Global Securities Markets: Navigating the World's Exchanges and OTC Markets

CONTRACT FOR DIFFERENCE (CFD)

A popular investment for speculators in the United Kingdom (but little understood in the United States) is a contract for difference. Its features and uses are explained next.

Background Material

A contract for difference (CFD) is a derivative contract that allows the two parties to that contract—a buyer and a seller—to exchange the cash difference between the opening price and the closing price of that contract in a given security and/or index (the underlying asset) upon the closing out of that transaction. A CFD, therefore, allows an investor to express a view of the markets, by taking either long or short positions to gain exposure to the price movement of stocks and indices, and all this without owning the underlying asset itself or paying a stamp tax associated with owning the underlying security. In contrast to listed stock options, there is no expiration date. The essential requirement to a CFD is that a holder post sufficient margin to keep the position open.

CFDs are widely believed to have originated in London in the early 1990s, born out of a desire by some institutional investors to short equities without having to undergo the cumbersome processes associated with repurchase and stock-lending transactions. Proving again that there is nothing new under the sun, CFDs functionally are much like contracts sold in the United States by so-called bucket shops at the end of the nineteenth century and in the early twentieth century in the United ...