Home / Course / Module 3 / CFDs Explained
Module 3 · Lesson 5 of 6A contract for difference (CFD) lets you speculate on a price going up or down without owning the asset. It is the product most UK retail traders use for gold, and it deserves careful, honest study.
Risk warning: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money. Educational content only. Nothing here is a recommendation, and no result is guaranteed.
A contract for difference is an agreement between you and a broker to exchange the difference between the price of an asset when you open the contract and the price when you close it. If the price moved in your favour, the broker pays you the difference. If it moved against you, you pay the broker.
You never own the underlying asset. With a gold CFD you do not own any gold, you hold a contract that tracks the gold price. That is why you can profit or lose when the price falls just as easily as when it rises.
CFDs are over-the-counter products. There is no exchange and no clearing house in the middle: the contract is with your broker. In the UK and the EU, retail CFDs are regulated, and many other countries restrict them or ban some versions. Always check the rules where you live.
A CFD is a bet on the price difference between opening and closing, with the broker as your counterparty. Your result is the price move multiplied by the size of the position, minus costs.
If you are new to what XAUUSD is, see Gold Trading for Beginners first.
Brokers quote two prices: the bid, where you can sell, and the ask (or offer), where you can buy. The gap is the spread, a main trading cost. Contract sizes vary by broker, so everything below is hypothetical.
Gold is quoted at bid $1,999.80 and ask $2,000.20, so the spread is $0.40. One unit of the CFD tracks 1 ounce. Margin required is 5% (which equals leverage of 20 to 1). Account currency is dollars.
Look at the percentages. The price moved $9.80 / $2,000.20 = about 0.49%. Your profit of $98 is $98 / $1,000.10 = about 9.8% of the margin. Leverage magnified the result roughly twenty times.
Now the other direction. If the bid had instead fallen to $1,950.20, the loss would be ($1,950.20 - $2,000.20) x 10 = -$50.00 x 10 = -$500, about half of the margin. If it fell to $1,900.20, the loss would be $100 x 10 = $1,000, almost all of the margin. Without protection, the position would be closed out by the broker long before that.
The spread cost was already built in: you bought at the ask and sold at the bid, so you paid the gap on the way in. With a spread of $0.40 and 10 units, that cost is about $4. A trade needs to move at least the spread in your favour before it breaks even.
CFDs are often advertised as commission-free, but they are not free. Know the costs.
| Cost | What it is | How it hits you |
|---|---|---|
| Spread | Gap between bid and ask | Paid on every trade, widens in fast markets |
| Commission | A fee on some account types | Charged on opening and sometimes closing |
| Overnight financing | Interest-based charge for holding past the cut-off | Paid each night, can be higher at weekends |
| Currency conversion | Fee if the product currency differs from your account | Applied to profits and losses |
| Inactivity or data fees | Charges set by some brokers | Check the fee schedule |
Use the earlier $20,002 position and suppose the broker's financing rate for longs is 7% a year.
Against the $98 gain in the previous example, that charge is not trivial. Positions held for weeks pay far more. For short positions the financing may be a small credit or a charge depending on rates and the broker's markup.
Brokers earn from the spread, commissions and financing. Some brokers act as market makers: they take the other side of your trade themselves and may hedge it in the wider market or keep it. Others route orders to liquidity providers. Both models exist in regulated markets, and neither is automatically good or bad, but it creates a potential conflict of interest: if the broker keeps the opposite position, your loss can be its gain.
This is why regulators require firms to have an order execution policy, to treat clients fairly and to tell you plainly about their model. Look for these things in a broker's documents: how orders are executed, whether prices can slip, how stops work and what happens in a gap. We cover how to judge a firm in Regulation and Choosing a Broker.
| Feature | CFD | Exchange-traded future |
|---|---|---|
| Venue | Broker (OTC) | Exchange with clearing house |
| Contract size | Set by the broker, often flexible | Fixed by the exchange |
| Expiry | Often none (rolling) | Fixed dates |
| Prices | Quoted by the broker | Public order book |
| Typical retail access | Wide in the UK and EU | Needs a futures-capable account |
Every CFD has a specification sheet. Reading it is like reading the label on a medicine. Before opening any position, you should know the following.
CFDs are complex, leveraged products and they can lose money quickly. A large share of retail accounts lose money, and regulated firms must publish that figure in their risk warnings. Only trade with money you can afford to lose, and learn on a demo account first.
The next lesson goes deeper into these risks and the rules designed to limit them: Derivatives: Risks and Regulation. For how stops and targets are used, see Stop Loss and Take Profit.
Rules vary. Regulated UK and EU retail brokers must offer negative balance protection, which stops retail losses going below zero. Check your broker's terms and keep in mind that you can lose your whole deposit.
No. You hold a contract that follows the price. You do not receive metal, and you cannot demand delivery.
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