Exchange traded contracts for difference: Design, pricing, and effects

Abstract

Data for this research were sourced from SIRCA (www.sirca.org.au). We are grateful to Ken Chapman of the ASX, Tamas Szabo of IG Markets, Cesario Mateus, and Gonul Colak for valuable comments on an earlier draft, to seminar participants at

Contracts for dummies? The performance of investors in contracts for difference

“…While it is possible that the DPM may use buyer or seller initiated trades to correct any mispricing between the CFDs and its underlying asset, Brown et al . () find that mispricing within reasonable transaction cost bounds is rare in ASX‐listed CFDs and only occurs in illiquid CFDs. For this reason, focusing on market orders is a cleaner measure of investor performance as limit orders will contain both DPM and other investor trades.…”

“…Indeed, Brown et al . () find that during their sample period, 19.31 per cent of CFD trades are immediately followed by a trade in the underlying stock of the same size – suggesting DPM hedging. As Brown et al .…”

“…DPMs also ‘receive incentives from the Exchange based on their success in trading ASX Listed CFDs’. DPMs are also ‘rebated the open interest charge (OIC) as part of incentive arrangements with the ASX, face very low transaction fees, and as financial institutions should be able to access short‐term interest rates close to the RBA target cash rate’ (Brown et al ., , p. 115). The specific role and numerous advantages of the DPMs over other investors suggest that DPMs are a major limit order/liquidity provider in the CFD market .…”

“…In addition, the reported wider spreads in CFDs compared with the underlying stocks by Brown et al . () would also allow for more movement of the bid‐ask spread on CFDs by algorithmic traders. We report our findings for all 71 CFDs and daily average measures across all stocks in Appendix I.…”

“…Brown et al . () suggest that the lack of integration between the two systems makes it difficult to instantaneously arbitrage between platforms due to latency issues. Subsequently, other algorithmic traders are deterred from entering the CFD market.…”