A complicated financial instrument, Contracts for difference are a specific type of derivative. They were developed to allow the capital benefits of investing in an asset without actually physically having to own or pay full price for it. A CFD is a contract between a buyer and seller, stipulating the buyer will pay to the seller the difference between the current value of an asset (share, bond, commodity, index) and its value at contract time. If the difference is negative, then the seller pays the buyer).
A financial instrument where the price is “derived” from a security (share or bond), currency, commodity or index. The price of the derivative will move in direct relationship to the price of the underlying security. They often referred to as futures, options, warrants, interest rate swaps and contracts for difference (CFDs). They are mainly used for financial certainty – to protect against spikes in the prices of commodities – as a hedge, whereby investors can buy a derivative that bets the market will move against them so they protect themselves against potential losses. Derivatives are also a tool of speculation as they enable banks, traders or investors to bet on price movements without having buy the actual physical assets. As derivatives cost only a fraction of the underlying asset price, they are “geared” (leveraged in the USA) so if the price of the asset moves £1, the value of derivative could change by £10.