What are CFD Brokers

CFD Companies operate differently from genuine brokerages for futures and stocks. They do not broker sales of tangible assets. All they do is accept bets for the difference of price on financial instruments in different asset classes such as indices, forex, resources, live stock, stocks. In some jurisdictions CFD trading is referred to as spread betting. An investor can purchase a contract for price difference on a popular stock like Apple or Boeing, but he will not receive any shares for his investment. The investor will be able to sell the contract back to the brokerage and collect the difference of valuation as profit or loss. Since the investor does not purchase physical ownership of a company or instrument, he will only need to present a marginal value of funds to initiate the purchase. Once the price moves against an investor and uses up the required margin, the contract will be stopped out once funds or margin levels are depleted. It can cause total loss of capital within a very short time frame. On the happier side a small investment can multiply manyfold within an equally short time frame.
With genuine assets such as stocks and futures the broker is the middleman between the investors who purchase or sell an asset and the exchange who matches them with traders taking opposite sides of the orders. One trader’s gain with broker A is another trader’s loss with broker B. Brokers and exchanges generate revenue from fees and spreads (that tiny price difference between bit and offer). Some markets allow brokers to facilitate over-the-counter transactions outside of exchanges at their own prices.
When trading CFDs the brokerage is not dealing contracts between buyers and seller, but between itself and its customers. It means, a trader’s losses are the brokers gains and vice versa. In order to maximize their profits brokers are able to add variability to their spreads. They can widen the difference between buying and selling prices to increase their profits. This practise significantly decreases the customer’s probability to achieve individual profit targets. In other words: CFD companies act as brokers, dealers and exchanges at the same time potentially giving them an unfair advantage over a trader.

CFD companies have to satfisfy certain capital requirements to legally operate and cover their potential losses. Depending on their jurisdiction they are required to hedge their risk exposure in adverse market conditions. However, this is not always possible and CFD brokers have failed despite official oversight such as the insolvency of UK-based Alpari in 2015 following unprecedented currency volatility in the foreign exchange markets.

While this is a matter of debate, government regulations of CFD brokers are not aimed at customer protection, but are rather instruments of keeping the banking sector protected from unexpected systemic failure. Anybody investing in CFD companies need to be aware that their funds are not used to purchase ownership of the underlying assets. They are leveraged bets on price modalities, only. This is in contrast to genuine investment brokers where customers’ assets are registered in the customers name and financial institutions are just administering and safekeep them.

On the positive side, retail investors no longer need to pay up for negative balances on their CFD accounts.

Each regulated CFD broker is required to post statistics on their investors’ failure rates. The stats clearly depict how heavily the markets are shifted against retail traders. Additionally, there are many reports and complaints about various brokers to be in violation of “efficiently, honestly, and fairly” dealing with their customers.


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