The key difference between spread betting and CFD trading is that spread betting is a way of taking a bet on the price movement of a security through speculation whereas CFD trading is a derivative that provides an investor with the option to predict price movements of securities that function with an underlying asset. Both spread betting and CFD trading are risky investments that are not suitable for risk averse investors. The main advantage of these investment options is that they give investors the opportunity to speculate price movements of securities without owning or purchasing them.
CONTENTS
1. Overview and Key Difference
2. What is Spread Betting
3. What is CFD Trading
4. Side by Side Comparison – Spread Betting vs CFD Trading
5. Summary
What is Spread Betting?
Spread betting is a way of taking a bet on the price movement of a security through speculation. This gives the opportunity for the investor to speculate the prices without owning or purchasing the security, which is a major advantage in this option. Spread betting has risen in both volume and value significantly during the past few years as an investment option. However, this is a high-risk activity where the investors can lose more than the initial deposit. Even though an investor can enter into spread betting with a minimum stake is £1, a lower stake is not beneficial due to stamp duty.
The option of spread betting is only available to investors who reside in UK and Ireland. London Capital Group Spread Betting, City Index Spread Betting and IG Spread Betting are popular spread betting companies in the UK.
How Does Spread Betting Work?
The spread betting company will quote two prices: the bid price and offer price. Based on these prices, the investors can bet whether the price of the underlying security will increase than the offer price or decrease than the bid price.
E.g. TUV is a spread betting company. It quotes a bid price of £100 and an offer price of £104 for a particular security. An investor predicts that the price will decrease thus he/she bets £2 for every pound that the security’s price drops. If the price reduces to £85 within a fortnight, the investor will receive £30(£2* 15).
What is CFD Trading?
CFD trading (Contract For Difference) is a derivative that provides an investor with the option to predict price movements of securities without owning or purchasing the underlying instrument. Profits or losses will be realized when the underlying asset moves in relation to the position taken. A margin of 5% of the contract value is required to make an investment in CFD. Purchasing a CFD contract is referred to as a ‘long position’ whereas selling the CFD is known as ‘short position’.
E.g. Assume an investor wants to purchase 10 CFDs of Company A which are currently trading at $250 per CFD. Full contract value will be $2,500. After a fortnight, the value of the CFD has risen to $295 per CFD. The investor predicts that it will be unlikely for the price to rise further than this within the next few days and decides to sell the CFD at the current trading price of $295.
CFD trading gives the opportunity for investors to make decisions based on the rise and fall in financial markets. If the investor believes that a company or market will experience a loss in value, the CFD can be sold in the short term to make an immediate profit. On the other hand, if the investor speculates that the price will increase in the near future, he/she can hold on to the investment with the intention of selling it in the future. However, like spread betting, CFD trading is also a risky investment option since market prices may move drastically.
Figure 01: Gain or loss in CFD trading depend on the price fluctuations in the underlying asset
What is the difference between Spread Betting and CFD Trading?
Spread Betting vs CFD Trading |
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| Spread betting is a method of taking a bet on the price movement of a security through speculation. | CFD trading is a derivative that provides an investor with the option to predict price movements of securities without owning or purchasing an asset. |
| Availability for Investors | |
| Spread betting is only available to investors who reside in the UK or Ireland. | CFD trading is conducted on a global scale, thus available to investors globally. |
| Capital Gain Tax | |
| Spread betting is exempted from capital gains tax. | CFD trading is subjected to capital gains tax. |
Summary- Spread Betting vs CFD Trading
The difference between spread betting and CFD predominantly depends on the approach taken by the investor. Spread betting is a way of taking a bet on the current price of a security as to whether the price will increase or decrease. Here, the gain or loss for the investor depends on the bet made. For example, if the investor speculates that the price will decrease and this materializes, it is a gain for the investor. The criteria for CFD trading is different to this; the investor attempts to buy the CFD when the price of the underlying security is low and sell it when a rise in price occurs. Spread betting and CFD trading are attractive investment option for investors who are willing to take risks in search of higher returns.
References:
1. “Spread Betting.” Investopedia. N.p., 07 May 2006. Web. 31 Mar. 2017.
2. “Financial spread betting companies.” Money.co.uk. N.p., n.d. Web. 31 Mar. 2017.
3. “What is CFD trading?” What is CFD Trading? | CFDs Explained with Examples | City Index. N.p., n.d. Web. 31 Mar. 2017.
4. “The Advantages and Disadvantages of CFD Trading.” FXStreet. N.p., n.d. Web. 31 Mar. 2017.
Image Courtesy:
1. “Gold Spot Price per Gram from Jan 1971 to Jan 2012” By MDChaara – Own work (CC BY-SA 3.0) via Commons Wikimedia