A CFD or “Contract For Difference” is a contractual agreement between a buyer and a seller concerning changes in the price of an asset. In CFD trading, as the price of the asset varies from the price stated in the contract, the buyer or the seller of the CFD makes a profit or a loss accordingly. If the price goes up, the buyer profits and the seller loses, and vice versa. The asset itself may be a currency, a commodity, a company stock or even a sector or a global index. However, there is no transfer of the asset. In other words, buying a CFD does not mean taking ownership of the underlying asset.
Where do CFDs come from?
CFD trading was invented in the 1990s. One of the reasons for their creation was to avoid the tax that was due when real assets changed hands. Traders in exchanges in countries like the United Kingdom were then able to speculate on shares and avoid taxes that were at times as high as 1% of the share transaction itself – and therefore a correspondingly greater part of any profit that was made. After first being used by institutional investors and hedge funds, they made their way into brokers’ offerings for private investors a few years later. Most countries now allow CFDs to be traded, although the United States does not. There are still no standard contracts for trading in CFDs. Terms and conditions will depend on the particular broker you use, although brokers’ offers tend to be similar.
What justifies CFD trading?
Apart from tax considerations that may vary from one country to another, CFD trading may also be used for other reasons such as hedging or disguising a position. Investors who have acquired an asset such as a block of currency or options to buy shares can also use CFDs to protect their positions. Others who want to acquire controlling stakes in the shares of a company for example can buy CFDs through a broker. The broker will then buy the shares to hedge against the CFDs that have been bought. When the moment is right, the investor can then convert the CFDs into the real shares (so now a transfer of ownership of the asset is deliberately being made) and possibly proceed to a takeover bid for the company concerned.
CFDs can last indefinitely
CFDs have no fixed date for expiry. They are similar to “standard” forex trading operations in that they use leverage to make trades. Leverage multiplies the amounts of potential profits and losses in CFD trading. A trader dealing in CFDs needs to have sufficient margin (enough money in his or her trading account) to cover a loss-making situation. If there is not enough margin, the broker with whom the trader is dealing will stop the trade and the corresponding amount of money will be debited from the trader’s account. If there is enough margin in the account however, CFD trading can be rolled over from one day to another indefinitely, like standard forex trades.
Basics for trading CFDs
CFD trading uses many of the techniques and tools that are already part of other financial activities such as forex trading. Fundamental analysis and technical analysis are both important tools for understanding the market and how the prices of different assets are likely to change. The same leading and lagging indicators that you would use for currency trading, for example, moving averages, oscillators and momentum indicators, also apply directly to CFD trading. Trading plans and strategies should be defined and applied in the same way to maximize the chances of making a profit, and to minimize the risk of trading loss that might otherwise be caused by emotionally driven decisions. Leverage, also an essential part of CFD trading, needs to be correctly understood and applied, as in forex trading. Overnight interest payments, whether negative or positive, must also be taken into account. CFDs make this aspect simpler in that interest is paid by an investor who buys CFDs (going “long”) and is gained by an investor who sells CFDs (going “short”).
CFD differences to options and futures
This indefinite roll-over feature distinguishes CFD trading from other financial products such as options and futures. Options expire and become worthless after a certain defined date, although there is no transfer of the underlying asset unless the buyer of the option chooses. Futures contracts are for a fixed length of time, but they then oblige the seller of the futures contract to transfer the asset to the buyer, who is obliged to buy it at the price initially specified in the futures contract. On the other hand when you buy a CFD you can terminate it at any time.
Accounting for CFD trading
Trading in CFDs means that your investor account will be constantly assessed for its “equity”: the total amount of money at any time as a function of money you have deposited or taken out, profits or losses you have made and the size of CFD trades that you have open. The equity or net balance of your account is affected by the current value of these trades. If the equity of your account falls below the margin needed to cover existing trades, the broker will make a margin call for you to deposit more money and close your CFD trades if no further deposit is made. Successful CFD trading is also a matter of keeping tabs on your account equity and avoiding situations where CFD trades are closed or cannot be started when you would have preferred to have such trades open.
Min/Max TRADE SIZE
CONTRACT SIZE Per lot
Dow Jones 30
- XAUUSD. - gold
- XAGUSD. - silver
- CL. - Light crude oil is traded on the CME Globex, CME ClearPort, (CME Group) and Open Outcry (New York) futures exchange venues and is quoted in U.S. dollars and cents per barrel. Its product symbol is "CL" and its contract size is 1,000 barrels (160 m3) with a minimum fluctuation of $0.01 per barrel.
- NGAS. - Natural gas prices, as with other commodity prices, are mainly driven by supply and demand fundamentals. However, natural gas prices may also be linked to the price of crude oil and/or petroleum products, especially in continental Europe.
- DAX. - The DAX (Deutscher Aktien IndeX, formerly Deutscher Aktien-Index (German stock index)) is a blue chip stock market index consisting of the 30 major German companies trading on the Frankfurt Stock Exchange. Prices are taken from the electronic Xetra trading system. According to Deutsche Börse, the operator of Xetra, DAX measures the performance of the Prime Standard’s 30 largest German companies in terms of order book volume and market capitalization.
- CAC. - (French: CAC quarante [kak kaʁɑ̃t]) is a benchmark French stock market index. The index represents a capitalization-weighted measure of the 40 most significant values among the 100 highest market caps on the Paris Bourse (now Euronext Paris). It is one of the main national indices of the pan-European stock exchange group Euronext alongside Brussels' BEL20, Lisbon's PSI-20 and Amsterdam's AEX.
- FTSE. - The FTSE 100 Index, also called FTSE 100, FTSE, or, informally, the "footsie" is a share index of the stocks of the 100 companies listed on the London Stock Exchange with the highest market capitalization. It is one of the most widely used stock indices and is seen as a gauge of business prosperity. The index is maintained by the FTSE Group, an independent company jointly owned by the Financial Times and the London Stock Exchange. Its name derives from the acronym of its two parent companies, but has since been registered as a limited company in its own right.
- DOW. – The Dow Jones Industrial Average, also called the Industrial Average, the Dow 30, or simply the Dow, is a stock market index, and one of several indices created by Wall Street Journal editor and Dow Jones & Company co-founder Charles Dow. It was founded on May 26, 1896, and is now owned by Dow Jones Indexes, which is majority owned by the CME Group. The average is named after Dow and one of his business associates, statistician Edward Jones. It is an index that shows how 30 large, publicly owned companies based in the United States have traded during a standard trading session in the stock market. It is the second oldest U.S. market index after the Dow Jones Transportation Average, which was also created by Dow.
- NSDQ. – The NASDAQ Stock Market is an American stock exchange. "NASDAQ" originally stood for "National Association of Securities Dealers Automated Quotations". It is the second-largest stock exchange by market capitalization in the world, after the New York Stock Exchange. As of January 25, 2011, there are 2,711 listings, with a total capitalization of over $4.5 trillion. The NASDAQ has more trading volume than any other electronic stock exchange in the world. The exchange is owned by NASDAQ OMX Group, which also owns the OMX stock exchange network.
- SP. – The S&P 500, or the Standard & Poor 500, is a stock market index based on the common stock prices of 500 top publicly traded American companies. It differs from other stock market indices like the Dow Jones Industrial Average and the Nasdaq Composite because it tracks a different number of stocks and weights the stocks differently. It is one of the most commonly followed indices and many consider it the best representation of the market and a bellwether for the U.S. economy. It is a free-float capitalization- weighted index.
- CORN - corn
- WHEAT –wheat
- BRENT - The ICE Brent Oil Crude futures is a deliverable contract based on EFP delivery with an option to cash settle.
- COFFEE - The Coffe contract is the world benchmark for Arabica coffee. The contract prices physical delivery of exchange-gradegreen beans, from one of 19 countries of origin in a licensed warehouse to one of several ports in the U.S and Europe, with stated premiums/discounts for ports and growths.
- SUG 11 - The Sugar No. 11 contract is the world benchmark contract for raw sugar tarding. The contract prices the physical delivery of raw cane sugar, free-on-board the receiver's vessel to a port within the country of origin of the sugar.
- COPP - Copper, one of the oldest and easily mined commodities, is the world's third most widely used metal, after iron and aluminum. Copper today is primarily used in highly cyclical industries such as construction and industrial machinery manufacturing. Profitable extraction of the metal depends on cost-efficient high-volume mining techniques, and supply is sensitive to the political situation particularly in those countries where copper mining is a government-controlled enterprise.