The Difference Between Spread Betting and CFD Trading
Spread betting and CFD trading are not interchangeable terms so it’s important to understand them before trading them.
While both are what are known as derivatives and are traded via a broker, depending on what kind of trader you are, you may favour one over the other.
By knowing which derivative you prefer to trade and understand how they work, we can reduce the chances of making mistakes and losing money when trading them.
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Similarities between spread betting and CFDs
Let’s start with the similarities. Many of the basics of the two are the same or at least quite similar.
You don’t own the underlying asset
As we mentioned above, they are both derivatives. Derivatives are financial securities where the value is derived from an underlying asset.
Technically speaking, you will not own the underlying asset if you are spread betting or trading CFDs. What you actually have is a contract with your broker to buy and sell the asset at a certain price.
In fact, CFD stands for ‘Contract For Difference’.
Here’s an example; if you spread bet with gold or trade it as a CFD, you will not actually own any gold. You will not be able to withdraw it from your broker; you can only speculate on its price.
Your broker is the one you have an agreement with, and they are the ones that carry the risk for making the transaction.
No need to pay stamp duty on either
Since you don’t own the asset you are trading you don’t have to pay stamp duty when spread betting or trading CFDs.
This is a great benefit and makes both derivatives very appealing. That said, depending on what country you live in the tax laws may be different at it is advised that you speak to an accountant first.
Both offer a wide range of tradeable instruments
Spread betting and CFDs can be used to trade many kinds of market instruments. Some include:
Some broker may differ in what the offer to spread betters and CFD traders.
You can go long or go short
The principles of trading are the same. You can buy and short a currency or you can go long and hold a currency for a while before selling.
Both spread betting and CFD trading are appealing to swing traders and day traders.
Both can be leveraged
Both CFDs and spread betting are leveraged products. That means you can trade them by effectively borrowing from your broker.
However, this depends on the instrument you are trading. Forex can be traded with leverage while stocks cannot be leveraged.
Bear in mind that in the EU the maximum leverage you can apply is 1:30. This means that for UK and Ireland traders, whether they spread bet or trade CFDs, the limits are the same.
Outside the EU, spread betting and CFD trading leverage can vary a lot. In some places, for example, it goes up to 1:3000.
Both have overnight charges
This is where you are charged for holding a position overnight and they are referred to as swap fees. If you hold a position over several days, swap fees can get quite expensive and reduce your end profit.
Some brokers only charge swap fees after two or three days. You can avoid them by signing up to an Islamic/swap free account.
The differences between spread betting and CFDs
Here’s where things start to get interesting. Let’s look at how spread betting and CFD trading differ.
Spread betting is most often offered by UK and Ireland brokers
Spread betting started as a form of wagering in the USA and was invented by bookmaker Charles K. McNeil in the 1940s.
Over time, most countries, including the USA, moved to ban spread betting. Today almost all spread betting, particularly financial spread betting, takes place in the UK and Ireland, and many brokers outside these two countries do not allow it.
That said, anywhere else on the globe you can trade CFDs as well as in the UK and Ireland. This means that British and Irish traders can benefit from the choice of trading both.
Despite being considered a form of gambling in the UK, spread betting is regulated by the Financial Conduct Authority (FCA), not by the Gambling Commission.
Some brokers may allow non-UK and Ireland based traders to spread bet, but you will likely get taxed for this (more on tax below).
Spread betting is not taxed in the UK and Ireland
As mentioned above, in the UK spread betting is regarded as gambling and so it is not taxable. It should be mentioned though that how you are taxed depends on your financial circumstances.
Conversely, in Australia, spread betting is legal but is taxed. Before you decide to take up spread betting, it is highly advised that you check out if it is allowed in your country and if they are taxable.
For UK traders, the non-taxable status makes it easier to live off your gains as a spread better. It is also likely the reason why forex trading is so popular in the UK.
CFDs, on the other hand, are taxed for capital gains. They are taxed in the UK and most other countries, so you need to calculate this into your profits.
The difference in how spread betting and CFD trading are taxed is perhaps one of the biggest differences between the two.
Notion of value
The way in which spread betting and CFDs are broken down into pips is different.
With CFDs, one stand lot equals 100,000 of your chosen currency and one pip is equal to 10 of your chosen currency. For example, if you were trading in US dollars, one pip is $10.
For spread betting, everything is down to the pip. For example, if you are betting £1 per pip, 20 pips would be £20.
CFDs can be charged commissions
In most cases, spread betting does not charge commissions on your trades. They are included in the spread, so you don’t have to worry about additional costs.
When trading CFDs, you will usually be charged a commission by your broker. This is a fee they require for taking the risk of opening the position.
Before trading either, check with your broker!
Spread betting usually has expiry dates of up to a day to months. CFDs do not have expiry dates and you can keep a trade open for as long as you want.
Spread betting allows smaller amounts per trade
With spread betting, you can trade in smaller sizes. This makes it easier for traders to get involved with smaller amounts of funds. It also gives them a fair degree of control over their trades and be more precise.
That said, many brokers these days now allow CFD traders to trade mini- and micro-accounts which allow trading in smaller denominations of 10,000 units and 1,000 units.
Most CFDs allow DMA
DMA stands for ‘Direct Market Access’ which is where you can input a trade directly through your broker into the market.
Direct Market Access has two primary benefits: first, prices fluctuate more which mean traders can benefit from lower lows and high highs more frequently, and second, execution can be faster.
With spread betting, traders are unable to trade directly into the market, but it should also be mentioned that DMA is offered by all CFD providers.
This is perhaps CFDs traders’ biggest advantage.
Which is better for you?
In most countries spread betting is not available and so you may only be able to trade CFDs. However, if you can spread bet, it largely comes down to your preference.
As spread betting contains the whole price in which you are trading, you don’t have to worry about commissions or tax which means what you gain from your trade is what you keep. This simplifies the process.
That said, there are many benefits to trading CFDs. The primary advantage, depending on the broker, is that with CFDs you can trade with DMA.
Finally, you may prefer one to the other simply because of the way they are broken down into pips.
If you remember anything from this article, make it these key points.
- Spread betting is most popular in the UK and Ireland. CFDs are traded all over the world.
- Spread betting is not taxed in the UK and Ireland. If you reside elsewhere, it is advised that you look into what the status of spread betting is. CFDs are in most cases taxed.
- CFDs are broken down into stand lots. Spread betting is only broken down into pips only.
- Some CFDs offer DMA trading. Though not all of them do!
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