CFD vs Spread Betting: What is the Difference? [2024]

This article provides a comprehensive comparison of CFDs and Spread Betting for online trading. It discusses differences in tax treatment, market access, costs, trade sizing, and regulation. The summary emphasizes the importance of considering tax implications, investment goals, risk tolerance, market interest, costs, regulatory environment, and strategic risk management for successful trading decisions.

Introduction

When it comes to online trading, two popular methods stand out: Contract for Differences (CFDs) and Spread Betting. Both offer unique opportunities and challenges, and understanding their nuances is crucial for traders to make informed decisions.

This comprehensive article delves into the details of CFDs and Spread Betting, aiming to guide traders in choosing the method that best suits their investment goals and trading style.

What is the difference between CFDs and Spread Betting?

The main difference between CFD trading & spread betting is tax treatment. Spread betting is tax-free according to the UK government, in 2024 where as CFD’s are liable for capital gains tax. Here are some other core differences between them:

  1. Tax treatment
  2. Market access & range
  3. Trading costs and fees
  4. Trade sizing
  5. Regulation

We will break them down in this article.

What are CFDs?

CFD trade
Source Babypips.com

CFDs are derivative products where traders speculate on the price movement of financial assets without owning the underlying asset. Essentially, it’s a contract between the trader and the broker to exchange the difference in an asset’s price from when the position is opened to when it is closed.

What is Spread Betting?

Spread betting loss
Source:IG.com

Spread Betting is a derivative strategy where traders bet on the direction of price movements of an asset. Like CFDs, traders do not own the underlying asset. Profits or losses are determined by the accuracy of the bet and the degree of the market movement.

Should I Trade CFD’s or Spread Bet?

Due to it’s more favourable tax treatment Spread betting is tax-free in 2024 – we would suggest that beginners who are new to trading should opt for spread betting to get started trading in the UK. Using a limited amount of capital, you can access a wide variety of markets and not have to worry about any tax implications or the complexities of trading.

Tax Treatment

Image of someone doing taxes

CFDs

In many jurisdictions, including the UK, profits from CFD trading are subject to Capital Gains Tax. However, losses can be used to offset tax liabilities.

Holding Period: The duration of holding a CFD position might also influence the tax treatment in certain countries.

Spread Betting

UK Focus: The tax exemption in the UK makes spread betting particularly attractive to UK traders. However, it’s essential to remember that this tax treatment does not apply globally.

Professional Traders: For those who trade at a professional level, the tax authorities might view the activities differently, potentially impacting the tax benefits.

Market Access and Range

Image of a market showing fruit options

CFDs

Offer access to a wide range of global markets, including stocks, forex, indices, commodities, and cryptocurrencies.

Direct Market Access (DMA): Some CFD brokers offer DMA, allowing traders to view and interact with the order books of global exchanges. This can be particularly advantageous for experienced traders looking for depth of market visibility and better trade execution.

Equity CFDs: The ability to trade individual stocks as CFDs offers opportunities for targeted investments and corporate actions like dividends and stock splits, which can affect CFD positions.

Spread Betting

Typically limited to forex, indices, and commodities. You will often not be able to access the wider markets. Often you will be able to trade large-cap stocks (USA & UK) as well as a wide variety of commodities and currencies, it won’t give you as much flexibility as CFDs.

Trading Costs and Fees

Image of British pounds

CFDs

  • Brokerage Fees: The structure of CFD fees can vary between brokers. Some charge a fixed commission per trade, while others incorporate costs within the spread. Additionally, the cost structure can depend on the type of asset being traded.
  • Rollover Fees: Overnight financing costs, or swap fees, are critical considerations for CFD traders, especially when holding leveraged positions over multiple days. These fees can significantly impact the profitability of long-term trades.

Spread Betting

Primarily involves the spread cost. Overnight financing charges (& bonuses) apply, but there are no direct commission fees.

  • Spread Variations: The spread cost can vary based on market liquidity and volatility. During major economic announcements or market turmoil, spreads can widen, affecting trade costs.
  • Guaranteed Stop-Loss Orders: Some spread betting firms offer guaranteed stop-loss orders for an additional fee. This can be an essential tool for managing risk but also adds to the overall trading cost.

Trade Sizes

Size of different fruits

CFDs

CFDs are often traded in lots, which represent a standardized quantity of the underlying asset. This standardization can impact the granularity with which traders can manage their exposure and risk.

Brokerage Fees: The structure of CFD fees can vary between brokers. Some charge a fixed commission per trade, while others incorporate costs within the spread. Additionally, the cost structure can depend on the type of asset being traded.

Rollover Fees: Overnight financing costs, or swap fees, are critical considerations for CFD traders, especially when holding leveraged positions over multiple days. These fees can significantly impact the profitability of long-term trades.

Spread Betting

The ability to bet a fixed amount per point of price movement in the underlying asset provides unparalleled control over the size of the position. This feature makes it possible to tailor the trade size to the exact risk tolerance of the individual trader.

Spread Variations: The spread cost can vary based on market liquidity and volatility. During major economic announcements or market turmoil, spreads can widen, affecting trade costs.

Guaranteed Stop-Loss Orders: Some spread betting firms offer guaranteed stop-loss orders for an additional fee. This can be an essential tool for managing risk but also adds to the overall trading cost.

Regulation and Protection

Padlock to show protection in the markets

CFDs

Investor Compensation Schemes: In many regions, CFD traders benefit from investor compensation schemes, which offer a level of protection in the event of a broker’s insolvency.

Negative Balance Protection: Many regulatory bodies now require CFD brokers to offer negative balance protection, ensuring traders cannot lose more than their account balance.

Spread Betting

Financial Conduct Authority (FCA): In the UK, spread betting is regulated by the FCA, which mandates strict compliance with financial standards and consumer protection. This includes segregation of client funds and participation in the Financial Services Compensation Scheme.

Pros and Cons

CFDs

  • Pros: Access to global markets, use of losses for tax offset, regulation and investor protection, ability to hedge other investments.
  • Cons: Subject to tax on profits, potential for higher fees, complexity can be daunting for beginners.

Spread Betting

  • Pros: Tax-free profits in the UK, smaller bet sizes, simplicity and accessibility.
  • Cons: Limited market access, perceived as less professional, potential for rapid losses due to leverage.

How to Choose Between CFDs and Spread Betting

Question mark to show a decision between CFD's and Spread Betting
  1. Tax Considerations:
    • For UK traders, spread betting offers a tax advantage. However, tax laws vary by region and should be a key consideration.
  2. Investment Goals:
    • Short-term traders might prefer spread betting due to its simplicity and tax benefits.
    • Those looking to diversify portfolios globally might find CFDs more suitable.
  3. Risk Tolerance and Trading Experience:
    • CFDs can be more complex and require a deeper understanding of financial markets.
    • Spread betting is simpler but can still lead to significant losses, especially with leverage.
  4. Market Interest:
    • If your interest lies in specific markets not covered by spread betting, CFDs would be the go-to option.
  5. Costs and Capital:
    • Consider the impact of spreads, commissions, and financing costs on your trading capital.
  6. Regulatory Environment:
    • Understand the regulatory protections offered in your region for both CFDs and spread betting.

Strategies for Successful Trading

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  1. Risk Management:
    • Regardless of the choice, implementing strict risk management rules is essential.
    • Use stop-loss orders and limit leverage to manage risks.
  2. Education and Research:
    • Invest time in understanding the markets, technical analysis, and economic indicators.
    • Stay informed about market news and global economic events.
  3. Practice with Demo Accounts:
    • Both CFD and spread betting brokers often offer demo accounts. Use these to practice without risking real money.
  4. Diversification:
    • Consider diversifying your trading strategies across both CFDs and spread betting to balance risk.

Conclusion

Both CFDs and Spread Betting offer unique opportunities for traders. The decision largely depends on individual circumstances, trading goals, and market preferences. Understanding the nuances of each method is crucial in making an informed decision. Remember, both strategies involve significant risk, especially when using leverage. Therefore, education, risk management, and a clear understanding of your financial goals are paramount in choosing the right trading method for you.

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