Some time ago, trading stocks or indices was a thing available only for investors with big capitals. However, now, the market is much more inviting and requires fewer initial investments. Why? The answer is CFD.
What is CFD
CFD or the contract for difference allows you to exchange the difference in the value of a particular asset from the moment you open a contract to the moment you close it. Simply put, you get your profit from the difference in financial assets’ prices.
With CFD, you can trade indices, stocks, futures, commodities, currencies – basically, anything. The price of the CFD is the price of the asset, and if the asset’s price is going up, so is the CFD’s price. The main feature of the CFD trading is that you don’t actually own the asset: if you trade gold or oil, you don’t physically hold it.
How does the CFD trading work
With CFD, you trade a particular number of units. You have two options.
- Buy, or “go long.” In this scenario, you expect the asset’s price to grow in the future. If you’re good with forecasting, you can get a serious profit even when the price changes are insignificant.
- Sell or “go short.” In this case, you sell the asset if you expect the price to go down. You can repurchase the same asset right after that at a lower price.
The main thing about the CFD is that this is the leveraged product. Leverage is the ratio between the amount of money you deposit and the amount you can actually use in trading. Say, if the leverage is 1:100, it means that you can operate with the orders 100 times bigger than your deposit.
In other words, when it comes to CFD, you need to deposit a small percentage of the actual value of the asset – you don’t need to buy a full share of, say, Facebook stocks worth of thousands of dollars. The initial deposit that you use for opening a CFD position is called margin.
Therefore, when you want to buy a CFD unit of an asset, you only invest a small part of the total value, but the profit will be calculated out of the total asset’s price. It is an excellent advantage if you don’t have a significant initial sum to invest in trading. However, remember – although trading with leverage and margin increases your potential profit, it also exposes you to more risks and more significant losses.
What does the CFD trading cost
Well, besides the margin – or initial investment – the CFD trading also has some extra expenses you need to know about. It includes:
- Spread is the gap between the bid and the ask prices of an asset. If the spread is narrow, it means the price needs to move less to lead to your profit or loss.
- Swap is the amount of money you receive or pay for holding a position overnight. There’s a swap long and swap short, depending on a position you open.
- Commission. It is charged when you open a deal in the trading platform.
The numbers can vary. You can check the contract specifications to see the conditions of CFD trading with FBS.
CFD vs. Forex: what’s the difference
CFD and Forex have some similarities. In both cases, you don’t own the asset physically: either the oil or the Australian dollars, for example. Both Forex and CFD are based on the difference in the exchange rate.
But the main difference between CFD and Forex is the market: CFD covers all kinds of assets, including the oil, indices, metals. Forex, on the other hand, only provides the currency exchange. CFD trading is more flexible: you have an option to choose the value by optimizing the number of units. Forex only allows trading with fixed lot sizes.
CFD is more affected by the particular business’ factors, like supply and demand on traded assets or trends connected to the companies. Sort of like stocks: like Tesla shares fell in price after the disappointing vehicle-production data release. Forex is also driven by supply and demand but is profoundly affected by global events, political changes, and economic reports like NFP, Central bank rates changes, trading wars, etc.
The bottom line
CFD is an excellent way to enter the market without significant initial investments. You need to remember about the traps that lie beneath the big leverage, but with a careful approach, CFD can become a substantial breakout for your finances. Check out the list of the available CFD assets in contract specifications.
2020-05-19 • Updated