Index trading is a great way to experience diversified, less volatile trading on some of the biggest and best-known indices in the world - heavyweights like the S&P 500, Dow Jones Industrial Average and FTSE 100 . But without a strategy, you may be setting yourself up to fail.
In this guide, learn some of the best index trading strategies; tools that you can use to develop a more thoughtful approach to trading CFDs and potentially improve your chances of success.
Index trading strategies are methods of opening and closing trades. They are designed to ensure that:
These benefits combine to provide an informed guide to trading that aims to improve decision-making and reduce the risk of losing money on indices investments.
Index trading strategies are important but the best one for you will depend on what type of trading you are conducting, your goals and your preferences. To help you to pick the best, here are some of the most popular.
Suitable for a range of types of index trades, including CFDs, this strategy is based on entering trades at the start of an upward or downward trend. Here, the expectation is that the price of the index will continue on its trajectory, magnifying profits in kind.
For this strategy to work, you will need to use a range of technical analysis methods, such as establishing whether the index's short-term moving average has risen above its long-term moving average (potentially a good time to short the index) or is below its long-term average (signifying opportunities in going long). Momentum indicators like relative strength index (RSI) can also be helpful.
Position trading is a long-term trading strategy primarily designed for futures index trading. It involves conducting fundamental analysis and trend research into the index to understand whether it is likely to rise or lower in price over a long period. Please note you cannot trade futures with Tradu and this article is for information purposes only.
Once this is determined, the trader opens a short or long position and keeps it open for a long period of time, with the expectation that it will continue the trajectory identified in the analysis.
Here, tools like 50-day moving averages, compared against 100- and 200-day averages, can give an indication of whether it is a good time to short or go long on the index, much like trend trading. Support and resistance levels are also helpful, showing the index's price versus long-term price support levels.
When trading any security, be it forex, stocks, commodities, crypto or indices , it's important that you know about retracements, pullbacks reversals and the differences between them. This understanding can benefit a whole host of other index trading strategies or form strategies in and of themselves.
Retracements are short-term changes in the long-term price trend of an index. They are momentary, though - the price will resume its uptrend or downtrend trajectory.
Pullbacks are similar to retracements but smaller.
Reversals are long-term changes in index price. They signify an uptrend or downtrend reversing for a longer period of time.
Understanding whether a change in price is a mere retracement or a significant reversal can be helped by fundamental analysis but is otherwise practically impossible to predict. What you can do, however, is use trailing stop-loss orders. These automatically sell when the price drops below a certain percentage but trail behind the price as it moves, thereby preventing reversals from wiping out most of the accrued profit.
Momentum trading is a high-volatility index trading strategy that aims to take advantage of herd-like investor behaviour.
More common with more volatile investments such as stocks, it involves investing in indexes that are seeing their price increase quickly as a result of high market interest and selling them as their price peaks. For momentum traders, the best time to invest is in the middle of the price increase - when momentum is high but still increasing at a fast pace.
To understand when an index is undergoing positive or negative momentum, technical analysis tools like trend lines and oscillators can be used. These identify the price extremes of an index, allowing the trader to understand where the price currently is within the historic price bounds.
A common index futures trading strategy, breakout trading involves identifying indexes which are in the initial stages of exiting their long-term levels of support (lowest average price over time) or resistance (highest average price). Please note you cannot trade futures with Tradu and this article is for information purposes only.
To identify trading breakouts, you need to understand the long-term levels of price support (for short positions) or resistance (for long positions). Once the price of an index drops or exceeds these respective levels, it is an indicator to open a position, using stop orders to maximise profits.
Spread trading involves buying a futures index security at the same time as selling another economically related security. Essentially, each acts as a hedge against the other, protecting the investor from losses. The profit gained is dependent on the price difference between the two securities. Please note you cannot trade futures with Tradu and this article is for information purposes only.
Day, swing and trend trading are together ways of describing short-, medium- and long-term trades.
Day trades take place within a day or less, swing trades for several days or weeks, and trend trades over weeks or months. Traders combine these approaches with other trading strategies - trend trading with breakouts and so forth.
Becoming an expert at index trading strategy is a way of improving your chances of taking profit when trading.
Tradu offers a great selection of CFDs on indices to trade, including major and minor indexes from around the globe. Put your training to the test and open a live Tradu account today. Alternatively, hone your skills further with our expert guides.