Energy Contracts for Difference (CFDs)

A Contract for Difference (CFD) is an agreement designed to provide price stability to both the buyer and the seller of a good or service by compensating the difference between an agreed fixed price (or “strike price”) and the fluctuating market price of that good or service.

In its simplest form, if the market price falls below the agreed strike price, the buyer settles a payment to the seller for the difference. If the market price rises above the strike price, the seller settles a payment to the buyer for the difference. This mechanism creates certainty for both parties, ensuring they are protected from market volatility. In effect, the total price received by the seller – or paid by the buyer – equals the market price plus the CFD settlement, which ultimately equals the agreed strike price. In this way, a CFD enables both sides to hedge against price risk.

For example, in the agri-food sector, an investor could enter into a CFD based on the price of a commodity such as wheat. If the price of wheat falls below the agreed reference level, the investor receives a payment to offset the loss; if it rises above that level, the investor returns the difference. In this way, both parties reduce their exposure to financial risk resulting from market price movements.

How CFDs bring stability to the energy market

Just as an investor might use a CFD to hedge against fluctuations in the price of a commodity, renewable energy developers (as sellers) and electricity consumers (as buyers) apply the same principle to manage volatility in power markets. Imagine a company agrees a strike price of €60/MWh for electricity generated by a wind farm. If the market price falls to €50/MWh, the energy buyer pays the company €10/MWh to cover the difference. If the market price rises to €70/MWh, the company returns €10/MWh, thereby guaranteeing stable revenues for the generator and predictable prices for consumers.

SEE INFOGRAPHIC: How do Contracts for Difference work? [PDF]

Fueling the green transition: The role of CFDs in renewables

In the renewable energy sector, CFDs are increasingly considered the preferred instrument within the support schemes that countries use to incentivise investment in technologies such as offshore wind and solar power. Governments or designated agencies act as the counterparty (i.e. they take the buyer position), offering developers long-term price stability.

This reduces the risks associated with unpredictable wholesale electricity prices and facilitates the financing of large-scale clean energy projects. At the same time, consumers benefit because: (1) a greater supply of renewable energy enters the market, influencing overall price levels; and (2) if market prices exceed the strike price, generators return the difference to the State, which may redistribute these amounts to consumers as relief from high supply costs.

While CFDs were originally known as financial hedging instruments, they now play a central role in the energy transition. By offering long-term revenue certainty, they facilitate investment in large-scale renewable projects essential for decarbonising electricity systems, integrating more clean energy into the network and reducing costs through competition and innovation.

According to the report Contracts for Difference: the Instrument of Choice for the Energy Transition, published in 2024 by the Oxford Institute for Energy Studies, the United Kingdom has become one of the most advanced markets in the world in the use of CFDs in the renewable sector. Since their introduction in 2014, the UK’s CFD scheme has supported the rapid expansion of offshore wind, consolidating it as the country’s leading source of electricity generation. Through competitive auctions, prices for new projects have fallen significantly, demonstrating how CFDs can reduce costs for consumers while providing a stable framework for developers.

This approach is increasingly studied and replicated in other regions, as governments seek mechanisms that combine investor confidence with affordability for end users – a balance that is essential for the future of clean, reliable electricity.

SEE INFOGRAPHIC: The main types of Contracts for Difference in the energy sector [PDF]

Similarly, the incentives created for generators also depend on how much energy production is considered for settlement (e.g. actual production versus estimated output based on installed capacity), whether there is a cap on eligible volumes and other structural elements.

Additionally, a CFD may be one-sided or two-sided. The most common type is the two-sided CFD: the generator receives the difference when prices are low but must return it when prices are high. A one-sided CFD only protects the generator: if the market price falls below the strike price, the generator receives the difference; if the market price exceeds the strike price, the generator retains the additional revenue.

All these design variables must be carefully calibrated to ensure generators have incentives to behave efficiently in the market – for example, not producing unless the market price covers variable costs, optimising maintenance planning and maintaining incentives to contract across different time horizons.

The regulated landscape: CFDs in Europe and Spain

The European Union electricity market faced one of its greatest challenges in 2022, when rising gas prices linked to the conflict in Ukraine led to soaring electricity bills. As part of its response, the European Commission launched an electricity market reform focused on two main pillars: accelerating electricity decarbonisation (thereby reducing the impact of gas price volatility on electricity prices) and promoting long-term contracting (enabling generators and consumers to reduce their exposure to short-term market impacts). Two-sided CFDs, designed to ensure efficient generator behaviour, were identified as a key instrument for both objectives.

To date, CFD schemes have been implemented in nine EU Member States, with new initiatives emerging in Lithuania, Romania and Belgium. Lithuania launched its first offshore wind auction under a CFD framework in early 2024, while Romania has introduced a €3 billion scheme to support up to 10 GW of new wind and solar capacity by 2030. Belgium has moved from a one-sided to a two-sided CFD model for future offshore wind auctions. Other countries, such as Estonia, are establishing similar schemes, reflecting a broader European trend toward competitive mechanisms that stabilise revenues and incentivise clean energy investment.

These developments show how CFDs are becoming a standard tool across Europe to de-risk renewable projects, attract private finance and accelerate decarbonisation.

In this context, Spain’s approach to CFDs is particularly significant, as the country seeks to balance cost reduction with long-term stability and innovation in its transition to clean energy. Spain’s National Energy and Climate Plan has set a series of ambitious targets, including reaching 81% of electricity generation from renewables by 2030, compared with approximately 60% in 2024. To achieve this, renewable energy auctions in Spain are conducted under the so-called REER framework, which stands for Régimen Económico de Energías Renovables (Economic Regime for Renewable Energies). The aim of the scheme is to provide developers with a stable investment environment, including CFDs. The government is planning 30-year two-sided CFDs, particularly for floating offshore wind

Iberdrola's leadership in leveraging CFDs

The Iberdrola Group is one of the leaders in the field of CFDs. In 2024, its UK subsidiary Scottish Power was awarded two contracts in the sixth round of government-backed auctions. The contracts cover the East Anglia TWO offshore wind farm and the East Anglia THREE project. This commitment means the Iberdrola Group is not only contributing to government targets for climate neutrality and independence from fossil fuels but also driving employment and business opportunities in the east of England, where the projects are located.

Power Purchase Agreements (PPAs) – how do they differ from CFDs? 

Not all renewable projects depend on government auctions. Many large companies choose to secure their own supply of clean electricity through Power Purchase Agreements (PPAs).

In a PPA, a wind or solar farm agrees to sell electricity at a fixed price to a corporate buyer, utility or trader. If market prices fall below the agreed strike price, the buyer covers the difference; if prices exceed that level, the producer returns the surplus. This structure provides stable revenues for producers and predictable costs for buyers and is widely used by major technology companies to power data centres with 100% renewable electricity.

PPAs define terms such as supply volumes, pricing, accounting rules and penalties and can be tailored to the needs of both parties. Electricity may be delivered physically via direct connections or virtually through third-party networks. These contracts provide revenue stability for producers, facilitating project financing, and allow buyers to secure electricity prices for longer periods than those typically available in wholesale markets.

In summary, a CFD within a renewable support scheme is a government-backed contract that guarantees a fixed strike price by settling the difference with the market price. A PPA is a private agreement between a generator and a buyer to sell electricity at agreed prices and volumes tailored to their needs.

Their flexibility and role in risk management have made PPAs popular among large energy consumers, particularly those seeking 100% renewable electricity. However, PPAs can be complex and costly to negotiate, requiring specialised knowledge of energy markets. In any case, there are initiatives that have developed standardised contract models to make the design and negotiation of PPAs more accessible to all potential buyers.

Iberdrola has become a global benchmark in PPAs, managing contracts in Spain, Portugal, Germany, Italy, the United Kingdom, the United States, Brazil and Australia for wind and solar projects. Over the past decade, Iberdrola has signed landmark agreements with global corporations including Amazon, Bayer, BP, Telefónica, Burger King, Salzgitter, Microsoft, Meta, Mercedes-Benz and Vodafone. These long-term agreements demonstrate that PPAs are a key tool for industrial electrification, securing clean energy at stable prices while contributing to decarbonisation across major global sectors.

Why are Contracts for Difference vital for the future of the electricity market?

Contracts for Difference have become one of the most effective ways to accelerate investment in renewable energy. They provide investors with the long-term revenue certainty they require while ensuring public funds are used more efficiently than under older support schemes. By reducing risk, CFDs attract greater volumes of private finance, helping to scale up clean technologies without placing undue pressure on public budgets.

As the report by the Oxford Institute for Energy Studies also points out, CFDs are easier to manage. Unlike other mechanisms that require numerous small and complex contracts, CFDs are typically awarded to larger projects through direct allocations or competitive auctions. This makes the system more transparent and less costly to administer, while maintaining a clear focus on delivering new capacity where it is most needed.

Perhaps the greatest advantage of CFDs is fairness. Because prices are agreed in advance, consumers are protected from paying too much when wholesale electricity prices rise. If prices exceed expectations, generators return the difference, avoiding the perception of excessive profits. This balance makes CFDs not only an effective financial instrument, but also a socially fair mechanism for driving the clean energy transition.

Of course, they also have limitations. These include potential market distortions, as projects supported by CFDs may crowd out unsubsidised generation, reducing competition. Their strong emphasis on cost reduction may limit the investments developers could otherwise make in local supply chains, affecting community benefits and slowing innovation. Finally, CFDs offer less flexibility to adapt to evolving market conditions, as fixed strike prices and long-term contracts may not reflect rapid changes in technology costs, demand patterns or policy priorities.

At the Iberdrola Group, we are leveraging the benefits of both CFDs and PPAs to lead the global shift towards renewable energy, ensuring efficient and sustainable growth.