Spe­cial men­tion: CFD providers

After as­sess­ing client sat­is­fac­tion, costs and credit risk, 28E Cap­i­tal comes out tops

Financial Mail - Investors Monthly - - Cover Story -

For five 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. CFDs are a con­tract be­tween two par­ties where one pays the other prof­its de­pend­ing on the move­ment of a ref­er­ence as­set. So, for ex­am­ple, two par­ties can write a CFD on MTN, then pay each other the profit im­plied by the move­ment of the ref­er­ence share.

When we in­tro­duced this award in 2012, CFDs were ex­tremely pop­u­lar: they were the sec­ond-most traded in­stru­ment after eq­ui­ties. How­ever, their pop­u­lar­ity has waned, and this year ex­change traded funds over­took CFDs in trad­ing ac­tiv­ity. This is a world­wide trend.

CFDs are use­ful for short­ert­erm traders as they are gen­er­ally cheaper to trade in and out of than nor­mal shares, but they be­come more ex­pen­sive the longer the hold­ing pe­riod.

De­ter­min­ing the best CFD providers is a fraught con­cep­tual prob­lem — there are many is­sues that are im­por­tant. Ideally we would as­sess three things: client sat­is­fac­tion, costs and credit risk. This last mea­sure, though, is very dif­fi­cult. Many firms write CFDs off the bal­ance sheet of big­ger prime bro­kers and are there­fore much less of a credit risk than it ap­pears from the size of the bro­ker it­self.

CFDs can now be traded on the JSE, which elim­i­nates the credit risk as it guar­an­tees set­tle­ment, or “over the counter” be­tween the bro­ker and client. The lat­ter type has been going for longer and still makes up most CFD trades.

CFDs im­ply credit risk be­cause bro­kers can end up ow­ing traders money if the un­der­ly­ing as­set prices change. That should be no prob­lem for bro­kers who are man­ag­ing their risk cor­rectly, but can

Client sat­is­fac­tion can be as­sessed from CFD-trad­ing clients’ opin­ions on the qual­ity of their bro­kers’ in­ter­ac­tions with them

be­come a big prob­lem if they are not. Deal­stream, a bro­ker that collapsed ow­ing clients money in 2008, is the oft-cited ex­am­ple. While we as­sess this risk as com­pre­hen­sively as pos­si­ble, with­out con­duct­ing a full sys­tems au­dit it re­mains very dif­fi­cult to do.

We asked bro­kers to iden­tify which bal­ance sheet was the coun­ter­party to the CFD con­tracts they wrote and ex­plain how they seg­re­gate client money from that of the firm. We scored bro­kers highly if there was a clear and sub­stan­tial bal­ance sheet stand­ing be­hind the con­tracts, and marked them down if the bal­ance sheet was small or hard to as­sess.

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. Low fees are of­ten 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.

Client sat­is­fac­tion can be as­sessed from CFD-trad­ing clients’ opin­ions on the qual­ity of their bro­kers’ in­ter­ac­tions with them and the sup­port they of­fered. We used those rank­ings, costs and our own in­ves­ti­ga­tions to de­ter­mine scores.

28E Cap­i­tal is the Top CFD Provider for 2017. It scored well across all cat­e­gories — client rat­ings, costs and credit risk, as its CFDs are backed by Stan­dard Bank. IG placed sec­ond, though it ranks first for on­line trad­ing over­all.

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