What is CFD contract?

A CFD is an agreement between a Client and a Provider to exchange the difference between the opening and closing value of the trade. With a CFD, you receive many of the benefits of share ownership (such as dividends and price performance) but you don’t actually own the share. A CFD is a derivative product.

CFDs are a margined product. You only deposit a fraction of the overall value of the trade (typically 10%), allowing you to make a much larger potential investment than if you were buying the shares. So for example, ?1,000 would be needed to buy a CFD in ?10,000 of shares. A ?500 profit on the deal would equate to just a 5% return if you bought the shares outright; compare this to a return of 50% with a CFD. However, losses are magnified in exactly the same way.

In addition to the initial margin required to establish a position, if your position moves against you, you may need to make further deposits. This is because you must meet the full value of running losses as well as maintaining the initial margin. By using margin you are effectively borrowing money to trade, and as a result you are charged financing for your positions.

We offer a comprehensive range of CFDs on individual shares across share based indices, commodities and currencies. The prices are quoted as in the underlying market, for example in UK in sterling.

How do you tell whether it is right for you?

• What is your attitude towards risk?
  If you’re usually made wary by the phrase "investments can go down as well as up" then CFD trading is probably not for you. If you’re comfortable with high risk investments and have the money to trade with, CFD trading could be an ideal way to trade.
• Do you have the financial reserves? Everyone wants to make money and with CFD trading, the potential profits can be considerable. But so can the losses. Markets are volatile and can turn against you very quickly, leaving you highly exposed. If you don’t have the money to lose, don’t trade. Sensible traders always make sure they only risk what they can afford to lose.
• What's your experience of the markets? It is important that you understand the dynamics of any instruments you trade via spread betting or CFD trading, some markets move more quickly than others and so profits or losses can accumulate more quickly. Also remember that when trading on lower margin products your total exposure can be much larger.

Once you’ve opened up a CFD trading account, you’re left wondering – what should I do next?

There is a CFD trading revolution going on in the trading world. Business is booming for the CFD providers and many traders are signing up to the services. Once you’ve opened up a CFD trading account, you’re left wondering – what should I do next? Should I simply just buy into long positions just as I did when I traded shares? Here are some CFD trading strategies for you to peruse and perhaps implement.

The simplest tool in the CFD trading strategies tool chest is simply GOING LONG. Using the long strategy with CFDs would benefit you with any positive move of the underlying stock. If you roll a long position into the next trading day, the trader would need to pay the amount borrowed at the going interest rate plus a fee (usually an additional percentage) for the CFD provider.

Another tool in the CFD trading strategies war chest is GOING SHORT. Using CFDs allow the trader to easily benefit from the fall of the underlying share price without too many complications. Short positions usually pay out an interest daily on rolling positions minus the CFD provider fee (usually a percentage). Dividends incurred while holding the stock need to be paid to the CFD provider.

CFDs are also a part of HEDGING CFD trading strategies. This will enable the trader to change the risk profile of any holdings they may have. By use of HEDGING the trader essentially offsets an existing stock position to reduce the market risk. Doing this will reduce the trader’s exposure temporarily to a stock price movements without the full sale of the underlying stock.

Traders can take advantage of INDEX CONSTITUENT CHANGES. Traders can take advantage of this CFD trading strategy by either shorting or going long on the underlying index especially when the companies included in an index are shifting and being reweighed and profiting from anticipating index promotions and relegations.

To finish off, here are some more CFD trading strategies that are a little off the beaten track. They probably won’t be used often by traders but they form a part of the CFD trading strategies arsenal that is available to any CFD trader. CFD traders and trade on the NEWS or anticipation of the news of some event. Such news could be about the company’s dealings or any news of directors buying or selling stock. Because of the CFDs offer leverage as well as a low entry cost, traders are able to act upon NEWS stories. You can use ARBITRAGE to profit by taking advantage of a price discrepancy by simultaneously buying into a position while shorting another. Some traders may trade PAIRS of stocks where the trader would buy into one stock while selling another competitive stock. CFDs can be used as TAX MANAGEMENT as they don’t incur capital gains tax. If you own shares already and your capital is locked into the value of those shares you can then implement a CONVERSION and CAPITAL CASH RELEASE where the stock would be used as the underlying security and margined at the given margin rate so funds can be released for your trading other stocks. And of course, CFDs are used for SHORT TERM TRADING and SPECULATION.

CFDs are a lucrative vehicle for professional market traders to leverage their short and long positions. We seek to understand.

You may already be a trader or are looking for another way to leverage your trades besides using options and warrants. CFD stands for "Contract For Difference". CFDs are a lucrative vehicle for professional market traders to leverage their short and long positions. CFDs offer gearing, short selling, direct trading on prices – no waiting for execution and finally the system and dealers often offer multiple international markets for traders to work on so there are many opportunities. We have a look at what CFDs are and the mechanics to understand this financial instrument.

A CFD – Contract For Difference is a derivative – it derives its value from another underlying security. It is a contract between you the trader and the broker or dealer. When you trade with CFDs you do not have to outlay the full capital to be exposed to the underlying stock price movements. Because you don’t outlay the full amount, you trade on margin, only needing to pay 3 to 20 per cent of the actual price of the stock, index or other financial security.

An example of a CFD trade is if you wanted to buy $1000 worth of shares and the margin is 10 per cent, your deposit – or margin to maintain that position at that moment is time is $100. When the market moves to $1100 – profiting you $100; the amount of equity you need to put forward is $110 – which is 10 per cent of $1100. This price action is what is called "marked to market". This marked to market process is usually valued daily at close of business. Because you can buy $1000 worth of shares with only $100, you can potentially load up on your positions and own ten times more than what you can purchase with normal shares. Actually "owning" is an incorrect term, as you never do have any right to purchase the shares as with warrants or options.

The CFD contract is only for the difference – whether in Profit or Loss. The dealer pays you a profit if you terminate the contract by exiting your position. You pay the dealer your Loss amount if you terminate the contract from a losing position. Your profit and loss in CFDs are simply calculated by calculating the difference between opening and closing prices and multiplying by the number of shares in the contract (some people may also refer to one share as one contract so 100 shares would mean you have 100 contracts). The total contract value however, is calculated simply by multiplying the number of contracts with the underlying share price.

As with options and warrants, CFDs expose the trader with increased profits or increased losses. Basically every price movement is magnified as your position is leveraged. There is no expiration date on a CFD compared to similar leveraged instruments: warrants and options.

CFD trading is a growing trading tool for professional private traders Part 1:

Contracts For Difference or frequently referred to as CFDs is a financial vehicle gaining in popularity with private traders for its flexibility and features. A CFD has many advantages and for any trader it is yet another useful tool to use in the business of trading. In this second part of our introduction to CFDs we have a look at what CFDs are and the part they play in CFD trading.

The CFD is simply an agreement between two parties to exchange the difference between the opening price and the closing price of an underlying share once the contract has been closed, this value being multiplied by the number of shares specified in the open contract. CFD trading uses this basic principle to make leveraged profits on today’s markets. It is estimated that nearly twenty per cent of the UK equity market turnover is based on CFD paper contracts compared to actual transfer of share ownership. When traders open a CFD trade they have the option to either open a long or short position. A long position is when the trader buys into the trade hoping shares to go up. A short position is when the trader sells to enter the trade hoping the shares will fall in price.

The contract value of a CFD is defined as the number of shares the CFD trader has assigned for the trade multiplied by the price of the underlying share from which the value of the CFD value is derived. A trader who has gone long into a trade will profit as the value of the underlying share increases. Conversely a CFD trader who has initiated a short to enter into a trade will profit from the falling price of the underlying share. A long CFD contract gives the trader no rights to acquire the underlying share and no shareholder rights but receives the dividends as well as the capital returns. A short CFD trade gives the CFD trader the profit for the falling shares but there is no contract requirement to deliver the underlying shares at any point.

CFD traders who open a position with their CFD provider aren’t obligated to pay the full underlying value of the contract. This fact lies in the heart of the biggest advantage of using CFDs for trading. The only money that is required to open a trade is the deposit funds also known as the margin or collateral. The margin you put up to open a trade depends on the CFD provider you choose as well as the liquidity of the underlying share. The level of margin is usually given as a percentage. The CFDs are usually ‘marked to market’ daily which means the CFD trader needs to ensure that the level of margin in their account every day matches with any changes in price of the underlying share. Traders would also pay interest daily on the full value of a long CFD trade since the provider has essentially financed the value of the trade. Conversely on short trades the trader would receive interest. These interest payments will also include a percentage fee for the CFD provider, so in long positions you may add two to three percent on top of the set interest rate and for short positions you would subtract that interest margin from the cash rate of the day.

CFDs are a lucrative vehicle for professional market traders to leverage their short and long positions. We seek to understand.

In Part 2: Understanding CFD Trading we had a look at some more basic mechanics of CFDs – Contracts For Difference such as the margin requirements for CFDs and some basic strategies that you can use when using CFDs to trade. In Part three we continue in our venture in looking at further intricacies and specifics in trading CFDs.

When you trade CFDs your position is leveraged which means you are controlling a much bigger underlying amount of value. As a consequence you either have to pay interest to maintain the position or be paid interest as a result of your position. When you have a long position – that is, when you bought into the position, you have to pay interest that is calculated and charged daily to maintain your position. On the other hand, if you have a short position – that is if you sold to enter into your position then you are credited interest. The interest rate you pay or receive is calculated to include a margin above for long CFDs or a margin below for short CFDs in addition to the going interest rate. For example, most dealers have a 2 per cent premium above the overnight cash rate; and currently in Australia (March 2006) our official cash rate is at 5.50 per cent – this means the dealer will be charging you or crediting you 7.5% per annum or 3.5% per annum respectively. So if you held a trade overnight, you would calculate the interest you’ll pay or be credited by multiplying: [Underlying value of CFD] x [Interest Rate + Premium] * 1[day] x 365 [days in one year].

Remember that CFDs allow you to short sell to make a profit if the value of the underlying equity falls. Normally, people recognize that with many things, you can make money on prices appreciating but CFDs as an instrument totally streamlines the whole short selling process. Before CFDs came along your broker would have needed to "borrow" the shares from somewhere to enable you to short a stock or other equity.

Ok, so what happens when you still hold your Contract For Difference during an ex-Dividend date? Well, if you are long, you will receive an instant payment on the ex-dividend date into your account. (Instead of having to wait until the official payments date if you hold the actual underlying stock). On the other hand, if you are short, you will be liable to pay up the dividend and be debited the gross dividend from your trading account.

CFD has opened up multiple markets for traders to practice and enact their masterful trading skills on. Depending on your CFD dealer, you will be able to trade: FTSE 100, WALL STREET, S&P 500, NASDAQ 100, DAX 30, CAC 40, SWISS MARKET, IBEX 35, MIB 30, EURO STOXX 50, NIKKEI DOW 225, ASX and HANG SENG. You have to remember that when trading overseas, the trade will be executed in the local currency. For example in Australia and US it would be Dollars and cents in their own currency and in UK it would be Pounds and Pence. When trading overseas you will be exposed to overseas foreign currency exchange (forex) risks. That is - currency risk becomes a part of your profit and loss considerations as you will be at the mercy of the fluctuations in the forex markets.

CFDs are Contracts For Difference. That is – you and the other party are under contract to provide the difference in the transaction. Therefore, you cannot take or make a delivery of the stock. In other words, you have no right to buy the stock or liable to deliver your stock to anyone. You have no rights to acquire or any obligations relating to the underlying share, compare this with Options and Warrants.

Don’t let this scare you from trading CFDs, but these are super risky financial instruments. Many people have been burnt. Be careful and always trade with a plan. CFDs are leveraged instrument, and the power or leverage can easily work in your favour and make quick profits or against you and make massive losses almost instantaneously. Profits or losses can accumulate quickly, up to ten times faster than non leveraged positions – depending on your leverage multiplier.

Another factor to keep your eye on when trading CFDs are the financing costs for long positions – short positions don’t incur you any financing costs. The financing cost should be a part of your trading plan, as it is a factor that can make or break your profit margin.

Make sure the dealer you are trading with is accredited and holds your account funds in a compliant bank account. Some CFD providers hold their client’s funds in a trust account in your local country.

Trading CFDs is not spread betting. The main difference between CFDs and Spread Betting is that CFD spreads are market determined, while betting spreads are set by bookmakers and therefore tend to be wider.

Finally, CFDs are high risk high return instruments. They are not "set and forget" investments. They are not designed for long term positions. (due to the financing costs) They can get expensive the longer you stay in a position. They are for short term trading, and if you get the markets "right", well the rewards are definitely waiting for you.