What are contracts for difference?
A contract for differences (CFD) is a financial contract between the buyer and the seller, where the difference between the open and closing trades is cash-settled. CFDs facilitate trading the price movement of stocks, indices, ETFs, commodity futures, etc. It allows the investors to enjoy the benefits and risks of security without its physical delivery. Many brokers, or investment apps, also provide trading in Bitcoin CFDs. In addition, CFDs allow leverage to the investors, who put only a small amount of the trade with their broker.
The invention of CFDs can be attributed to the efforts of Brian Keelan and Jon Wood in the early 1990s. They developed CFDs to use them in London as an equity swap traded on margin. Hedge funds and institutional investors initially used the CFDs to gain stock exposure on the London Stock Exchange due to its small margin requirement and stamp duty avoidance because of no physical transfer of shares. Retail traders, however, started using them in the late 1990s. GNI (known initially as Gerrard & National Intercommodities) was the first company to introduce it through GNI Touch, its CFD trading service. MF Global later acquired it.
IG Markets and CMC Markets popularized it in 2000 and expanded it overseas, starting with Australia in July 2002. CFD trading is available in Austria, Canada, Australia, France, Germany, Cyprus, Italy, Ireland, Israel, Japan, United Kingdom, etc. However, the Securities and Exchange Commission (SEC) and Commodity Futures Trading Commission prohibit CFDs from been listed on regulated exchanges in the USA due to high-risk involvement. The Securities and Futures Commission of Hong Kong, too, forbids trading CFDs. In addition, the European Securities and Markets Authority (ESMA) issued a warning against the sale of speculative products, including CFDs sale in 2016.
In Europe, any provider can offer all the products under the markets in financial instruments directive Directive(MiFID) 2004/39/EC to all member countries. However, the Cyprus financial regulator, CySEC, limited the maximum leverage on CFDs to 50:1 and prohibited paying bonuses as sales incentives in November 2016.
The UK FCA issued similar restrictions on December 6, 2016. It further limited maximum leverage to 30:1 for CFDs and CFD-like options in 2019.
BaFin, the German regulator, prohibited additional payments when a client incurred losses following the ESMA warning. Autorité des marchés, the French regulator banned all advertising of CFDs.