For a large time, traditional investments have been the first choice of investors across the world. However, with more disposable income and more access to knowledge, investors are looking to diversify their portfolios.
The problem that a lot of investors face in generating higher returns is the small amount of investable corpus that is available from their income (or whatever is left of it). Large institutional investors and High Net Worth Individuals (or HNIs, as they are called in certain countries) are able to get huge returns on their trades and investments precisely because of the amount of funds that they deploy.
Over time, investors and traders have had access to different ways to leverage their investments with the help of money borrowed from banks or brokers in the form of margin trading. Today, investors can multiply their returns through products like Contract For Differences (CFDs) and Spread Betting.
These products enable investors to make it big at the initial stage even with a lesser starting fund. What is best about these products is that they can be used for all major kinds of markets like equity, index and even foreign exchange.
Contract For Differences (CFDs)
This is a type of contract in derivative trading. As the name suggests, it is a contract for differences, the differences relating to one between the two prices of a security – the price at which it opens trading and the one at which it closes trading at the end of the day. It is so much easier to understand this with the help of an example.
For instance, if the CFD is for a stock named X and X starts trading in the market at GBP20 and ends at GBP25. Now, as a trader, you need to decide before itself as to whether you think the price of X will go up or down at the end of the day. If you feel that the price will go up at the end of the day, you will buy a CFD in X and if you feel that it will fall, then you will place a sell order at the opening price. This way, if you trade with a large amount, and your assessment is correct, you can make a lot of money.
At the most basic level, a derivative is a contract which derives its value from the underlying. The underlying can be any asset like a stock or a currency. In our example, the underlying would be stock X. The value or price of CFD in X will depend on the factors affecting the price of stock X.
Again, this product is also named very aptly. This is a type of betting where the trader can make money and earn based on your bet. There is no need for any trade to be placed in any stock. However, like Contract for Differences, here also you will be making an assessment as to the movement of the price of the stock. By stock, we mean, it can be stock or currency or even fixed income bonds or investments.
In spread betting, you do not need to bet on the opening and closing prices of a stock. Rather, if you feel that at the time of placing your bet, the price of the stock will increase, then you can place your investment in the buy position. As a corollary, you will place the investment with the sell position if you feel that the price of the stock will fall. After placing your bet, you can withdraw at any time and book your profits or losses depending on the price at that time.
Similarities between CFDs and Spread Betting
Firstly, both CFDs and Spread Betting are financial contracts or products that fall in the derivative category of financial assets or securities, meaning that the investor or trader does not buy or sell the actual underlying asset of the derivative (stock or currency or fixed income asset).
Secondly, in both these products, the investor makes money from a difference in prices. These prices are the opening and closing prices of the underlying asset.
Differences between CFDs and Spread Betting
In order to decide who is the winner in this CFD Vs Spread Betting fight, it is crucial to also understand the differences between the two.
The first major difference between the two is that CFD trading is not legal for people who reside in the United States of America (USA). It is more prevalent in the UK while Spread Betting is allowed in both.
In CFDs, brokers charge a fee for the transaction, while companies that offer spread betting do not charge any such fees.
On the other hand, CFD losses are those which can help reduce your tax burden.