CFD Trading Strategy – what does the abbreviation CFD stand for and what special features characterize CFD Trading? CFD is the abbreviation for Contract for Difference. Simply put, CFDs are financial derivatives that offer high opportunities for investors, but also involve special risks.
Particularly noteworthy in CFD trading are the total loss of the deposit and the obligation to make additional contributions. However, this has been prohibited for private investors in Germany since August 2017 by the BaFin (Federal Financial Supervisory Authority). One should nevertheless deal with it.
Online brokers often offer to register as a professional investor when trading CFDs in order to enjoy higher profit margins. In contrast to CFD trading without the obligation to make additional contributions, in this case one gives up the protection under certain circumstances.
This CFD Trading Guide is written for
- Investors who want to start trading CFDs,
- Clients who have already gained experience with CFD brokers and
- Investors who have suffered losses through CFD trading.
Regardless of which group you belong to, we recommend that you read this CFD Trading Guide to the end.
Have you lost money trading CFDs? Then you can describe the situation to a lawyer and discuss whether and what measures should be taken. The lawyers of the law firm Herfurtner, located in Hamburg and Munich, are available for an initial consultation. Click here to get in touch.
CFD Trading Wiki – What are CFDs and how do they work?
Contracts for Difference (CFD) have been used in the past mainly by professional traders. On the one hand, these contracts for difference are used to hedge other transactions against exchange rate fluctuations. On the other hand, CFDs also serve as an object of speculation.
CFDs are not traded on the stock exchange – i.e. over-the-counter. Therefore, trading is subject to less regulation than, for example, trading in shares. In addition, some traders offer to trade CFDs after the close of trading, especially when it comes to CFDs on currency pairs (forex).
Forex and CFD trading, like trading crypto currencies, have become increasingly popular with retail investors in recent years. Accordingly, this circumstance has led to the fact that as a trader on the Internet you can find many providers whose business model is CFD trading.
There the CFD trading is quite uncomplicated in practice. Because already with the creation of an account and the setup of an account including the transfer of the deposit you are ready for trading.
In any case, investors who want to learn how to trade CFDs or who have made experience with losses when trading CFDs should inform themselves comprehensively due to the high risks. Because unlike, for example, at the bank, online trading does not require a thorough consultation.
Therefore a thorough research in the run-up to the investment is recommended. You can also find out fundamental information on the subject by reading an informative CFD trading book. There are also forums or special areas on the websites of the online platforms, where knowledge is imparted by means of a CFD Trading Wiki.
Table of Contents – CFD Trading/CFD Trading Experience
CFD Trading Experience – Contracts for Difference
CFDs are mainly traded over-the-counter. This means that CFD trading takes place outside the organized market (OTC trading). Here, the contracting parties agree to exchange the performance and income of an underlying asset for interest payments during the specified term.
The contract for differences therefore reflects the leveraged price development of the underlying instrument. Unlike with shares, however, you do not acquire a share in a company, but merely become the owner of a claim. Accordingly, you do not participate in any dividend payments.
The trade is settled directly with the CFD Trading Broker. This determines the buying and selling prices and the conditions. Typically, trading in day trading is free of commission if you buy and sell positions within a short time.
If one pursues a strategy other than day trading, the positions can also be held overnight (one or more). However, these so-called “overnight positions” incur costs.
These are based on the daily closing price, the overnight rate in the interbank market and the Euro Over Night Index Average (EONIA). They are calculated daily and should therefore be considered in a strategy that goes beyond day trading.
Market makers such as Commerzbank offer investors the opportunity to trade stocks, indices, commodities, precious metals, currencies, interest rates and futures in CFD trading. The offer often consists of well over 1,000 underlying instruments.
Is CFD trading legal? BaFin warns against unlicensed companies
The Federal Financial Supervisory Authority warns against entering into transactions on Internet trading platforms operated by unlicensed providers. This applies in particular to the following transactions:
- financial contracts for difference/Contracts for Difference/CFDs
- binary options
- Forex trading (currency trading)Forex Trading (Currency Trading)
What is CFD Trading?
Contracts for Difference (CFDs) are derivative financial instruments that serve to hedge against price fluctuations. Therefore CFD trading can be compared to a bet. The bet is placed either on rising or falling prices of the underlying asset. Due to the leverage effect (see below), the risk goes as far as a total loss of the invested amount.
CFD trading can also involve the obligation to make additional contributions. However, the BaFin in Germany has taken protective measures for private investors. Providers are forbidden to demand additional margin for this group of people. Corresponding products may no longer be offered.
In neighbouring Belgium, trading in leveraged products, including CFD trading, has now been completely banned due to numerous losses in the past. CFDs, with the exception of CFDs on futures and defined maturity dates, have no limited maturity. They are therefore not subject to any loss of fair value.
Lawyer Patrick Wilson comments on CFD trading in the following article: “CFD Trading: Who are the YouTube types who want to make you rich?
CFD trading advertising with method
The video clearly shows how an online broker aims to attract customers to invest on his platform. He relies on an affiliate program, the so-called affiliate marketing.
Here, brokers receive a commission if they bring new customers to the platform. Many brokers use YouTube as a high-reach platform for their offer to generate attention.
One of the affiliate partners shown here has founded his own Whatsapp Group. He advertises CFD trading and praises alleged profits in large amounts.
Trading is sold as a successful method of how to afford a new sports car and a new luxury watch in just a few weeks or months. However, in the video also an investor comes to word, who admits to having lost over 30,000 EUR.
The risks in CFD trading are high and they are real. It is all the more important – especially in anonymous online trading – to deal very carefully with the matter and to examine the provider in particular.
How does CFD Trading work?
With CFD trading, investors have the opportunity to participate in price movements of shares, indices, currencies or commodities. CFD trading uses a contract for difference to trade the price difference (spread) between the time of entry and exit.
The time span between entry and exit can be very short. This is especially true for assets that are subject to frequent and strong price fluctuations, such as pairs of secondary currencies.
Investors can particularly benefit from the so-called leverage effect. The term leverage comes from trading in warrants. The leverage – or “leverage” – indicates the ratio in which the warrant tracks the price movement of the underlying asset (1:x).
The simple leverage is calculated by dividing the prices. This value indicates the number of warrants an investor can purchase at the current price of the underlying asset. The amount of leverage, i.e. the leverage effect, varies from broker to broker and in some cases varies considerably.
Investors can trade CFDs that benefit from rising prices (long CFDs). There are also CFDs that make a profit when the price of the underlying asset falls (short CFDs). Compared to stock trading, CFD trading can be potentially profitable with little money.
Investors can participate in all price movements and achieve a much stronger effect through leverage. This applies to profits as well as losses.
CFDs and margin trading
Brokers are usually responsible for CFDs as market makers. CFDs are offered through the broker as part of margin trading with a margin account. CFDs cannot be bought from one broker and sold to another broker.
In margin trading, the investor must deposit a security (“margin”) in his margin account. The amount of margin depends on several factors (risk, volatility) and varies from provider to provider.
This collateral in the form of money or securities serves to be able to settle liabilities that may arise from forward positions at any time. Investors must deposit a certain percentage of a trade. The remaining position is financed or leveraged by borrowing.
The leverage of the broker means that you can use X times your actual deposit for CFD trading. The investor is thus granted a quasi short-term credit by the broker. Both profits and losses are immediately recorded on the margin account.
Should the margin be used up due to losses, this is called a “margin call”. This means that the investor is requested to add money. Otherwise, the open position will be closed and the deposit will be lost.
Leverage in CFD trading – big chance of winning even with small amounts?
Leverage through debt financing, that looks attractive at first glance. Because this apparently also opens up opportunities for small investors to make enormous profits without a lot of equity on the trading account.
Leverage in CFD trading – how it works, opportunities and risks
Trading platforms often talk about “leverage” or leverage products. What is this leverage in CFD trading and how is it calculated? The answer is given by a table value and the margin rate. If you want to find out how much leverage you have, divide the number 100 by the amount of security (margin) provided.
For example, a margin rate of 5% gives you leverage of 20, a margin rate of 1% gives you leverage of 100, and so on. So is a high leverage a good leverage? And does “the higher the leverage, the better the deal” apply?
In order to answer this question, one must consider both possible scenarios in CFD trading – with profits and with losses.
Losses through high leverage – what protection do small investors receive?
Because with leveraged trades, price changes in both directions are much more noticeable than without leverage. The effects, especially compared to other forms of investment, are often dramatic with CFD trading. Even minimal price fluctuations can lead to the sudden loss of the entire invested equity capital if leverage is high.
CFD brokers often do not sufficiently inform their customers about this. Extreme caution is therefore necessary, especially when the leverage is a great earning opportunity. The interested investor should ask questions about the associated risks in any case.
ESMA as regulatory authority
The European Securities and Markets Authority (ESMA) intervened to limit the risk of such high losses, particularly for small investors.
For some time now, there have been complaints from aggrieved investors and consumer protection organisations. However, it is only since the beginning of 2018 that ESMA has had the authority to issue prohibition and restriction measures for CFD trading.
On 27.03.2018, the authority introduced a new rule in connection with the leverage effect, which has enormous consequences.
Leverage reduction in CFD trading as the most important point of the ESMA decision of 27.03.2018
Many brokers and associations, including the German CFD Association, made their objections clear on the basis of statements. Nevertheless, the authority decided, among other things, that from 01.08.2018 a limitation for maximum possible leverage in CFD trading should apply.
This limit was renewed by decision of 26 September 2018 for a three-month period starting on 1 November 2018 and extended again by three months starting on 1 February 2019.
According to ESMA, the decisive factor for the renewed extension was, among others, the fact that “since the adoption of Decision (EU) 2018/796, no national competent authority has taken its own national product intervention measure within the meaning of Article 42 of Regulation (EU) No 600/2014”.
ESMA Decision and its consequences: what changes have occurred?
The biggest and most noticed change was the cap on leverage when trading CFDs. This resulted in the following key figures:
- Major Forex Pairs: maximum leverage of 30:1
- Forex pairs from minor currencies: maximum leverage of 20:1
- Major indices (DAX, Dow Jones, S&P 500 etc.): maximum leverage of 20:1
- Smaller indices: maximum leverage of 10:1
- Individual stocks: maximum leverage of 5:1
- Gold: maximum leverage of 20:1
- Other commodities: maximum leverage of 10:1
- Crypto currencies: maximum leverage of 2:1
There were also other changes. For example, bonus payments from the platforms as a reward for further deposits were prohibited. CFD trading providers were also forbidden to let their clients’ trading accounts slide into the red.
Furthermore, brokers now have to make their clients more aware of the dangers associated with CFD trading. This is done, for example, by placing a prominent notice on the provider’s website that shows what percentage of clients have suffered losses when trading CFDs on the platform.
Regulation through the ESMA statement – protection of retail investors or limitation of profit opportunities?
In a press release on CFD trading, ESMA stated the reasons for this literally:
“Combined with the historical low interest rates, these products represent an attractive offer for retail investors because they promise high returns and can be traded on user-friendly online platforms. However, practice has shown that retail investors suffer significant losses due to the risks associated with these products and, in the case of CFD trading, the very high degree of leverage”.
The Authority therefore wishes to ensure that private individuals are better protected against risks. In particular, it is concerned with the often rapidly occurring, high losses. It is questionable whether this form of regulation will meet with the approval of investors.
We often read in forums and blogs that it is no longer possible to make such good profits by limiting the leverage effect. Also the traders who are aware of the risk and handle their capital responsibly are supposedly disadvantaged.
Finally, there are other investment products with total loss risk and many other brokers whose products also involve leverage and total loss risk. These would now receive a greater boost from regulation. Last but not least, it is objected that all regulations on CFD trading are initially limited in time.
Nach Meinung einiger Online-Magazine stellt dies bereits die Glaubwürdigkeit der getroffenen Maßnahmen in Frage.
Trading as a professional client – legal circumvention of the changed CFD regulations?
It is therefore hardly surprising that many providers and their customers are looking for ways out. The point is to be able to continue participating in CFD trading with the usual profit margins. One possibility is to register as a professional trader. Instructions for this can be found at various places on the Internet.
Indeed, in its extension resolution (EU) 2019/155, ESMA stated that the number of investors who could be classified as professional upon written application increased significantly in 2018 compared to the previous year.
But does it really pay off if private investors can use the leverage in CFD trading? It should be noted that not only the traders have the advantage of higher profits. It is probably mainly the providers of the trading platforms who fear that the restrictions imposed by ESMA will make their products less attractive.
After all, they naturally earn a share of the profits. The rule of thumb is: the higher the potential profit opportunities, the greater the hope for quick money. And the online trading platforms are correspondingly more popular.
Before you consciously waive the protection of the regulatory authority, consult a lawyer if in doubt.
CFD Trading – Experience with Rip-off and Fraud?
When trading CFDs, every profit opportunity is matched by a corresponding risk. Due to a decree of the BaFin (Federal Financial Supervisory Authority) dated 08.05.2017, brokers are not allowed to offer private customers contracts with an obligation to make additional contributions when trading CFDs.
This means that investors enjoy protection to the extent that the loss is limited to the maximum amount of the deposit. However, if this is used up, the loss is called total loss. Until the intervention of the BaFin, investors carried a much higher CFD trading risk. This is because significantly more than the original investment amount could be lost within a very short time.
However, CFD trading is still only suitable for those investors who want to accept a high risk. There are also taxes with CFD trading. For income from capital investments, one applies the final withholding tax, which provides for a lump sum taxation of the profit with an income tax rate of 25%. The solidarity surcharge and, if applicable, church tax are also added.
If the CFD Trading Provider is based in Germany, the taxes are automatically transferred to the tax office. In the case of foreign providers, the investor must actively report to the tax office on the occasion of the tax assessment.
CFD Trading Broker Experience
Especially with CFD trading for beginners or CFD trading for newcomers one should check several aspects. Basically, for trading with contracts for difference, a CFD account must be opened with a broker or a credit institution.
First you should determine which CFDs and underlying assets such as shares and currencies are available. This is because this is where the individual CFD trading providers differ, whereby the offer often includes over 1,000 different underlying assets of different risk classes.
CFD Trading Platforms
It is also important which CFD trading software is used and what functions it has. Real-time prices and the possibility to trade directly from the chart are practical. If these options are offered, the fees charged by the CFD broker should be transparent. The fees per transaction can also vary considerably. The following questions need to be answered:
- What are the holding costs for overnight positions?
- What is the minimum deposit to be made? CFDs on futures often have different spread prices for the individual underlying instruments.
- Does the CFD broker offer features such as stop-loss orders, limit orders, trailing stops or take-profit orders?
- What are the maximum levers offered for CFD trading?
- What types of accounts are available and what are the services behind them?
- Is a demo account offered for a CFD trading simulation?
- Is a CFD Trading Bot used for automated trading?
- Is the CFD trading provider actually regulated and is the regulation traceable?
On the Internet you will find numerous references to websites where online brokers are tested. These comparisons should be taken into account in a risk assessment. Nevertheless, it should be noted that many of the publications are supported by the CFD trading providers themselves.
Because often such test sites finance themselves through (indirect) advertising for trading platforms. Therefore, a hundred percent objectivity on the question “Who is the best CFD trader?
CFD Trading Tips – 5 important tips
Many aspects are important for daily CFD trading. These include the stability of the software, good support and the services offered, such as the possibility to place orders by telephone.
Much more important, however, is the question: Is the respective CFD trading provider reputable? Because there are some black sheep that are moving in the rapidly growing market of online broking. Investors should ask and answer these questions when trading CFDs:
- Is client money kept separate from the CFD broker’s money?
- Which financial supervisory authority supervises the CFD trading provider?
- Is there a deposit insurance and how high is it?
- Where is the CFD broker’s head office located?
- Are there any negative experiences from customers?
Fraud by CFD Brokers – What can injured parties do?
Is there a suspicion that courses have been manipulated? Is it possible that the platform operator is acting fraudulently? If so, our lawyers will be available for consultation at short notice.
Providers of CFD trading have the obligation to inform investors comprehensively about the high risks. In the event of insufficient advice or missing information, claims for damages may arise. The reversal of the transaction can also be demanded.
Investors who have been victims of fraud should have their options examined by a lawyer. In many cases it is possible to recoup investments already made. Herfurtner Lawyers work closely with public authorities and financial institutions.
We offer affected investors and clients the following services in case of losses through CFD trading:
- Legal Claim Letter to CFD Broker
Herfurtner Lawyers will assert your claim for damages directly with your CFD Trading Broker. Many brokers are prepared to settle out of court. Because they want to avoid the initiation of preliminary proceedings by financial supervisory authorities or even public prosecutors. In this way, settlements with different providers can be reached regularly.
- Involvement of the police and financial supervisory authority
There are already several collective proceedings against certain brokers at police and public prosecutor’s offices throughout Germany. Herfurtner Lawyers represent injured parties and are in close contact with the responsible authorities.
Public prosecutors’ offices and financial supervisory authorities in Germany and abroad can block the fraudsters’ bank accounts and seize assets. Europol and Interpol in turn coordinate international cooperation between the authorities.
- VISA, Master Card, American Express – refund possible
If the deposit is made via a credit card payment, injured parties often enjoy the protection of their credit card provider. Amounts already paid can be charged back. Our lawyers will check whether the necessary prerequisites for this are met.
- Transfers can be booked back after CFD trading
In many cases, there is the possibility of reversing a bank transfer. Even months after the bank transfer, Herfurtner Lawyers were able to recover payments from clients. It does not matter that the brokers’ accounts are often located abroad.
Legal situation in Austria
According to the Federal Act on the Prevention of Money Laundering and Terrorist Financing in the Financial Market (FM-AMLA), credit and financial institutions in Austria have to fulfil extensive obligations.
Among other things, the institutions are obliged to carry out permanent risk analysis. Transactions that appear suspicious must be checked. This analysis must be kept available for the supervisory authority in Austria, the FMA, and transmitted as necessary. Due diligence obligations also apply to customers.
Under the FM-AMLA, institutions are required under certain circumstances to obtain extensive information for the purpose of the business relationship and to critically review information.
In addition to these general due diligence obligations, there are also enhanced due diligence obligations if the relationship is a cross-border correspondent banking relationship. If the correspondent banks are domiciled in third countries, the resulting risks must be adequately controlled and mitigated.
For direct contact with a lawyer of the Herfurtner law firm click here.