Archive for July, 2007

by Patrick Bedall
Tips on How to Get Started

If you like to play Monopoly for fun, imagine how fun it would be to play Monopoly for real. For many real estate investors, scouting for a profitable commercial real estate property is very much like the board game. And to many, building wealth by investing in commercial real estate is often deemed the holy grail of investing. However, scouting and buying these types of properties is not as easy as 1-2-3, no matter what anyone tells you. But if you do your homework and surround yourself with people who can help you, you are well on your way to building a profitable commercial real estate portfolio! Below are three steps on how you can get started:

Step One: Educate Yourself

You can start by educating yourself. This includes reading books and publications, talking to experienced commercial real estate investors, attending classes and seminars, and joining a trade association. A really easy and inexpensive way to learn is to join a commercial real estate investor network. These networking groups connect you to not only the people you need to know (or should know) in the business, but also to educational tools and resources to help you become well versed in the practice.

Step Two: Surround Yourself With People Who Can Help You

Next, surround yourself with people who can help you build your portfolio. In order to be successful in commercial real estate investing, you must align yourself with a team of professionals who are “smarter” than you. These professionals include financing brokers, lenders, realtors, attorneys, contractors, property inspectors, market appraisers, title companies, accountants, engineers, and many other industry service providers. In building your team, make sure they know commercial real estate. For example, an attorney who is well versed in closing a residential deal may not know anything about closing a commercial deal.

Step Three: Know How A Commercial Property is Financed

The third step to getting started is to learn how a commercial property is financed. Many savvy residential real estate investors have a wake up call when they try to finance their first commercial property. Find out how commercial properties are financed before you even start scouting for one. The reason why this is so important is because commercial properties are not financed based on the purchase price, which is common in the residential industry. Commercial properties are financed by evaluating the cash flow of the property, which determines the ultimate value of the property, not the actual purchase/sales price. The difference between these two values could be the difference between a dead deal and a viable deal.

In summary, investing in commercial real estate can be a wonderful way to build wealth for entrepreneurs and investors alike. The more you immerse yourself in the field of commercial real estate and the more people you meet, the faster you can learn the tricks of the trade. Best of luck to you and may you always find success in your ventures.

Contributed by VEC Financial Group. The VEC Financial Group (VEC) is dedicated to providing commercial mortgage and business financing to property owners and entrepreneurs across the country. VEC Financial provides these services by connecting the right broker with the right borrower, who ultimately finances with the right lender. www.vecfinancial.com

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by Christopher Smith, BBA, JD
If you have been buying stock options in hopes of achieving spectacular returns, you probably have the odds stacked against you. If you have been struggling to maintain profitability as an option buyer, achieving consistent profitability may be as easy as reversing rolls and selling stock options for monthly premium income.

There are very few things that are certain in life, but the expiration of an option contract is one of them. In fact, we know with certainty the precise date and time any given option will cease to exist. The only thing left unanswered until that date arrives is where the underlying security’s price will lie.

The strike price is that price at which, in the case of a call option, the option holder may purchase or, in the case of a put option, sell the underlying stock. If you own a call option, you would have the ability to buy the stock at the strike price. If the stock is trading at a price level higher than the strike price your call option will allow you to purchase the stock at the lower strike price.

What this also means is that if you sold that same call option, your option would expire worthless so long as the stock price remains below the level of the strike price. Conversely, a put option allows the buyer of that option to sell the underlying stock at the strike price, so if you sell a put option, your option will expire worthless so long as the stock price is above the level.

When you sell an option, you receive a cash payment to your account. You remain obligated to perform upon that short option until such time as it expires or you close the contract by repurchasing it. Because options expire on a known date, if you are able to identify a where a stock is likely to trade, or where it is not likely to trade, it may then be possible to sell call options above that range or put options below that range.

If you are correct in your assessment of the market, those options will expire worthless and you can keep the entirety of the premium that was paid into your account without further obligation. Selling options is not without its risks, but there are methods of curtailing those risks significantly.

One of the more favorite tools of sophisticated options sellers is the vertical credit spread. This involves that simultaneous purchase and sale of two options. The technique allows the option seller to still capture premium, but a cheaper option is purchased to limit the maximum risk. It is possible to limit your risk to less than $100 per trade.

Monthly premium income can be created in a safe, reliable manner by identifying key areas of support and resistance in the market. Selling stock options using a limited risk strategy, such as the vertical credit spread, preserves the high probability of success while also limiting the risk involved in an unexpected market move.

TheOptionClub.com is an online resource for learning more about vertical credit spreads. Be sure to visit and register for our free stock option trading lessons and newsletter.

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by
There are many investments that a company can make. It is a financial manager’s job to help the management team evaluate the investments, rank them and suggest choices. This process is called capital budgeting.

Some investments, however, defy financial analysis; an example of this may be seen in charitable donations, which provide intangible benefits that financial mangers alone cannot evaluate.

It may be argued that investment decisions fall into one of three basic decision categories:

Accept or reject a single investment proposal

Choose one competing investment over another

Capital rationing — with this particular category, the limited investment pool is active deciding which projects among many should be chosen.

Whilst each corporation uses its own criteria to ration its limited resources, the major tools are:

Payback period
Net present value

Payback period method — many companies believe that the best way to judge investments is to calculate the amount of time it takes to recover their investments.

Analysts can easily calculate paybacks and make simple acceptance or reduction decisions based on a necessary payback period. Those projects that come close to the mark are accepted, those falling short are rejected. For example, the managers of a small company may believe that all energy and labour saving devices should have a three-year payback and that all new machinery must have an eight-year payback. Additionally, research projects should pay back in ten years. Those requirements are based on management’s judgements, experience, and level of risk.

By accepting projects with longer paybacks, management accepts more risk. The further out an investment’s payback, the more uncertain and risky it is. Payback criteria are desirable because they are easy to use, calculate and understand; however they ignore the timing of cash flows and accordingly the time value of money. Projects with vastly different cash flows can have the same payback period.

Another disadvantage of using payback is that it ignores the cash flows received after the payback.

Net present value methods

The same method used for valuing the cash flows of bonds and stocks is also used to value projects. It is the most accurate and most correct method. The further in the future a dollar is received the greater the uncertainty that it will be received, referred to as risk, and the greater the loss of opportunity to use those funds, referred to as opportunity cost. Accordingly cash flows received in the future will be discounted more steeply depending on the riskiness of the project.

The way a business wishes to fund itself are financing decisions independent of investment decisions.

In my own experience, I have only ever used the payback method, along with my fellow business colleagues, perhaps because this has always been easier to understand and use and calculate. This served us well but caused frequent conflicts between operations, marketing and finance, for understandable reasons.

In summary, whereas most companies may continue to use the payback method due to the aforementioned reasons, it is well worth noting that another option is there and, especially for the financial side of the business, gives a very interesting option.

Naz Daud Business Franchise OpportunityBusiness Directory & FranchisesIreland Businesses

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by Charley Huang
Technology has changed the face of banking by offering banking institutions that are exclusively online and that offer easy to use accounts such as the internet savings account.

Banking institutions like ING Direct, HSBC Bank, or GMAC Bank, offer a variation on an instant savings account that links your checking account to your internet savings account. This allows you easy access from your checking account directly into your savings account. Money is deposited through your checking account and you are able to move that money into your internet savings account and vice versa either online or over the phone.

These online-only financial institutions often provide a more aggressive annual percentage yield for their internet savings accounts than many brick and mortar banks are able to offer. Their low operating costs and overhead allow them to have more funds available to pass onto the customer as savings. The higher interest rates are a big draw to the accountholder who wants to invest a significant amount of money for a long period of time.

Many banks also offer additional perks such as free checks or debit cards for their accountholders. Other banking institutions provide a comprehensive banking experience with a full range of checking account options, the availability of certificates of deposit as well as offer mortgages or home equity loans. Many even offer the option of being able to pay bills online.

Additionally, online banks are able to offer medical savings accounts that allow a consumer to invest a certain amount of their income into an account and throughout the year as medical need arises they can draw down on that account to pay their medical bills. All of these payments made to qualified medical practitioners and medical facilities are tax-deductible up to a defined amount. It is important if you are faced with pending medical expenses that you know will come out of pocket that you check with your banking representative and ask about a medical savings account and how these accounts can be beneficial for you and your dependents.

While no two families have the same medical needs, a financial advisor can work with the clients to determine exactly what they need in a medical spending account and help them to set that account up according to those needs.

Read what we have on our site on savings accounts and if you need more material on this you can always go to the world wide web again to finish up on your studies. In this information age, there is a lot of options for increasing your knowledge base. Check the links below for more information on Medical Savings Account and other related information.

For more information on Medical Savings Accounts or visit http://www.easysavingsaccounts.com, a popular website that offers information on Savings Accounts.

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by Steve Gillman
Smart investing isn’t just knowing what to do, but also means avoiding investment mistakes. The science of behavioral economics has identified many common mistakes that people make when investing. Here are two to watch out for.

Investment Mistake - Status Quo Bias

The “status quo bias” is our tendency to automatically value more highly the existing situation, over the alternatives. For example, this shows up in stock investing in an investors unwillingness to sell what he owns and reinvest in better stocks. Of course it seems easier to leave things how they are, but there is more than this involved in this mistake.

An investor may be perfectly willing to spend the time to find investments for “new” money, for example, yet unwilling to spend an equal amount of time replacing an existing investment with a better one. There is an attachment to what we already own, and this attachment can cost us, whether in actual losses or in lost opportunities to make more money.

To overcome this tendency, you should always look at your investments with the question in mind, “If I was looking at this right now for the first time, would I invest in it?” If the answer is no, you should probably sell the investment and reinvest the proceeds in something else. After all, why should you leave your money in a stock you expect to go up 5%, when there are others that you expect to go up in value by 25%? Invest in those!

The exception to this, of course, is if the transaction costs are high (not usually a problem with stocks). If for example, you have a rental house worth $140,000, you can’t just take that $140,00 and invest it elsewhere, because might only clear $130,000 after the costs of selling. In that case, you need to ask if you’ll do better with that $140,000 house or another investment that costs $130,000.

Investment Mistake - The Endowment Effect

This mistake results from our tendency to over-value what is ours. In one experiment a group of people were asked to put a price on various objects, ranging from ashtrays to coffee makers and books. Individuals in the second group were each given one of the objects to hold onto for a while. Later they were asked to put a price on “their” object. These prices averaged much higher than those given by the first group. Even a temporary “ownership” was enough to inflate the perceived value.

How does this lead to investment mistakes? One way it does so is in a person’s tendency to hang onto an investment just because he owns it. Especially if you have done some research, and have developed a theory, it is difficult to let go of “your” investment. Once again, the solution to this is to look at each investment you own as though you didn’t yet own it. Does it really make sense?

Another good example of the endowment effect is seen all the time in real estate. You might love the new kitchen you put in a house, and really feel that it added $40,000 to the value of the house. Of course the market might value it at only $20,000. Think about it for a moment, and you might realize that you would never value someone else’s kitchen renovations at more than that.

This becomes a real issue when you go to sell an investment property. I have seen people price a property too high and sit on it for years - incurring expenses the whole time. In the end, they sometimes even sell for less than they could have gotten initially. This can be an expensive mistake. Investments are not worth what you feel they are worth. They are worth only what the market will pay. Try to think as an outsider would to avoid this investment mistake.

Copyright Steve Gillman. To learn more about Investing, and how you can get free e-courses and e-books, visit his website:http://www.UnusualWaysToMakeMoney.com

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by Vagner David

The battle between investment activity in the internet and real world became enough tangible. I decided to broaden the subject and tell the beginners (making professionals thinking) about the differences and vice versa similarities between investment activity in the Internet and real world.

Simplicity. Effectiveness. Security. Perspective. Opportunities. That`s how we can outline the circle of the points, where the difference between two various investment worlds lies. In fact, investor, willing to deposit money, meets much more questions of the individual character.

However, if there`s a difference in some general question, there can`t be any consent in particular ones… so, let`s think, is it worth doing e-business, maybe it`s better to go back to the real life?

The first thing, attracting every investor, willing to make e-money - is simplicity. On any count, the easiest way to buy, sell something etc., not going out of the house is via Internet. To be exact, Internet in particular gives such an opportunity (well, phone as well). So, there is simplicity. Here is Your money on the monitor - do anything You want.

Of course, You can grow fat, but… these are personal problems. The same with investments. If You used Your money right, You can multiple them, not going out of the house as well. Here is the question: is the tale real? And we are ready to answer with confidence: yes, it`s real! But there is just one snag to it. You will have to pay for the simplicity of using the funds and getting income in risk.

Risk - that`s the thing, scaring away many “loafers” and risk in particular is disadvantage of any Internet activity. Whatever You start to do, You can get into trouble. Unfortunately. Otherwise, why would we need to do anything, going out of the house?

We can suppose that lack of security is that very “damper”, keeping the market from epidemic “attack” of anyone who feels like it. Besides, the market itself is ambiguous in a way. There are very profitable and not very profitable investment tools. Not very profitable - opening bank deposit via the portal of this bank. And very profitable - HYIP. And there`s a risk here. You can find many HYIP on theHYIPs.net

It appears because it`s impossible to earn such interests without risking everything. You risk everything to get everything. That`s why HYIP often shoots blank, then smb. looses money. Yes, of course, there are HYIPs in the real world as well, but they need technologies much more complex, and that`s the reason why Internet is the most suitable and fruitful sphere for “risky investment” development.

That`s why in particular, major part of our articles is about how to secure oneself technically and how to become more experienced, communicating with investors themselves.

Though, it`s not all, of course. You can use Your funds at Your own discretion, without giving them to anybodies` hands. In the real life, giving money to anybodies` hands, You may earn about 20% per year, though You won`t be so nervous.

There`s a gradation in the real life from 10% to 20% hence - the risk is increasing. More risk - is criminally. In the life of e-investor there are two gradations. Either there`s much risk and money, or own work. Although, we don`t dispute about the fact that there are also low-yield investment programs. However, what`s the sense, if one can go to the bank twice a year to obtain the notorious security.

Let`s talk about using the funds with one’s own hand. Any possible means, available in the real world, are open for You in the Internet. There are some differences. First, anyone can use them. Second - anywhere, anytime, in any way. So that to exchange USD for e-gold

You need nothing more than an e-gold account. These are also direct investments. Gold is increasing - the funds are increasing as well. And we are not even speaking about FOREX market and buying securities. There`s nothing easier. Excluding some moments - see above.

Now, let`s talk about perspectives and opportunities. First of all, You don`t have to be a prophet to say that Internet is future and working with investments on-line - is just a future lessons teaching. Moreover, now there are much more opportunities on-line that in the real life.

Roughly speaking, even a child can go in for investment activity, in case of having enough willing and knowledge. Now we need only to eliminate the defects, we were talking about and such form of earnings will not just compete, it will be more attractive than investment in the real world! Well then, we are waiting.

On the whole, summing up, we can say the following. If You want a stable, reliable income, You can put Your money to a bank. If You want more income - give it to people, knowing about the trades on securities` market and things like that. If not - Internet is for You.

Besides, it gives convenience to handle the funds. If You are overbold - You can work on the exchange. However, Internet and nothing more is convenient here. There`s no need to go to an exchange, everything is reliable and easy enough. And, it`s even more convenient to buy or to sell something on-line.

David Vagner makes thousands of dollars using Internet investing. To know how he does it read his popular report on HYIP rating or visit http://www.thehyips.net/lessons/

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by Mike Estrey
Among the questions often asked by clients when selecting an adviser or a system for CFD trading is what percentage of recommendations they can expect to be winners, and how much should they expect to make each month, year or whatever. These form part of a natural psychological comfort zone, but may be part of the reason why so many people fail as traders.

In any area of speculation, whether it is stockmarket investment, spreadbetting, forex trading or CFDs, if the underlying system has a small edge, it is only the first part of potential success. The key to achieving constant returns lies with a correct approach to the win/loss ratio and not in expecting any particular level of gains, which can distort the underlying methodology. CFD traders have the ability to go long and short at will, and online trading makes it easy to adjust stops and targets at any time.

An example of a good win/loss ratio that fails

Consider this example: a CFD trader selects a system where there is a supposedly proven record of seven out of each ten trades proving to be winners. The idea might be that each trade has a target return of 3%, and if it is achieved the position is closed. If the trade however shows a loss of 3%, the expectation is that it should recover and the position is doubled up, with the hope of returning to parity or even making a 6% gain. Now if market or share movements were a random sequence, it would not make any difference where one entered or exited. The overall returns would over time be neither a gain nor a loss, but costs and the spread on trading would result in a virtual guaranteed loss in due course (the casino approach).

Having a slight edge is not enough

If this system had an edge though, the expectation might be that the 3% target would possibly be hit six out of ten times, thus making it a virtual winning approach. But the problem lies in the fact that although markets and shares do have short term periods when there appears to be random action, they can both trade a range and trend strongly at other times — this is what is known as regular irregularity, which might seem a paradox, but happens all the time in financial markets. Shares often move very quickly in one direction, and this trend can continue for far longer than expected, which creates two problems.

First, taking a 3% profit on a trade may appear to be very satisfactory, but it can often be seen in hindsight that the profit was taken too early, so despite achieving a winning trade there is an element of regret that more was not taken. Second, if the position is showing a loss, then the trade should in the real world be deemed to be incorrect and closed out. But in using such a system as this, by doubling up or averaging the position on losses, all that is achieved is an increase in risk — the trader might be lucky in some situations, but one or two trades out of the ten may cause severe problems. There is also the emotional capital that is tied up in losing trades.

This type of system typically might produce say six 3% winners, two evens (where one position was doubled up and returned to parity) and two 10% losers. Here the overall loss would be 2%, despite the good win/loss ratio, and this is clearly a dangerous way to play the markets, but many traders operate exactly in that way.

Improving the risk/reward

The first point is to set a stop loss on each trade and stick to it. Doubling up simply doubles the risk — that is fine if there is another system signal that reinforces the first trade, but generally that is not the case. The problem that then occurs is that if the stop and targets are quite close in percentage terms, the bouts of short term randomness mean that it can almost be like coin tossing, which with costs is a futile approach.

The key is therefore to ensure the gains are much greater than the losses, so that even if one only achieves four wins out of ten, there may be two big winners in there. If a trader decides that a 3% average loss is acceptable, then what average gain should be sought? This is the $64 question, and the key is to let profits runs as much as possible within a clearly defined trend. The following rules are part of the methodology used at Blue Index for the longs and shorts CFD portfolio, and the long term results have so far proved more than satisfactory.

Some simple rules for a consistent winning approach

1. If searching for stock trades, try to choose high volatility or beta shares — these have a higher chance of being in a trend rather than trading a range or exhibiting random action.

2. The expected initial target should always be at least twice the stop loss. If the average stop loss set is 3%, the CFD trader should look for 6%-plus gains on each trade as a starting point.

3. Try to set individual stops and limits with reference to the underlying action. If a share has moved 10% one day, it is likely to exhibit an intra-day range of much more than 3%, so the stop and target should be widened accordingly. Also support and resistance levels are very useful reference points for setting price targets.

4. If the trade hits the initial target, either close the position if support or resistance around that area is seen to be valid, or move the stop up to protect profits and let the position run.

5. If there is a sudden reversal in share price trend, close the position, whether it is winning or losing. The swings and roundabouts of trading usually mean that these unexpected trend changes even themselves out.

6. Make sure you are never exposed too much in one direction. If for instance the market falls heavily from the open, then it doesn’t matter, as even if there are more longs and shorts in your list of open positions, the huge gains on the shorts should outweigh the stops hit on the longs.

Target returns

As for target returns, many traders have unrealistic expectations. A system that can offer huge returns inherently has to have a higher risk, but bear in mind this simple fact. Warren Buffett has achieved just over 20% per annum returns on his investment fund, and he did not need to use leverage to become the world’s second wealthiest man.

About the Author:
Mike Estrey is the Head of Research for Blue Index, the Online CFD Trading Specialists. A free 15 day trial of their CFD Research is available, along with CFD Trading Seminars and Workshops.

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by Mike Estrey
Many traders do not realise that Contracts for Difference can be used not just for stockmarket trading, but also in the forex and commodities markets, and one of the most liquid and exciting markets is crude oil and natural gas. CFDs are usually modelled in the same way as futures contracts, and consequently there are several contracts from which to choose in each category.

It is well known that the crude oil market is normally priced either as either Brent crude or US crude. The current spread between the two is about $3.5, Brent being higher, but this varies according to supply and demand, liquidity and other geopolitical issues.

Different contracts

Within each market, several expiration months are quoted and at the time of writing (June 2007) July, August and September CFDs are available. The difference in prices between the various contracts reflects the cost of carry and other seasonal factors as it would for all commodities.

What this means is that you do not pay financing interest on these CFDs, because all positions are rolled over into expiry and the contract values already price in the cost of carry.

What can you trade?

It is possible to trade various many different CFDs related to oil prices. These include:

Heating oil, for which there is a liquid US-based quote with several expirations

UK Oil and Gas sector CFDs

US Oil and Gas sector CFDs

Individual oil share CFDs including such varied names as Royal Dutch Shell, Statoil, Total-Fina, Exxon Mobil and many smaller oil company stocks around the world

US Natural Gas CFDs with various expirations

Calculating the margin on a US crude contract

As we analyse the US crude oil market every day in our US report, it is worth looking at this contract to calculate what margin is required on a trade.

The current most liquid contract is the July 2007 CFD, priced at $65.86 to $65.92

The margin requirement on most commodities is 3% of the total contract value.

The tick size is 0.01.

The contract value is calculated by this formula:

((Quantity) x (Price))/ Point= initial margin

Therefore if you were to buy 10 US Crude Oil CFDs at $65.92

(10 x 49.50)/ 0.01 x 0.03 = $1,978 initial margin.

The exposure per tick is worth $10.

For online traders, CFDs are an excellent way to gain exposure to the oil market as a speculative play, for hedging purposes, or when searching for good arbitrage possibilities. The markets are liquid and spreads are very attractive.

About the Author:
Mike Estrey is the Head of Research for Blue Index, specialists in Online CFD Trading, Contracts for Difference and Online Forex Trading.

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by Mike Estrey
Over the years there have been many research projects which aimed to find out if market action was random or whether there was proof that it could be predicted on a regular basis. If you are trading the stockmarket, there would be no point in playing the game if it was purely random, and various important papers have shown a distinct repetition of patterns both in price and time cycles, which effectively confirm that market action is not random.

Charts often exhibit similar pattern behaviour in indices, forex, treasury bonds and commodities, aswell as share prices. Nevertheless, there are times when action does appear haphazard, and one explanation for this is what is called the ‘random walk theory’.

Random walks and efficient markets

There have been three main works of note which attempted to ‘explain’ random action. In 1973 Burton Malkiel wrote “A Random Walk Down Wall Street”, which has become one of the most widely known investment works. The book expounded on his stock market theory in which he stated that the past movement or direction of the price of a stock or overall market could not be used to predict its future movement.

This was an extension of work carried out twenty years before, when Maurice Kendall put forward a theory that stock price fluctuations are independent of each other and have the same probability distribution, but that over a period of time, prices maintained an upward trend.

It all comes down to how ‘efficient’ the market is viewed to be, and “The Efficient Market Hypothesis” evolved in the 1960s from a Ph.D. dissertation by Eugene Fama. EMH stated that at any given time, security prices fully reflected all available information, which is a fairly radical statement.

His view was that in an active market that included many well informed and intelligent investors, securities would be appropriately priced. They would reflect all available information, and if the market was efficient, no information or analysis could be expected to result in outperformance of an appropriate benchmark. In the market, there were large numbers of competing players, with each trying to predict future market values of individual securities, and where important current information was almost freely available to all participants.

This would lead to a situation where current prices of individual securities already reflected the effects of information based both on events that have already occurred and on events which were expected to take place in the future.

Trying to dismiss technical and fundamental analysis

EMH was seen to have three forms:

The “Weak” form asserted that all past market prices and data were fully reflected in securities prices. In other words, technical analysis was of no use.

The “Semistrong” form asserted that all publicly available information was fully reflected in securities prices. In other words, fundamental analysis was of no use.

The “Strong” form asserted that all information was fully reflected in securities prices. In other words, even insider information was of no use.

Those three forms effectively dismiss all analysis as futile, whether it be technical or fundamental. Obviously when a trader takes a position, this is based on a view of mispricing in their favour, and in this respect there have been many papers proving that the market is indeed not random. A glance at chart books from the 1970s for instance often shows remarkably similar price action to that seen on current charts, and again similar patterns are often visible to forex and commodity traders.

The other view — the market is not random

A cursory glance at the long term performance of many consistent money managers would indicate that the idea of a purely random market is nonsense. There are many examples of traders who have not only made money in both bull and bear markets, but regularly beaten their respective benchmarks. To do this over a decade or more indicates more than a random distribution of performance, or indeed luck.

The problem in trying to prove that the market is not random is simply that an approach that might work for a statistically valid period of analysis may suddenly become useless once it is widely known. This is because the edge the trader might have had in pricing will be negated if many more participants influence the opening and closing prices that are achieved by their participation. The great majority of studies of technical theories have found the strategies to be completely useless in predicting very long term prices of securities, but there continue to be technical anomalies that occur regularly, and it is up to the smart trader to constantly search for that edge to ‘beat’ the market.

The other point that has been put forward by proponents of efficient markets is that if one takes a random distribution of fund managers, it is not possible for more than half to beat the respective benchmark. Because of costs, using an active manager will on average do less well than simply matching the benchmark using a passive or tracking fund. Whilst this cannot be disputed, there are two important points: first, using a long-side only tracking fund for instance will cause losses in a bear market. Second, successful money or fund mangers tend on average to continue to beat their benchmark over time, and it is possible to have the talent to beat the market in the long term. Just ask Warren Buffett.

Proof the market is not random — a simple comparison against a major theory

The New York Times on 6th Sept 1998 noted a study that was published in the US Journal of Finance by Stephen Brown of New York University, William Goetzmann of Yale, and Alok Kumar of the University of Notre Dame. They tested the widely known Dow Theory system against a simple buy-and-hold strategy for the period from 1929 to 1998 on the US stockmarket.

Over the 70-year period, the Dow Theory system outperformed the buy and hold strategy by about 2% per year. In addition, the former’s portfolio carried significantly less risk, and risk-adjusted, the margin of outperformance would have been even greater.

Another way of looking at it is to consider the markets both efficient and predictable. In a debunk of the earlier work, Lo and Mackinlay’s “A Non-Random Walk Down Wall Street” book concluded that in reality, markets were neither perfectly efficient nor completely inefficient. All markets were efficient to a certain extent, some more so than others. Rather than being an issue of black or white, market efficiency was more a matter of shades of grey, and in markets with substantial impairments of efficiency, more knowledgeable investors could strive to outperform less knowledgeable ones.

Conclusion

Just like predicting the weather, which still cannot be done with any great accuracy over more than a few days, it is difficult and almost impossible to predict future share prices. There are however patterns of human behaviour which are predictable, whether these correspond to the cycle of business investment and profits, how fear and greed manifests itself, and how traders react to outside news events.

All these inputs make it possible for a dedicated CFD trader to achieve outperformance by exploiting regular market anomalies and seeking out the best probability trades.

About the Author:
Mike Estrey is the Head of Research for Blue Index, specialists in Online CFD Trading, Contracts for Difference and Online Forex Trading.

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by Mike Estrey
The rise of CFDs (contracts for difference) and spreadbetting over the last decade has naturally impacted on the amount of trading in physical shares using a traditional stockbroker. There is no doubt that the internet has altered the share trading process to the benefit of private clients in terms of cost and access to information and markets, and with broadband and efficient streaming this really is a boost for those looking to capture real time movements using online trading. The first part of this paper discusses why CFDs and spreadbets are now so popular, and then the subtle differences between the two will be explained.

CFDs and Spreadbetting - the best way to trade the stockmarket

In the old days, what now looks a very cumbersome system involved phone based dealing with the client having to wait for a dealing report from the broker, and this would be followed up with a paper based settlement and certification system. The introduction of nominee accounts and the crest settlement system was a great step forward, and in terms of deals carried out for investment, rather than trading, the system works well.

But for traders, this reduction in certification has gone hand in hand with the biggest change in the industry, the explosive growth of CFDs and spreadbetting, which have principally three main benefits over traditional share dealing:

First, there is no stamp duty to pay under current tax laws, so there is an immediate pick up of 0.5% on all UK based trades. The reason is simply that with a CFD, the client is contracting to pay the difference between the opening and closing prices of the position taken — essentially the profit or loss. Delivery never takes place and there is no time limit on the CFD, therefore there is no stamp duty. Spreadbets are treated as bets and are not currently subject to duty likewise.

Second, clients have the ability to take long or short positions on the underlying share, commodity or index. This is an option that many traditional stockbrokers still prohibit, and is useful both as a speculation and for hedging purposes. CFDs offer a simple and effective way to protect against a potential fall in the stockmarket or for that matter any instrument, without having to sell shares in a portfolio and then buy them back.

Third, traders can utilise generous margin rates, which by using leverage, enable large position sizes to be opened using a relatively small amount of deposit. It goes without saying that there is an associated risk which mirrors the amount of leverage, but for experienced traders this to some extent bears some similarity to traditional physical trading for extended settlement. For CFD traders, margin rates of as low as 1% are available, which again is very attractive for hedging purposes.

For share trading it is usual for clients to place funds on margin, but positions have to be closed within the trading settlement period, or the full cost of the purchase has to be made. The client usually pays a premium for not having to settle for up to 25 working days. Again this option is not allowed universally by brokers, and CFDs solve this problem, as they have no time limit, which makes them far more flexible. Spreadbets can be taken out with a wide range of expiry dates, so again it increases the choice for clients.

With these benefits, and the undoubted cost advantages, the natural question is why clients would wish to use a traditional stockbroker. The answer of course lies in the added value services offered by a broker, which include portfolio analysis and management, advice on collective investments, taxation and other financial products. For clients seeking perhaps a longer term perspective on investments, and for buying and selling shares on a longer term view, stockbrokers have an important role to play.

Buying shares outright also gives clients the benefit of shareholder voting rights, which is not the case for CFDs and spreadbet positions, although holders of long CFD positions do receive corporate dividends, and short CFD positions are debited with dividend payments on the ex-dividend date.

It is for shorter term trading and longer term hedging that CFDs and spreadbets have a clear edge, and they are both beneficial for those who wish to ‘go it alone’ in terms of costs. This benefit can be quantified in terms of the length of time each trade is open.

With CFDs, the additional cost of holding a long CFD position over a traditional purchase is only the interest cost. The interest charged on a long CFD is usually at a premium to LIBOR (London InterBank Offered Rate), typically LIBOR plus 2%, but it should be noted that if a client takes a short position, then interest is actually credited to the CFD position at a comparative discount to LIBOR. The amount the client lodges by way of margin is held to secure the performance of the contract and is not available to be set off against the Contract Value.

Conversely, a traditional share purchase incurs stamp duty at 0.5%. The crossover will occur at the time that the interest charged on the long CFD matches the saving made against stamp duty, and this point is usually reached on or around 28 days after the position is opened. Consequently, for trades outstanding for less than this period it is economically more viable to trade the CFD rather than the underlying stock, working on current interest rates. For those going short of a stock or index, there are clear benefits as interest is received each day while the position is open, so time is not a factor.

CFDs against spreadbetting

The terminology is slightly different for CFDs and spreadbets, but both offer the same degree of leverage and potential risk/reward for online trading. If a client wishes to open a CFD position, this is quoted in the same way as if a normal share purchase/sale was being made i.e. ‘buy 1000 Lloyds TSB CFDs’. With spreadbetting one is technically betting on the price movement of a share, index, commodity or whatever measured in pounds per point of movement. So the equivalent trade here would be ‘buy Lloyds TSB at £10 a point’, but the exposure is essentially the same. In both cases, you simply ‘buy’ if you think that the price is set to rise, or vice versa.

In spreadbets, all profits are free from UK capital gains and income tax, which is not currently the case for CFDs. (Tax law can change or may differ if you pay tax in a jurisdiction other than the UK). The other main difference is that for spreadbet long positions there is no daily funding but as each bet has a defined expiry date the interest cost to the broker is built into the spread in the same way as a futures price might be constructed.

In terms of use, CFDs have the edge for stockmarket trading, accounting for 40% of LSE volumes, and many investment banks tend to use CFDs simply because they tend to track the underlying price more than spreadbets.

There is no question that CFDs and spreadbets have revolutionised short term and online trading if one does not aim to hold any long position for more than a month, and they are valuable for longer term hedging.

About the Author:
Mike Estrey is the Head of Research for Blue Index, specialists CFD Brokers, providing seminars on how to trade CFDs and offering a Live Trading Simulator.

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