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Contracts for difference can account for up to half the share trading on the London Stock Exchange, according to brokers.

Firms specialising in CFDs say the growing role of hedge funds and their use of these equity derivatives is driving much of the new volume.

Philip Adler, head of equity CFD trading at GNI Touch, said: "On certain days, CFD trading may account for as much as 50 per cent of LSE turnover."

David Buik at Cantor Index said: "It's now at least 25 per cent and I wouldn't be surprised if it's higher."

Because CFDs are off- exchange, the LSE is unable to estimate figures. "The firms themselves are the best placed because they can see on-exchange and off- exchange business," the LSE said.

A CFD gives exposure to the performance of the underlying share without owning it, allowing investors to bet on upward or downward movements. Purchases of CFDs trigger share trades on-exchange as the broker will generally hedge the transaction, although some buy futures and options instead.

Tax is at the heart of the growth. CFDs avoid the 0.5 per cent stamp duty because no shares change ownership, only the right to the economic benefits from owning the shares.

The growth is all the more remarkable as it comes at a time when turnover on the LSE is also rising, up almost threefold in the past five years. Average daily turnover in August for UK stocks was about 2.7bn shares compared with 1bn a day in August 1999.

While the LSE is benefiting from CFD use, the Treasury is losing out on potential extra revenue. But it has no plans to tax CFDs.

"It is not possible to measure directly the impact of CFDs on stamp duty," the Treasury said. "Revenue is currently in line with expectations, but like all taxes we keep it under review."

Hedge funds and active traders in CFDs usually hold positions for only short periods but deals can be frequent.

Mr Adler said some customers were making up to 150 trades a day.

Mr Buik said: "A lot of our business is what I call 'white label' - executing on behalf of stock brokers for the short term - four or five days, two weeks at the most."

These stockbrokers, many on the broking desks of investment banks, carry out the trades on behalf of hedge funds but pass the execution on to the specialists.

CFDs do not tend to attract the smallest players because individuals have to deposit about £10,000 and be able to show evidence of trading experience. In return, brokerages allow investors to leverage their positions as much as tenfold.

Smaller investors use spread betting, which achieves a similar effect, minus the leverage but also minus the capital gains tax.

Richard Bethell of Compeer, a research company, said: "We believe that there has been a trend for day traders to move away from the cash market, where traders are penalised by high stamp duty costs, towards CFDs and spread bets."

While CFDs are mostly traded for quick profits, they also feature increasingly in company bids and other corporate actions.

In the summer, as much as 20 per cent of Marks and Spencer's shares were thought to be accounted for by CFDs as speculators took positions ahead of a possible bid from entrepreneur Philip Green.

At retailer Moss Bros two separate entrepreneurs from rival clothing groups have built up stakes totalling almost 30 per cent via CFDs.

Last year activist investment fund Laxey Partners built up an 8 per cent stake in property company British Land by a combination of borrowing stock and buying CFDs.

Not all CFDs come with voting rights attached - terms vary according to the firm and the investor.

The most controversial case was entrepreneur Paul Davidson, known as "The Plumber", who underpinned the flotation of his biotech company Cyprotex in 2002 with a spread bet at broker City Index.

City Index covered its position by taking out a CFD on the stock with Dresdner Kleinwort Wasserstein, which in turn covered its position by buying shares in Cyprotex.

Brokers normally only offer CFDs on more established companies with market capitalisation over $10m.

Copyright The Financial Times Limited 2017. All rights reserved.
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