Contract for Difference or CFD trading define means settling the cash differences between the opening and closing price of an underlying asset in the future. A Contract for Difference occurs between a trader and a broker and is a derivative instrument for speculating the rice and fall of foreign currency, indices, commodities, and stocks.
CFD has a wide reach all over the world and forms a large part of the London Stock Exchange (LS). FTSE 100 or Financial Times Stock Exchange 100, an index of 100 companies in LSE consists of 1/3rd CFD trades in the entire UK.
Primary reason for the fame of CFD in UK is largely due to its inception in this country. It was originally conceived by Brian Keelan and Jon Wood in 1990s; CFD quickly spread across the country and became a major player since the 2000s.
Although permissible in the UK, CFD trading is not allowed in the US. Only registered exchanges can take part in it and there aren’t any such exchanges that conduct CFD trading. However, there are countries that where CFD trading is allowed like Germany, Australia, Italy, New Zealand, Sweden, South Africa, Japan, Switzerland, Singapore, Canada, Czech Republic, Poland, Turkey, France, Hong Kong, Israel, Norway, Portugal, Russia, Spain, and others.
Few features that are included with CFD trading define that traders can find beneficial are:
Leverage allows traders to buy a large position by investing just a small amount. A leverage is provided by the broker and can vary between them. A higher leverage will attract larger profits. However, a higher leverage can also lead to higher risk and potentially larger losses.
A broker offering a leverage of 1:50 will mean that an investor has to invest only $200 to buy a position worth $10,000. Owing to the availability of leverage, traders find it beneficial to invest in CFD rather than buying stocks.
- Speculating both ways
CFD trading is speculative and traders can invest on an asset if they think its price will go up or down in the future.
For example, a trader can buy shares of Coca-Cola thinking it will rise in the future. He makes a CFD agreement with his/her broker and secures a large position with a small amount with leverage. The trader’s speculations came true and the prices of the shares do go down at a certain point of time. He/she receives the difference i.e. the increased amount of the share prices as the profit.
Again, the trader might invest when he/she thinks the share prices of Coca-Cola can go down in the future. In the same way the trader secures a position; and if the price does go down, he/she will receive the difference as profit.
- Diverse market
As mentioned above traders can choose from Forex, commodities, indices, and stocks to invest in which also falls under CFD trading define.
With Forex, traders get the option to invest in all major currencies and additionally a total of approximately 60 of them. Indices give them the option to trade in Australia 200, Japan 225, Germany 30 and more. Traders can trade with gold, silver, electricity, coffee, cocoa, and more as part of commodities. Among these traders can also invest in Bitcoin with CFD trading.
The above was in short what CFD trading define mean which can benefit beginners wanting to start. However they should keep in mind the various risks involved with Contract for Difference.
The content of this article reflects the author’s opinion and does not necessarily reflect the official position of LiteForex. The material published on this page is provided for informational purposes only and should not be considered as the provision of investment advice for the purposes of Directive 2004/39/EC.