What a CFD is
A contract for difference is an agreement between you and a broker to exchange the difference in an asset's price between opening and closing a position. You never own the asset. If it moves your way you receive the difference, and if it moves against you, you pay it.
That structure is why you can go short as easily as long, and why a CFD on gold involves no gold.
A worked example
Suppose an index is at 8,000 and you buy one contract at £1 per point. It rises to 8,050 and you close. The difference is 50 points, so you receive £50, less costs. Had it fallen to 7,950 you would have paid £50.
The position was worth £8,000 of exposure. You did not need £8,000 to open it, and that is leverage.
Leverage and margin, which are not the same thing
Margin is the deposit the broker holds while a position is open. Leverage is the ratio between that deposit and the exposure it controls. Confusing the two is the most expensive early mistake, because a position can use very little margin and still risk the whole account.
In the UK, the FCA caps leverage for retail clients at between 30:1 and 2:1 depending on how volatile the asset is. Anything above that is either not FCA regulated or involves being reclassified as a professional client.
What the rules give you
- Leverage capped between 30:1 and 2:1 by asset volatility.
- Positions closed when your funds fall to 50% of the margin needed to keep them open.
- Negative balance protection, so you cannot lose more than the account holds.
- No deposit bonuses or inducements to trade.
- A published percentage of that firm's own retail accounts that lose money, recalculated quarterly.
Read that last one properly rather than past it. It is not an industry average, it is that broker's own figure. Published numbers across FCA-regulated firms have generally sat between seventy and eighty per cent, and the FCA has cited around 80%.
What it costs
- The spread, the gap between buy and sell price, paid on entry whether the trade works or not.
- Overnight financing on positions held past the daily rollover, which accumulates quietly.
- Commission on some account types, particularly on share CFDs.
Costs are small per trade and large per year, and they are the reason a strategy that looks marginally profitable on paper often is not in practice.
Where beginners actually lose
Not usually on analysis. On size. A position sized by how confident you feel rather than by what you can afford to lose is the common thread, and the arithmetic is unforgiving: a 50% drawdown needs a 100% gain to recover.
Decide the risk first, place the stop where the idea is wrong, and let those two decide the size. That order is the whole of it.
A sensible order to start in
- Check the broker is on the FCA register, and check which entity your account will be with.
- Read the contract specification for the one instrument you intend to trade.
- Work out what a one point move is worth at the size you are considering.
- Decide what percentage of the account a single trade may lose, and write it down before the market opens.
- Understand the tax treatment, because CFDs and spread bets are taxed differently.
None of this is advice or a recommendation to trade. Most retail accounts lose money, which is precisely why the disclosure exists.
Written for education, not as advice. Echelon is not authorised to give personal recommendations and nothing here takes account of your circumstances. Trading carries risk and most people who trade lose money. Read the risk disclosure.