What is a CFD
A contract for difference, otherwise known as a CFD, is an agreement between two parties (investor and CFD provider) to exchange the difference between the opening and closing price of a contract. CFDs are derivative products that allow investors to make assessments of rising and falling markets, including forex, indices, metals, commodities, treasuries and shares with WGForex.
CFDs are a leveraged product and can be used as a hedging device to offset losses incurred in your physical portfolio of shares. Through WGForex, you will have access to some of the tightest spreads, lowest margins and competitive commission rates.
How to trade CFDs
In the same way as traditional trading, there will be a bid and an offer price. In order to complete a round turn, both a buy and sell action must occur.
If you anticipate that the value of a market will increase, you will BUY to open and later SELL to close. If you close at a higher price than the opening, then you will make a profit, however if you close at a lower price then you will make a loss. When you SELL to open, then it would be the same process however the opposite way around. Therefore you would be aiming to BUY back at a lower price than the one that you opened at in order to be profitable on the trade.
A CFD will be traded in the underlying currency of the symbol, unless otherwise specified on our market information sheet.
For single stocks in CFDs, 1 lot would represent 100 shares so would make or lose the client £1 per pence movement in UK shares and $1 per cent movement in US shares.
Example of an Index CFD trade
There is a major data event in the US. You anticipate that US indices should rally following this event and you want to buy 10 US 30 CFDs at the offer price of 16369.73. Each point movement will equate to a 10 USD profit or loss, 1 USD per CFD.
Assuming 1:200 leverage, the margin required to open this position is (16369.73*10)/200 = 818.49 USD
Huge volatility is expected following the release of the data. You do not set a stop-loss or take-profit orders, but instead you intend to close the position shortly after the data release event.
When the data is released, there is major buying activity and a subsequent increase in the value of the index. The market bid price is now quoted at 16600.00 and you decide to close your position.
To calculate your profit, you calculate the difference between the opening and closing price, multiplied by the number of CFDs you held.
(16600 – 16369.73 * 10 CFDs = 2302.70 USD
CFDs are a leveraged product so you are able to enter a trade with greater exposure than would otherwise be the case, if you were to hold the actual stock for example. Whilst this can result in significantly larger gains if the market moves in your favour, you need to consider that if the market moves against you, it will increase your potential losses accordingly.
When the margin requirement is given as a leverage ratio e.g. 500:1, you need to multiply the price by the quantity, then multiply by the margin percentage to give the required margin.
When the margin is given as a ratio; multiply the price by the quantity and then divide by the leverage.
For example if Vodafone are trading at 225 pence per share and you buy 100 CFDs (equivalent to 10,000 shares) at a 5% margin requirement then you will do the following calculation applies:
225 pence per share = £2.25 per share
£2.25*100 CFDs*100 shares per CFD = £22,500
£22,500 * 5% Margin Rate = £1,125 Margin
For US Shares as you are trading per cent movement but US Shares are quoted in dollars.
Daily Funding Charges
Daily funding charges will be applied for all products that are not futures contracts. This reflects that these are daily positions that have been moved to the next day and not a futures positions where the spread would be wider to incorporate these costs.
WGForex offers a financing rate of 250 basis points on single stocks. The financing cost will be the exposure of your trade, multiplied by LIBOR plus or minus our rate, depending on whether you hold a long or short position. Financing on cash Index CFDs will be charged at either $0.50 or $1.00 per Lot per day.
To calculate the daily charge, this number can then be divided by 365 days or 360 days, depending on the underlying market traded.
The following calculation can be used: (Price * Quantity) x (2.5 +/- LIBOR) / number of days
Please note that although you may expect to receive financing on short positions, global interest rates are currently so low that you are likely to still be charged. As interest rates rise, short positions may receive funding. Long positions will always incur this charge.
All single stock CFDs and cash-based equity index CFDs can be liable for dividend adjustments. This is because when a company pays a dividend, it will affect the price of the share shares and any index it is a member of the frequency and size of dividends varies greatly from one company to another and many companies do not pay dividends or pay them at infrequent intervals. Where a dividend is paid for a stock in which you have a CFD position, since you do not physically own the shares, you will be adjusted for the dividend amount to counteract the price movement. This means that you are neither advantaged nor disadvantaged by dividends when trading a derivative product.
Within the FTSE 100, the companies are very different sizes and size buys influence. The larger the company, the more weight it is given in the Index. Size is measured by market capitalisation which is the value of all the shares added together. The larger the market capitalisation a company has, the bigger its percentage of the index. This is taken into account when dividend adjustments are made for an equity index.
As an example, when Barclays paid a dividend of 4 UK pence, this equated to 2.49 points on the UK100.CASH. When Rio Tinto paid a dividend of 6 UK pence, this equated to 2.87 points on the UK100.CASH. The amount by which the price of the index changed reflects both the size of the dividend and the respective companies’ weighting in the index.
You feel that a correction is due in the price of gold. You decide to sell (go short) 10 XAU/USD (gold/US dollar) at 1244.26.
10 points = 1000 ounces. Your total exposure is 1244.26*1000 = $1,244,260
Each tick is worth $100 and each point $1,000. Assuming 1:200 leverage the margin required to open this trade is (1244.26*1000)/200= $6,221.30 USD
The dollar strengthens during the day, driving gold prices to 1230.00/1230.30. You decide to close your position and take the profit. You sold at 1244.26 and closed your position at 1230.30, up 13.96 points.
Your net profit is (1244.26-1230.30)*1000 = US$13,960.