In this article, we will compare Contracts for Difference with the practice of Spread Betting so that new traders can assess each and identify which strategy best meets their individual trading goals. Both of these strategies have attracted many new types of traders in recent years (even with all of the turmoil that has been seen in asset markets this decade) but there are some very clear differences that new traders should be aware of before committing to one of these strategies.
First, we will identify a clear benefit that both of these strategies offer to individual traders. The US credit crisis of 2008 and the European debt crisis of 2010 have led many investors to seek alternative methods to traditional investment and both CFDs and Spread Betting gives these investors a vehicle to accomplish this goal. CFDs have been used in hedge funds and large trading institutions for more than a decade, and the recent turmoil seen in the markets is leading many individual traders to follow this lead. Both CFDs and Spread Betting are also more easily access now with the advent of the electronic order book (utilized since 1997), so individual traders are no longer at a disadvantage when looking to execute these types of trades. The ability to trade on margin is another clear benefit of both CFDs and spread bets.
In addition to this, another way both CFDs and Spread Betting are similar can be seen with some of the trading costs that are involved with each practice. With some forms of investment there are differences in the trading costs when an investor buys an asset (goes long) or sells an asset (goes short). Some new traders have difficulty understanding how profits can be gained when the price of an asset drops (a short position) but the fact is that every time one trader buys an asset, someone else is selling it (or, taking a short position).
The fact is that the modern trading environment is more complicated than it has been at any time in history and it is becoming more and more difficult to profit from asset trading in the traditional sense. In the UK, share traders are subject to a Stamp Duty of 0.5% but this is a requirement that is not made for both CFDs and spread betting. Both CFD and spread bets are not subject to this stamp duty, which is a clear cost benefit that should be considered by all traders.
In the next part of this article, we will look at the differences between CFDs and spread betting. First, a CFD (Contract for Difference) is an Over-the-Counter (OTC) transaction between a buyer and a seller to make an exchange at the contract’s maturity date. The profit or loss that is made is dependent on the change in price during the life of the contract, multiplied by the number of shares that were purchased (or sold). CFD strategy has become the favored one used by UK hedge funds, primarily because of the lower trading costs that are incurred relative to traditional forms of investment.