Just as the name indicates, Contract for Difference or CFD involves the exchange of the difference in the value of an underlying asset or any financial element in the specified time interval. The start of the time is when the contract opens and the end is the time when it is closed. You are actually trading by speculating on the tentative rise or fall in the prices of assets like currencies, commodities, indices, shares, treasuries etc. This form of derivative trading is gaining more admirers since stock trading carries with it a lot of risks while CFD ensures better returns on the capital invested.
In the regular trading market, when you get a profit, it can be of very high value and when you lose, it may even push you into debt. This extremity is reduced in CFD, and you have more flexibility in choosing the contract to be exchanged. Read further to find helpful resources in understanding more about CFD.
A simple example
You are eyeing the shares of a particular asset being traded in the market and you want to purchase 10000 shares of the same. In CFD, you do not really purchase the physical asset, but instead buy certain units of it with a contract. Once the contract opens, you can speculate on whether the price of the particular asset will go up or down and carry out either short (sell) or long (buy) on the units.
There are some benefits of trading on this contract rather than a physical asset:
- You are having a more flexible trading medium, with minimum risk. Sell or buy anytime and rely on speculations.
- Anytime, you can use this contract for hedging an existing share.
- While taking the service of a stockbroker, you need to pay only lesser commissions and comparatively marginal deposits. For example, if the stock trading brokerage is as high as 50%, with CFD you have to pay only 2% commission.
- Contracts without an expiry date are also available in the market that reduces your investment even further.
- Bigger trading markets are opened for CFD trading with a single account. With a single platform you can become active in multiple global markets and you do not pay any additional investment for it.
- There are no trading time limitations. You are not restricted to trade only during the daytime because you are not actually trading on any assets, but only on their performance.
- No tight rules and regulations like that in physical stock trading.
Like in every other form of trading, overconfidence and greed can create havoc here too, hence it is advisable to trade with your senses and logic on and proceed where you actually bank on.