What is Contract For Difference?

Contract for Difference (CFD) is a contract between the customer and the brokerage in regards to the rising or falling prices of fast-moving global financial markets.

With the CFD, traders don’t own the asset, they just predict in which direction the price will move, and profit if they choose the correct direction.

You can trade with CFD in all the global Forex markets.

What is Foreign exchange?

  • Foreign exchange (Forex) is the largest trading product in the world, in a market with an average traded value of $5 trillion-dollar (source: Bank of International Settlements – BIS)
  • In Forex trading, traders predict the direction of the prices of currencies around the world.
  • Traders can either predict the movement of one currency, or make a pair trade on two different currencies to determine which currency will out rise the other. For example, if a trader paired the Euro and the US dollar, he/she can predict that the Euro will rise more than the US dollar.

Why trade FX and/or CFD?

  1. High Return on Investment potential
  2. It’s user friendly and easy to trade
  3. There’s a variety in the types of assets that can be traded
  4. You can trade anywhere, any time

Types of Assets

The first thing traders need to do when trading CFD (or any other product) is to choose the asset they want to trade with.

Asset/symbol: is a resource with economic value that an individual, corporation or country owns or controls with the expectation that it will provide future benefit.

The 5 types of assets/symbols are:

  1. Indices
  2. Stocks
  3. Commodities
  4. Currencies
  5. Cryptocurrencies

  1. Indices

A stock index/stock market index is a measurement of a section of the stock market. It’s calculated from the prices of selected stocks. It’s a tool used by investors to describe the market and to compare the return on specific investments.

Each index asset represents a price or rate of a group of stocks traded in a single stock exchange market.

German Index – DAX: The DAX includes 30 of the largest German companies that trade on the Frankfurt Exchange, such as Bayer, Dutch Bank and BMW.

Italian Index – MIB: The MIB includes 40 of the most traded stock classes on the exchange, such as Ferrari, Fiat and Banco Poplar.

French Index – CAC 40: The CAC 40 consists of 40 of the largest, publicly traded companies on the Euronext Paris, France’s securities market. These include L’Oréal, Michelin and AXA.

USA Index – NASDAQ: The NASDAQ is the global electronic marketplace for buying and selling securities, as well as the benchmark index for U.S. technology stocks. It includes the world’s foremost technology companies such as Apple, Google and Microsoft.

  1. Stocks

Stocks are issued by companies to raise capital in order to grow their business or undertake new projects; stocks are one of the most popular financial instruments in the world. Stock prices are driven by expectations of corporate earnings or profits.

  1. Commodities

A commodity is a basic good used in commerce that is interchangeable with other commodities of the same type. Major international commodity indices include gold, silver, wheat, sugar, oil, etc.

Commodity trading is based on units (in US dollars) for example, oil barrel, gold ounce etc.

The Top 10 Commodities of 2018

  1. Brent crude (oil)
  2. Steel
  3. WTI crude (oil)
  4. Soya beans
  5. Iron
  6. Corn
  7. Gold
  8. Copper
  9. Aluminium
  10. Silver

  1. Currencies

A currency refers to money in any form when in use or in circulation, and is used as a medium of exchange.

An exchange rate is the rate at which one currency will be exchanged for another, and is also regarded as the value of one country’s currency in relation to another currency.

The Top 10 Currencies of 2018

  1. US Dollar
  2. Euro
  3. Japanese Yen
  4. Pound Sterling
  5. Australian Dollar
  6. Canadian Dollar
  7. Swiss Franc
  8. Chinese Yuan
  9. Mexican Peso
  10. Swedish Krona

  11. Cryptocurrencies

A cryptocurrency is a digital asset that works as a medium of exchange. It uses strong cryptography to secure financial transactions, control the creation of additional units and verify the transfer of assets.

Satoshi Nakamoto, the unknown inventor of Bitcoin, never intended to invent a currency. Bitcoin is currently (January 6, 2018) the largest blockchain network, followed by Ethereum, Ripple, Bitcoin Cash, Cardano, and Litecoin.

Basic Terms for FX and CFD

  1. Entry Rate (Price)

The offered price of the underlying asset at the time of trade execution, according to the feed providers and according to market conditions.

  1. Expiry Time

The time and date when the option expires.

  1. Trading Hours

The level of the underlying asset at the time of the asset expiry, according to the feed provider.

Commerce is available from:  Sunday at 22:00 – Friday at 22:00 (GMT)

  Open
(GMT)		 Close
(GMT)
Sydney 23:00 7:00
Tokio 00:00 08:00
London 9:00 17:00
New York 14:30 22:30
  1. Leverage

The Leverage is a mechanism that allows a client to deposit a small amount of money and trade on much higher volumes.Leverage

The leverage per asset is:

  • 30:1 for major currency pairs (Any cross of the two currencies: USD, EUR, JPY, GBP, CAD or CHF)
  • 20:1 for non-major currency pairs, gold and major indices
  • 10:1 for commodities other than gold and non-major equity indices
  • 5:1 for individual equities and other reference values
  • 2:1 for cryptocurrencies

For example:

A trader wants to open a Gold position of 200 oz (ounces)

200*1350 (market oz price) = USD 270,000 ($exposure)

5% margin (due to 1:20) = USD 13,500 (exposure/leverage = usable margin)

If the client has USD 13, 500 as the free margin for the position will open.

  1. Bid/Ask Price

Ask: When buying a currency pair/commodity/index/share (going long) the ask price refers to the amount that is paid in order to buy one unit of the base currency, or how much the market will sell one unit of the base currency in relation to the quoted currency.
Bid: It’s used when selling a currency pair/commodity index/share (going short). It states how much of the quoted currency will be obtained when selling one unit of the base currency, or how much the market will pay for the quoted currency in relation to the base currency.

  1. Quote

A quote is the last price at which a security or commodity is traded, meaning the most recent price on which a buyer and seller agreed, and at which an amount of the asset was transacted.

  1. Pips

 A pip (point in percentage) is a small measure of change in a currency pair. It can be measured in terms of the quote or in terms of the underlying currency.

In the case of the U.S. dollar, Euro, British pound or Swiss franc, one pip is 0.0001. With the Japanese Yen, one pip is 0.01 because this currency is quoted with two decimal places.

For example:

If the price of EUR/USD changes from 1.1200 to 1.1215, there would be a change of 15 pips.
To get the value of one pip in a currency pair, an investor has to multiply 0.0001 by the amount of the trade.

10,000 EUR/USD *0.0001= $1

A movement of 15 pips = 10,000*0.0015 pips = $15

  1. Spread

The difference between the bid price and the ask price is called the spread. The spread is also the commission the customer is paying when opening a position which is the only commission the customer pays in order to trade with us.

Every position a client opens will be negative, he/she will start to have a profit once the quote recovers the spread.

For example:

EUR/USD 1.1566 / 1,1569

The spread would be 0.0003 or 3 pips, also known as points.

In the example below the spread is $3: 10,000*0.0003 =$3

Currency Quote Overview

USD/CAD = 1.2232/1.2237
Base Currency Currency to the left (USD)
Quote/Counter Currency Currency to the right (CAD)
Bid Price 1.2232 Price for which the market maker will buy the base currency. Bid is always smaller than ask.
Ask Price 1.2237 Price for which the market maker will sell the base currency.
Pip One-point move, in USD/CAD it is .0001 and a 1-point change would be from 1.2231 to 1.2232 The pip/point is the smallest movement a price can make.
Spread Spread in this case is 5 pips/points; difference between bid and ask price (1.2237-1.2232).

 

Charts

The two most common used chart types are:

Line Charts

Line charts connect a series of data points together with a line;  traders can view the movement of prices over a particular time frame

A candlestick chart (also called Japanese candlestick chart) is a chart used to describe price movements of an asset. Each “candlestick” typically shows one day.

Orders

Orders can be used to automatically control certain actions when trading.

Market Order: is used when you want to enter into a position immediately, at the best available price at the time.

Entry Order: is a rate order, which when executed, becomes a position. The entry order allows you to create a position at a pre-requested rate, without constantly following the market status.

Limit Orders

Buy Entry Limit: Place this order when you believe that the price will begin to rise after first dropping to a certain level; the order is executed when the ask price is equal to the Buy Entry order.

Sell Entry Limit: Place this order when you believe that the price will begin to fall after it reaches a certain level; the order is executed when the bid price is equal to the Sell Entry order.

Stop Order

Buy Entry Stop: Place this order when you believe that the price will continue to rise after it breaks above a certain level; the order is executed when the ask price is equal to the Buy Stop order.

Sell Entry Stop: Place this order when you believe that the price will continue to fall after it breaks below a certain level. The order is executed when the bid price is equal to the Sell Stop order.

Stop Loss & Take Profit Orders

Stop Loss (SL): An automated feature which enables traders to set a limit to an order. The SL order will close the position automatically at a specific rate to prevent further loss.

Take Profit (TP) Order: An automated feature which enables traders to set a limit to an order. The TP order will close the position at a specific rate or amount to capture a specific profit.

These features help traders to manage their risk even when they aren’t available, or when the price touches the target too quickly for traders to react.

In Summary

Contract for Difference allows traders to trade in fast-moving global financial markets, predicting the rise and fall of markets, while not owning the asset, and depending on the prediction. Traders make a profit or loss from the trade depending on the direction, but there are several actions that traders can take to minimize losses.