Spe­cial men­tion: CFD providers

Financial Mail - Investors Monthly - - Cover Story -

For the past three years Top Stock­bro­kers has pro­vided a rank­ing of the best providers of con­tracts for dif­fer­ence (CFDs), a type of de­riv­a­tive that al­lows for low-cost, short-term lever­aged trad­ing. De­ter­min­ing the best providers is a fraught con­cep­tual prob­lem; there are many is­sues that are im­por­tant. Ideally we would de­ter­mine three things: client sat­is­fac­tion, costs and credit risk. This last mea­sure, though, is very dif­fi­cult.

CFDs can now be traded on the JSE or “over the counter” be­tween the bro­ker and client. The lat­ter type have been go­ing for longer and prob­a­bly still make up the ma­jor­ity of CFD trades. CFDs im­ply credit risk be­cause bro­kers can end up ow­ing traders money if it moves into a profit po­si­tion. That should be no prob­lem for bro­kers who are man­ag­ing their risk cor­rectly, but can be­come a big prob­lem if they are not. Deal­stream, a bro­ker that col­lapsed in 2008 ow­ing clients money, is the oft-cited ex­am­ple. This year we at­tempted to as­sess this risk more com­pre­hen­sively than be­fore, but with­out con­duct­ing a full sys­tems au­dit it re­mains very dif­fi­cult to do.

Bro­kers also write CFDs in var­i­ous ways, some­times us­ing their own bal­ance sheets as the coun­ter­party, other times us­ing the bal­ance sheet of big banks or prime bro­kers.

We asked bro­kers to iden­tify just which bal­ance sheet was the coun­ter­party to the CFD con­tracts they wrote, but know­ing the an­swers doesn’t shed much light on just how cred­it­wor­thy those bal­ance sheets are. Given these dif­fi­cul­ties, our as­sess­ment con­sid­ered credit risk for only 20% of our weight­ings in de­ter­min­ing the firms wor­thy of spe­cial men­tion.

It is also im­por­tant to clients that CFD trad­ing fa­cil­i­ties are easy to use and costs are low. Costs can be as­sessed di­rectly but have two sources: the charges for

CFD trans­ac­tions and the im­plied lever­age in trans­ac­tions. Of­ten low fees are paid for by charg­ing high in­ter­est rates for lever­age, or pay­ing low in­ter­est rates for short ex­po­sures. We mea­sured the dif­fer­ence be­tween these, which is known as the spread. These cost is­sues had a 20% in­flu­ence in our as­sess­ment.

Client sat­is­fac­tion can be as­sessed from CFD-trad­ing clients’ opin­ions on the qual­ity of their bro­kers’ in­ter­ac­tion with them and the sup­port they of­fer. Our as­sess­ment gave 60% weight­ing to client views, par­tic­u­larly on sup­port avail­able for CFD trad­ing and their views on over­all qual­ity.

This led to our list in the ta­ble op­po­site of those firms which get a “spe­cial men­tion” as ex­cel­lent CFD providers.

Pic­ture: iS­TOCK

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