A Contract for Difference (CFD) is an emerging financial derivative that allows investors to speculate on the price movements of an underlying asset without actually owning or taking delivery of the asset itself. The underlying asset of a CFD can theoretically be anything with a fluctuating price, including various country indices, foreign exchange, futures, stocks, precious metals, and other commodities.
How CFDs trade
Margin Trading: The general trading method for CFDs is that customers pay a certain amount of margin to the bank or broker as agreed, to ensure the ability to resist risks in trading. Trading and settlement are conducted according to the agreed trading price and settlement price calculation method. During trading, the broker or bank will freeze a certain percentage of the margin in the customer's margin account based on the agreed trading volume, usually 1-5%, while the remaining part is financed or loaned by the broker or bank through credit support.
No Physical Delivery: Since CFDs are non-deliverable contracts, meaning that the commodities in the contract will not be physically delivered, only the cash settlement of the price difference is made at the time of settlement. Therefore, CFDs theoretically have no expiration date. Of course, if the margin in the customer's margin account is exhausted due to loan interest, the broker or bank will also settle the account at any time according to the terms of the agency contract.
Overnight Interest: Holding CFDs overnight usually requires a fee, typically the lending rate or the spread between deposit and lending rates, such as SOFR minus the local interest rate of the lending bank.
Advantages of CFDs
Commission-free: CFDs provide you with a low-cost trading avenue using a single account. All index, bond, and commodity futures CFD trades are commission-free.
High Capital Efficiency: CFDs utilize margin trading. The margin ratio varies from 3% for stock CFDs to 1% for index CFDs. This allows investors to achieve higher capital efficiency, as only a small percentage of the total position value is required to execute a trade while enjoying the full benefits and risks associated with market fluctuations.
CFDs are a flexible trading tool suitable for traders with some experience and a higher risk tolerance. Before engaging in CFD trading, it is crucial to fully understand its operation, risks, and associated fees.
