CFD or Contract for Difference is a trading instrument, which enables you to trade an asset without directly purchasing or owning the underlying asset directly. CFD is exactly what its name means – a contract with the broker that you will receive the difference in the price of the asset you want to purchase, without purchasing it directly. The broker is obligated to track the real price of the asset and upon your request, they will close your position on profit, if the price is higher, or loss, if the price is lower, compared to what you purchased it for.
For example, it can be prohibitively expensive to buy or sell directly stocks on a given exchange. Fees can go up to as high as 10$ per trade with many direct access brokers. Yes, we all know about Robinhood free trades, but there is a catch with them, they add the cost of trades in the spread, widening unnecessary the gap between the buy and the sell orders you see quoted. On the other hand, if you trade with a CFD broker you will often get the raw exchange spreads, without any spread widening and with commissions in cents, like 0,1% of the trade. This way if you want to purchase let say a $200 share you will pay only 20 cents, instead of 10 dollars. Other benefits of using CFD is the possibility to use leverage, which is often not possible at all with the asset itself. Many exchanges, for example, don’t offer leverage for their shares, or keep the maximally allowed leverage up to only 5, while you can get as high as 20 times leverage if you use CFD on stocks, and as high as 50 times leverage if you trade CFD on other assets like Gold, Oil or other commodities, exchange-traded funds (ETF) or indexes. You will also receive all the dividends that the underlying stock will generate absolutely the same way as if you owned the actual asset. Another huge benefit is the free capability to not only buy (long position) but also sale short the asset at any time. On the other hand, with direct access brokers, you rarely can short each stock you want.
There is a wide variety of CFD trading platforms you can trade with. Still, it is always recommended to trade only with regulated providers with broker license in Europe, Australia or New Zealand. Other jurisdictions, especially offshore brokers are considered much riskier. Keep in mind that in the USA it is forbidden to trade with CFD brokers. That is why you will not find any US-based CFD broker. On the other hand, if you live in Europe or most other parts of the world it is easy to find credible CFD broker. Keep in mind however that you need to do your own due diligence before selecting your CFD broker. Best way to do this is to check for other customers opinions online, check review sites like thatsucks.com and find out if the broker of your choice has a good reputation and regulation from reputable authority.
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