Accounting for Contract for Difference
After studying this chapter you should have a grasp of the following:
- Definition of contract for difference (CFD) securities.
- Product features of CFD.
- Short selling and margin requirements.
- Advantages and disadvantages of CFD.
- Terminating a CFD.
- Trade life cycle of equity CFD investments.
- Journal entries to be recorded during the different phases of the trade life cycle.
- FX revaluation and FX translation process.
- Illustration of CFD trades in foreign currency.
- Preparation of journal entries and general ledger accounts.
- Preparation of income statement and balance sheet after the CFD investments are made.
DEFINITION OF CFD
A contract for difference (CFD) is a contract between two parties—buyer and seller—stipulating that the seller will pay to the buyer the difference between the current value of an underlying equity share and its value at expiry date or on date of termination. However, if the difference is negative, then the buyer pays to the seller such difference. A CFD is an equity derivative contract that allows the investor to speculate on share price movements, without the need to own the underlying shares.
In a contract for difference, an investor can take a long or short position. Unlike futures contracts, CFDs have no fixed expiry date or contract size. The parties to the trade determine the expiry date as well as the contract size for the trade. Parties to the trade are required to maintain margins ...