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Trading Inflation with CFDs

Written by Andy

There is a lot of attention being paid to the rate of inflation nowadays, with the risk of recession from the financial crisis. Traders can now directly profit from inflation figures by spread betting on the rate of inflation in the UK and in Europe. This means that traders can now trade on inflation futures.

The UK rate of inflation is given by the monthly Consumer Price Index (CPI), which is published around the middle of each month by the Office of National Statistics (ONS). The European version is based on the Eurozone HICP, which stands for Harmonized Indices of Consumer Prices. Traders can take a position at least 3 months in advance on whether the Consumer Price Index will rise or fall, with trades normally remaining open until 30 minutes before the announcement. GFT (which has now been acquired by CityIndex) used to be one of the few market makers for these CFDs, which means liquidity is low, but as long as you believe that you are right then you can keep them until the Index is published and you take your profit.

As I stated GFT used to be one of the few providers to quote a price on UK CPI and European HICP inflation for CFD traders. Typically, the market would include a spread of 0.10 and the CFDs could be bought with a margin requirement of 5%. You can go long or short depending on your view of where inflation is headed. GFT used to quote their monthly CPI future according to their own model which predicts coming information.

The UK CPI mirrors the costs of products and services of typical consumers in the United Kingdom, using a weighted basket of goods that is checked on an annual basis. Thus, the inflation figures of the CPI include a number of major factors, such as housing costs, food, transport, and other household expenses. Energy is included, which means that the volatile oil market can have an impact on the figures. The figures are compiled by the government from a total of 650 goods and services logged in about 150 areas of the UK. The CFDs are settled on the initial CPI figures issued, and any subsequent revisions are ignored. Quite expectedly, high oil prices tend to add to inflation (since oil is essential for many uses like driving a car or heating) and low prices will have a downward effect.

Unlike trading or betting on stocks and shares, most people have a view of where information is headed, and these CFDs give everyone a chance to test their conviction by placing a trade. Inflation CFDs are available at least three months ahead, and remain open until just before the announcement.

CFD Trade on Inflation: Example

GFT at the time made a market in both European and UK inflation. The margin level required to open a trade is 5 per cent and the commission takes the form of a spread of five basis points on the nearest month contract and 10 points on months that are further away.

As an example of a trade the provider may be quoting 2.49 to 2.59 for a coming month. This means that they expect the official data to show the rate of inflation, year on year, to be around 2.54%. If you believe that it may be more than that, then you can buy at 2.59 for, say, £10 per point. If the CPI comes in higher, say at 2.82%, then you have gained 23 points (2.82-2.59) and will make £230 profit.

As with any trade, it is possible to lose. If the CPI came in at 2.44%, then you would have lost 2.59-2.44 which is 15 points, or £150. If instead of going long at 2.59, you had sold short at 2.49, then you would have profited by £50 (2.49-2.44 is 5 points). A caveat of Inflation CFDs is that the maximum position could be limited so CFD traders might want to also look at sector bets on basic resources and oil and gas.

The great advantage of these inflation CFDs is that they are straightforward, and deal in a concept that most people are familiar with. Apart from straightforward betting for profit, investors may also use these financial products to hedge their portfolios against inflation. Depending on the composition of the portfolios, a suitable trade on an inflation CFD will provide a cushion against losses caused by inflation. Alternatively, another possible way to speculate on inflation is via gold which is traditionally seen as a hedge against high inflation.

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