CFD trading seems quite complicated at first, but once you understand the basics and once you’ve tried it yourself, it is actually much easier than traditional trading/investing at a bank. In this article we will discuss how CFD trading works.
CFD: are you buying a share?
CFD is the abbreviation for contract for difference and is therefore not comparable with the traditional purchase of shares or currencies. A CFD trader enters into a contract with the broker to buy a certain share (long, you will get money when the price rises) or to sell a certain share (short, you will get money when the price falls).
The broker then “covers” this risk by hedging the position (opening a contradictory position) that the broker usually closes as soon as you do this as well. This means that the broker (almost) never loses money on any trade, however, do make money through a so-called spread. We will further explain this in our article about the costs of CFD trading.
A major advantage of CFD trading is the fact you are not the physical owner of the share. The price difference ultimately determines your profit or loss and because you have never actually owned the share, the transaction costs are extremely low.
The broker can create their own contracts for inter alia, stocks, commodities and Forex. For there is no expiration date, the position only closes when the user indicates that it should. The difference in price between the moment of buying and the moment of selling eventually determines the profit. We will further discuss this in the article about profits and losses regarding CFD trading.
Note: This article is part of the course CFD trading!