quickly you can enter
your trade order, you may not be able to get into your trade before the
price has already taken off.
Traders who try to jump into trades after the announcement has been released
have to be prepared to pay more for their CFD, or selling their CFD for
less. The price movement between the time when you enter your trade and
when you are trading is actually filled is called "slippage". If you are
comfortable with experiencing slippage in your trading account then you
can explore this method of reacting to news. If you're not comfortable
with experiencing slippage in your trading account then you should choose
one of the other two methods for reacting to, or 'trading on', the news.
Most CFD traders who trade the news choose to enter their trades only
once a new trend has been established. This is typically the easiest way
to trade the news. Often when a news announcement is released the price
of the CFD will fluctuate back and forth as investors try to determine
in which way the underlying asset will move in the future. Once these
investors have determined in which direction they believe the underlying
asset is going to go, the CFD generally develops a strong trend in that
direction.
CFD traders who wait for this new trend to appear ignore the noise that
is generated as the CFD fluctuates back and forth immediately after a
news announcement is released. Doing so gives them an advantage over traders
who enter their trades too quickly only to being knocked out as the price
reverses direction and hits their stop losses.
You will typically know in which direction a CFD is going to move within
2 to 5 minutes of when the news announcement is released. This gives the
market plenty of time to shake out those investors who are trying to buck
the new trend. Because this shake-out can happen so quickly, you would
be wise to use a shorter-term chart to monitor the price action after
a news announcement. Consider using a 1- or 2-minute chart.
Placing entry orders before a news announcement is released is the most
profitable way to trade the news when you are right and the CFD moves
in the preferred direction. By placing your entry orders before the CFD
moves in one direction or the other, you assure yourself of entering the
trade at the price which you specify. In other words you don't have to
worry about excessive slippage when you're using entry orders. As soon
as the price of the CFD reaches your entry price you will be placed into
your trade.
This method is also one of the riskiest ways to trade the news when the
market whips back and forth immediately following the news announcement.
For instance, if the price of the CFD moves higher immediately following
the news announcement and then turns around and moves lower once the majority
of market participants realize the news announcement was bearish for the
CFD, you will be knocked into the trade once your entry order is hit and
then knocked right back out of it once the CFD turns around and hits your
second entry order.
One way you can prevent this from happening is by deleting your second
entry order once the first entry order is hit. However, you will want
to place a stop-loss on your trading after you hit your first entry order.
Speculative Trading Opportunities
