Understanding A Contract for Difference (CFD)
Investors looking for trading options have numerous opportunities available to them, including a contract for difference (CFD), which is an investment avenue that can provide good returns when traded wisely.
In essence, a CFD is a contract between two parties to trade on financial assets based on the difference between entry and closing prices. For instance, if the price at the close of trading is higher than it was at opening, then the seller pays the buyer the difference.
The reverse — the closing price being lower than opening price — is also true, with the seller benefiting from this difference.
Furthermore, traders only have to put in a small deposit (margin) to take part, so CFDs offer flexibility to interested investors.
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Trading in CFDs
As a CFD offers traders an opportunity to speculate on changes in the price of a security, it’s not necessary for them to purchase or own the underlying asset. Instead, they trade on margin, and whether they gain a profit or not is dependent on the market value of the particular security being speculated upon.
Investors looking to trade in CFDs will typically enter into an agreement with a CFD broker, who acts as the seller. As such, it helps to work with experienced brokers like LegacyFX that have the expertise to make this experience meaningful.
As the CFD investor will never own the asset, they are essentially betting on the upward or downward movement of the security’s price in the market.
In the event of a positive gain (closing price being higher than opening price), the net difference from the trade is settled in an investor’s account with the brokerage company.
When trading CFDs, common terms are used to explain the strategy used. These include:
· Going Short: This explains a situation where a trader anticipates a price decrease of the underlying asset and opens a sell position.
· Going Long: When traders anticipate a price increase, they open a contract for difference position that reflects this.
· Spread: The spread defines the difference between the ask and bid prices for a security. When selling, traders must accept a slightly lower bid price, and when buying, pay a slightly higher ask price. These small differences represent a trader’s transaction costs.
As CFDs are unique and offer flexibility (due to the favourable margins), they attract many brokers and traders worldwide. As such, a trader working with a reputable broker should find the CFD investment process seamless.
To learn about one of the most trusted and transparent brokers in the industry, visit the official LegacyFX website.