What Is A CFD – Contract For Difference

Brokers often refer to something called a CFD but what does it actually mean?

What is a CFD?

A “Contract for Difference” is used to trade the fluctuations in pricing of a given asset/instrument.  CFD’s are therefore the contract for exchanging the difference in an assets price from the contract initiation (time the trade is opened until the moment the trade is then closed.

Market speculators using a CFD do not own the underlying asset or instrument but aim to gain if the given market subsequently moves in their favour. The CFD is a derivative which has an intrinsic value based on the underlying asset.  If the trader thinks the underlying asset’s price could go higher they might choose to open a “long’ position and seek to benefit from the potential upside; the opposite is true for a short trade scenario.  The rest is down to the market and the subsequent movement of the asset determines whether, and by how much, the trader gains or experiences a loss.

Contract for Difference products are typically traded between the CFD provider (who defines the associated rules) and individual speculator. CFDs are available for shares, commodities, indices, forex and a large range of other markets.  CFDs are popular as they are leveraged products which means traders only need tie up a fraction of the position value when opening their trades which leaves capital available and not all tied-up in the position. However, the downside is that as CFDs are leveraged products they can significantly increase the risk of bigger losses.  

CFD products can be found in countries including (but no limited to) the UK, Germany, Australia, Canada and Japan but are not permitted in the US at the time of writing this article.  CFDs and other similar leveraged products can give losses exceeding the initial deposit and are not suitable for everyone.  Make sure you fully understand all of the the risks involved.