Contract for differences, commonly known as CFDs, are offered on more than 200 instruments. This includes forex currency pairs, metals, crypto currencies, stocks, indices, and energies.
In this article, we go into detail about what contract for differences are, how they work, and what it means when you trade on CFDs.
Introduction to CFDs
A contract for difference refers to a contract between a buyer and seller, where the buyer pays the difference of the valuation of a specific trading instrument when the contract is opened against the value of the same instrument, when the contract concludes.
Trading on CFDs allows traders to profit off the price movement of an asset without owning the actual asset, as traders primarily focus on the price change between the entry to exit. In other words, CFD trading is essentially the price of a trading instrument and not the underlying value of an instrument.
How CFDs work
CFDs are contracts between the broker and client. The contract is initiated by the client through a buy and sell order opened within a trading terminal, such as MT4 or MT5. Every trading instrument has its own set of contract specifications that informs the client of the instruments’ unique conditions and, while not always the case, a spread that is charged by the broker upon the creation of an order.
When a trader opens a Buy order, they are speculating that the price of the trading instrument will increase to earn profit from the difference, but will incur a loss if the instrument decreases in price.
When a trader opens a Sell order, they are speculating that the price of the trading will decrease to earn profit from the difference, but will incur a loss if the instrument increases in price.
Here’s an example:
A trader open a Buy order on XAUUSD at the price of USD 100, before the price increases to USD 120.
If the trader closes the order at this time, they will profit USD 20 from the difference in price.
If the trader continues with the order open, but the price of XAUUSD decreases to USD 90, and the trader closes the order at this time, they will lose USD 10 from the difference in price from USD 100.
Understanding CFDs
CFDs are unique in many ways, and it is advantageous to recognize why to mitigate risk and develop your own trading strategies accordingly. Here are just a few reasons why CFD trading continues to be a very popular form of trading:
Global Access
CFDs allows traders to trade on a wide selection of global trading instruments which are offered centrally through the trading terminal of their choice.
Affordability
Trading on CFDs come without the costly transaction and logistics fees that typically come when trading on assets through intrinsic ownership of an instrument.
Variety
Instruments available include Metals, Indices, Cryptocurrencies, Energies, Stocks, and Forex. Instruments are centralised and traders do not require separate marketplaces or brokers.
Leverage
Trading on CFDs allow for higher leverage options than traditional trading. In bitcastle, we offer unlimited leverage options that allow traders to trade with lower margin requirements and low required capital for opening orders.
Short and Long Positions
Traders have the ability for short and long positions as buy and sell orders are accessible with no minimum requirements or step borrowing costs compared to traditional trading.
No Day Trading Minimums
While certain markets have imposed minimum daily trading volume requirements to be able to trade in specific instruments, CFDs do not have such requirements.
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