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How Does CFD Finance Actually Work?
By Jeff Cartridge on August 05, 2009 |
Total Viewed: 135 |
| Post by : Jihoy Admin |
| Category: Finance |
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Understanding CFD finance is much easier when you understand the whole process of trading a CFD. A small margin requirement is all that is required to buy a CFD which covers any loss you make on the position. As the underlying instrument moves the margin amount will also vary. The margin payment that you make does not cover the cost of the underlying position.
The CFD Broker then protects the position they hold by purchasing the underlying instrument and the cost of this is the full value of the position. The CFD broker is effectively lending you the money to buy the underlying instrument.
Buying CFDs And CFD Finance
When you enter a CFD position by buying the contract the CFD broker will charge interest on the money that you have to put up. The interest rate that is charged is charged on the whole position calculated by multiplying the price by the number of contracts. This is known as the face value.
So if you buy 1000 CFD contracts of BHP at $33.00, then you will be required to pay interest on $33,000. This is how CFD finance works when trading long.
Short Selling And CFD Finance
When you short sell a CFD you get paid straight away for the position you sold. You do not see the money directly in your bank account, but the CFD broker does receive the cash if they sell the underlying instrument.
If you were to sell 1000 BA CFDs at $43 then you have sold a position of $43,000 on which you would receive interest. This is CFD finance on the short side of the market.
How Much Will CFD Finance Cost?
The calculation of interest rates is almost the same for different CFD brokers. Short positions receive interest at a base rate less a margin of 2 - 3% while long positions pay interest at the same base rate plus a margin of 2 - 3%. The base rates used are usually the Reserve Bank of Australia Cash Rate (RBA) or the LIBOR (London Interbank Offered Rate)
The interest rate difference from the margin that the CFD broker charges is one of the ways the CFD broker makes money. CFDs could be considered to be a complicated way of lending money for the CFD broker.
CFD Finance Charged Daily
CFD finance charges apply to positions that are left open overnight and not to CFD positions that are entered and exited on the same day. Intraday trades do not attract CFD finance charges.
Interest rates are low when compared to the daily fluctuations that can occur in a position. At current interest rate levels the interest charged is about 6% per annum, but a CFD position can easily move more than 6% a day. |
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About the Author:
Jeff Cartridge is a private trader and author that lives in New Zealand and created the website (http://learncfds.com) LearnCFDs.com Find the Best (http://howtotradeCFDs.com) CFD Trading Books |
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