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How is a CFD price determined?​

The price of a CFD (Contract for Difference) is determined by the price of the underlying asset it is based on. Here’s a detailed breakdown of how CFD prices are established:

1. Underlying Asset Price

  • Direct Link: The price of a CFD mirrors the price of the underlying asset, such as a stock, commodity, index, or currency pair. For example, if a CFD is based on a stock, the CFD price will move in tandem with the stock's market price.
  • Real-Time Prices: CFD prices are typically quoted in real-time and are closely aligned with the prices of the underlying asset on the relevant exchange or market.

2. Bid and Ask Prices
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  • Bid Price: This is the price at which you can sell the CFD. It is slightly lower than the current market price of the underlying asset.
  • Ask Price: This is the price at which you can buy the CFD. It is slightly higher than the current market price of the underlying asset.
  • Spread: The difference between the bid and ask prices is called the spread. The spread is a cost to the trader and a source of profit for the CFD provider or broker. The size of the spread can vary based on the asset’s liquidity, market conditions, and the broker's pricing model.

3. Market Conditions
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  • Supply and Demand: The prices of CFDs are influenced by the same market forces that affect the underlying asset, such as supply and demand dynamics, economic indicators, news, and market sentiment.
  • Volatility: In highly volatile markets, the spread may widen, leading to a larger difference between the bid and ask prices. This is often seen during periods of significant market movement or uncertainty.

4. Broker Adjustments
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  • Liquidity Providers: Some CFD brokers derive their prices directly from the market via liquidity providers, while others may adjust prices slightly to account for their costs or to manage risk.
  • Overnight Financing Charges: If a CFD position is held overnight, the broker may apply a financing charge or credit, depending on the position (long or short) and the prevailing interest rates. This can slightly affect the overall cost of holding the position but does not directly impact the CFD’s bid/ask price.

5. Dividends and Corporate Actions

  • Dividend Adjustments: For CFDs on stocks, when the underlying company pays a dividend, the CFD price may be adjusted to reflect this. Typically, if you hold a long CFD position, the broker will credit your account with an amount equivalent to the dividend. If you hold a short position, your account may be debited.
  • Corporate Actions: Events like stock splits, mergers, or rights issues may also lead to adjustments in CFD prices to reflect the new valuation of the underlying asset.

6. Leverage and Margin

  • Leverage Impact: While leverage does not directly influence the CFD price, it allows traders to control a larger position with a smaller amount of capital. This amplifies both the potential gains and losses from price movements in the CFD.
  • Margin Requirements: The margin required to open a CFD position is based on the underlying asset’s price and the leverage offered by the broker. However, the margin does not affect the CFD’s price itself.

Conclusion

The price of a CFD is primarily determined by the price of its underlying asset, with the bid and ask prices reflecting the market conditions and broker's spread. Market factors like supply and demand, volatility, and economic events, along with broker-specific factors such as overnight financing charges and adjustments for corporate actions, all play a role in how CFD prices are established and fluctuate over time.
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