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Delving into the workings of CFDs

by , 02 September 2015

CFDs, or contracts for difference, are a type of trading instrument. You can trade a wide array of underlying assets, including shares and currencies.

So how do contracts for difference work?

Let's take a closer look…

You trade on margin with CFDs

Like with other financial derivatives, you trade on margin with CFDs. This means you put down a small portion of your overall exposure to open a trade.

This gives you gearing. You gain or lose from the price movement of the trade’s total exposure. In other words, gearing multiplies the price movements.

The margin you need to put down differs depending on what you’re trading. Generally, it’s between 8% and 25% of your total exposure.

For example, you decide to trade Company ABC. It’s trading at R100 and your broker requires a 10% margin. You open a trade on 100 Company ABC CFDs.

This gives you a total exposure of R10,000, but you only need to put down R1,000 in margin to open the trade.

CFDs come with a daily funding charge

If you open a CFD trade, there’s a daily funding charge for each day you keep the trade open to consider.

If you’re in a long trade (buy CFDs), you need to pay this daily funding charge. If you’re in a short trade (sell CFDs), you’ll receive this daily funding charge.

The daily funding charge includes a financing charge based on the South African Futures Exchange Yield (SAFEY) and the closing value of the shares.

If you open and close a CFD trade in one day, there are no funding charge.

When you open and close a CFD trade, regardless of whether you’re short or long, you’ll have to pay brokerage.

So there you have it. Delving into the workings of CFDs.

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Delving into the workings of CFDs
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