CFD refers to a contract between a seller and a buyer in which the buyer pays the difference between the prevailing price of any asset and its value when the contract was signed.
These contracts are meant to give the trader and investor a chance to profit from any price movement even without buying the underlying asset.
A contract for difference is normally between the broker and the client in which a tradable instrument mirrors the movement of the price of the underlying asset. It is the movement that allows for the realization of profits. The value of the contract does not depend on the value of the underlying asset but is determined by a change in price between the time of entry and exit.
Notice that a CFD contract does not utilize a commodity, future exchange, forex and commodity. This article is an introduction to CFDs. Read it to learn more about trading CFDs.
How It Works
A contract for differences is normally a contract between a broker and an exchange regarding the value of financial products. The value may be of derivatives and securities determined at the opening and closing prices.
It is a trading strategy that makes use of a trader’s experience. The contract does not involve the delivery of physical securities or goods. So, in a nutshell, the investor will not buy the underlying asset. However, they speculate on the movement of prices of the asset.
As such, a trader uses the CFDs to make bets regardless of whether the underlying asset’s price will increase or decrease. So they bet on either a downward or upward movement of price. If a trader purchases CFD and the asset price increases, they offer them for sale. The difference between their buying price and sale price constitutes their gain.
But if a trader speculates that the asset price will decline, they can place an opening sell position. So to close such a position, they may need to purchase an offsetting trade with the difference, representing the loss in price being settled through their account.
In Which Country Can One Trade Cfds?
Countries such as the U.S. do not allow for CFD trading. It is illegal to trade CFDs because they are treated as over-the-counter products meaning that they don’t go through regulated exchanges. Also, they allow traders to use leverage, meaning that they can suffer from very large losses, so the regulators are concerned with this.
However, there are over the counter markets in many countries such as the UK, Hong Kong, New Zealand, South Africa, Spain, France, Singapore, Germany, UK Netherlands, Denmark, Belgium, Thailand, Italy and Switzerland, and Australia which feature over the counter markets that allow trading of CFD contracts.
Thus, CFD trading is already surging and entails trading on markets characterized by falling and rising prices. This is vital since it enables traders to profit even when the markets are volatile.
Costs involved in CFDs
Several costs are involved in trading CFDs; they include the financing costs and commission. The difference you get when you subtract the bid price from the price offered when you trade the asset is what constitutes a trader’s profit or loss.
If you trade forex pairs, you will not pay a commission. But if you choose to trade in stocks, you will pay a commission. Most brokers charge a commission of between 10%-15%.
Also, anyone taking a long position is likely to pay a financing charge since overnight positions are treated as investments in which a trader has been lent money to use to buy the asset. So such a trader will be charged an interest every day they hold the position.
Is Trading CFD Riskier?
CFD moves fast so it may require a lot of monitoring. Also, it carries plenty of liquidity risks, and therefore, you must always try to maintain the margins. If you cannot do this, the provider may close your position, leading to a loss.
Trading CFDs is speculative, thus PrimeXBT provides traders with an opportunity to make them gain without owning the tradable asset. It is an over-the-counter activity that you can engage in if you love speculating.