What are CFDs?

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August 24, 2014 by tradersnote

A contract for difference (CFD) is an increasingly popular point of interest for traders. It is a contract between the trader and the broker regarding the value of an underlying asset. If you want to know the facts about CFDs, then read on to find out how they could benefit you.

CFDs are contracts, which are formed between a buyer and seller. The buyer and seller make an arrangement regarding the value of an underlying asset at a future time. If the value of the asset increases during a set period of time, the seller pays the buyer the amount that the value has increased. If the asset falls in value, then the seller pays the amount the value has decreased by to the seller. Still following? Traders can either go long or go short on these contracts. All traders need to do is decide if an asset will rise or fall in value. So, traders never own the asset, they just have to predict whether, during a set amount of time, it will rise or fall in value.

Getting the hang of CFDs can take some time, so if you are new to this form of trading it can be useful to get yourself a good CFD guide. The right guide will help you work out which contracts to speculate on and help determine what kind of preparation work you should before you begin trading. It may be that after seeking professional advice, from a broker or another source of expertise, you decide you would prefer to pursue other forms of trading, such as spread betting. If you do decide on CFD trading, it is important to know what to expect. One of the most attractive features of this form of trading, to many traders, is the amount of markets they can access. So, whatever market you are interested in, chances are you can speculate on it. Usually CFD brokers only require around a 5% margin for a trade, so you can occupy a large position with a relatively small sum of money.

Of course, the flipside to a small margin is the risk you are exposed to with CFDs. If your prediction about the value of an asset is wrong, you need to be able to pay the broker. It is important, therefore, to consider protecting yourself if you get into this type of trading. Stop loss orders are a common choice for many traders. Such orders allow traders to set a limit, at which point their position is immediately closed. So, if the value of an asset reaches a certain point, your position closes before you lose more money. If you do want to get into this form of trading, there are ways to protect yourself on the market. If you want to know more about this type of trading, it is worth speaking to your trading account provider to find out how these contracts could work for you.