CFD (Contracts for difference)

DEFINITION of CFD

CFD is a type of financial derivative used in trading.

WHAT IT IS IN ESSENCE

In finance, a contract for difference (CFD) is a contract between two parties. Typically described as “buyer” and “seller”. It stipulates that the seller will pay to the buyer the difference between the current value of an asset and its value at contract time.

If the difference is negative, then the buyer pays instead to the seller.

CFDs are financial derivatives that allow traders to take advantage of prices moving up (long positions) or prices moving down (short positions) on underlying financial instruments. Traders can use them to speculate on those markets.

For example.

When you want to apply it to equities, such a contract is an equity derivative. And that allows traders to speculate on share price movements. Without the need for ownership of the underlying shares. You can trade CFDs as you do with stocks, bonds, futures, commodities, indices, or currencies. They are also known as forwarding contracts for difference (FCD).  Also, they can be used to trade a variety of financial markets like shares, forex, commodities, indices or bonds. Traders can trade CFDs in contracts: you take out a certain number of contracts, and each is equal to a base amount of the underlying asset. One contract is equal to a trade of £10 per point on the FTSE.

CFDs were originally developed in the early 1990s in London. At first, as a type of equity swap for trading on margin. The invention of the CFD belongs to Brian Keelan and Jon Wood. Both of UBS Warburg, on their Trafalgar House, deal in the early 90s. They were initially used by hedge funds and institutional traders to cost-effectively hedge their exposure to stocks on the London Stock Exchange. Mainly because they required only a small margin. And because no physical shares changed hands, avoided the UK transaction tax known as stamp duty.

HOW TO USE

CFDs are available in Australia, Austria, Canada, Cyprus, Czech Republic, France, Germany. In Hong Kong, Ireland, Israel, Italy, Japan, The Netherlands, Luxembourg, Norway, Poland. Also in Portugal, Romania, Russia, Singapore, South Africa, Spain. As well in Sweden, Switzerland, Turkey, United Kingdom,  and New Zealand. They are not permitted in a number of other countries – most notably the United States, where, due to rules about over the counter products, CFDs cannot be traded by retail investors unless on a registered exchange and there are no exchanges in the US that offer CFDs