A CFD is an agreement between two parties to exchange the difference between the price of an asset at the time the contract is entered into and the price of the asset at a stipulated time in the future. CFDs have become a popular form of trading, enabling traders to speculate on the future price movements of a wide range of assets without actually buying the assets in question and without paying the higher broker commissions normally associated with doing so. Some of this popularity stems from the fact that brokers often allow investors to acquire positions which are much larger than the amount invested would normally permit. This is known as 'leverage'.
For example, an investor may want to acquire 100 shares in GloboCorp PLC, believing that they will increase in value. GloboCorp shares are trading at $50 per share, so the investor would need to pay $5,000 plus deal fees to acquire the shares. Alternatively, the investor could acquire a CFD in relation to 100 GloboCorp shares - the CFD would typically cost a fraction of the price of buying the shares outright. Let's assume the investors acquires the CFD for $500. Under the CFD, the investor will receive the difference between the opening price of the shares ($50 per share) and the price of the shares at the time the trade ends. So if the price increases to $100 per share, the investor will receive $5,000 (100 shares x $50). However, whilst leverage may help the investor to maximise gains, it also leaves the investor open to significant losses if the share price falls, which may equal or even exceed the amount of the initial $500 investment. For example, if GloboCorp shares fall to $10 per share, the investor would be liable to pay $4,000 to the broker, i.e. $3,500 more than the original investment of $500.
This is a greatly simplified example and CFDs are complex products, but it serves as a basic illustration of the potential risks and rewards of CFD trading. Suffice to say that prices can go down as well as up and gains and losses can fluctuate significantly due to leverage. Our preferred partners' websites will have far more in depth information about how their CFD products work, so please read this and ensure that you have understood the risks and can afford to absorb any losses before entering into a trade.
Trading platforms generally support two types of forex trading: spread betting and contracts for difference ('CFDs').
With spread betting, trading always happens in pairs e.g. GBP/USD. When you execute a trade, the currency on the left of the pair is known as the 'base currency', and the purpose of the trade is to predict whether the base currency’s value will increase or decrease relative to the currency on the right. The investor and broker take opposite positions - one predicting that the base currency will increase in value relative to the other currency and the other predicting that it will fall. For every incremental rise or fall in the relative price of the currency pair the broker and trader will be liable to pay amounts to the other.
With CFDs, the investor speculates whether, at a particular time in the future, a particular currency will be more or less valuable than it is when the CFD is entered into. If the investor predicts correctly, he will receive an amount reflecting the difference between the opening and closing value of the currency. If the investor does not predict correctly, a payment will be due to the broker. See 'What is CFD Trading' above for further information.
For example, tradable commodities include gold, silver, oil and cotton. Investors may trade directly in commodities on special exchanges, but can also gain exposure to commodity price movements through a form of derivative known as a 'future'.
A future is a contract to acquire a specified amount of a commodity at a fixed price at a specific time. Once entered into, the contract can be brought and sold to other investors in the same way as any other tradeable asset. As the price of the commodity fluctuates, the value of the contract itself rises and falls too - i.e. if the price stated in the contract is less than the price of the commodity, the contract will increase in value, but if the commodity price is lower than the contract price, then the contract will be worth less. Investors can also speculate on the price movements of commodities in other ways; e.g. via contracts for difference ('CFDs'). See 'What is CFD Trading' above for further information.
Indices are official lists of asset prices. For example, the FTSE and AIM lists of the London Stock Exchange are share price indices. Investors can speculate on the rise or fall of the overall value of an index through products like contracts for difference ('CFDs'). See 'What is CFD Trading' above for further information