Timonrosso

CFDs Vs Spread Trading Explained For Dummies

Education
JSE:J151   COAL MINING INDEX
In this issue, we’ll discuss the differences between both CFDs and Spread Trading…

What are CFDs and Spread Trading?

Spread Trading (betting) and CFDs are financial instruments that allow us to do one thing.

To place a bet on whether a market will go up or down in price – without owning the underlying asset.

If we are correct, we stand a chance to make magnified profits and vice versa if wrong.

Both CFDs and Spread Trading, allow us to buy or sell a huge variety of markets including:

• Stocks

• Currencies

Commodities

• Crypto-currencies and

• Indices.

When you have chosen a market to trade, there are two types of CFD or Spread Trading positions you can take.

1. You can buy (go long) a market at a lower price as you expect the price to go up where you’ll sell your position at a higher price for a profit.

2. You can sell (go short) a market at a higher price as you expect the price to go down where you’ll buy your position at a lower price for a profit.

EXPLAINED: CFDs for Dummies

DEFINITION:

A CFD is an unlisted over-the-counter financial derivative contract between two parties to exchange the price difference between the opening and closing price of the underlying asset.

Let’s break that down into an easy-to-understand definition.

EASIER DEFINITION:

A CFD (Contract For Difference) is an:

• Unlisted (You don’t trade through an exchange)

• Over The Counter (Via a private dealer or market maker)

• Financial derivative contract (Value from the underlying market)

• Between two parties (The buyer and seller) to

• Exchange the

• Price difference (Of the opening and closing price) of the

• Underlying asset (Instrument the CFD price is based on)

EASIEST DEFINITION

Essentially, you’ll enter into a CONTRACT at one price, close it at another price FOR a profit or a loss depending on the price DIFFERENCE (between your entry and exit).

Moving onto Spread Trading.

EXPLAINED: Spread Trading for Dummies

DEFINITION:

Spread Trading is a derivative method to place a trade with a chosen bet size per point on the movement of a market’s price.

EASIER DEFINITION:

Spread Trading is a:

• Derivative method (Exposed to an underlying asset) to

• Place a trade (Buy or sell) with a chosen

• Bet size per point on where you expect a

• Market price will

• Move (Up or down)

• In value

EASIEST DEFINITION:

Spread Betting allows you to place a BET size on where you expect a market to move in price.

Each point the market moves against or for you, you’ll win or lose money based on their chosen TRADING bet size (a.k.a Risk per point or cent movement).

The higher the bet size (value per point), the higher your risk and reward.

The costs you WILL pay with Spread Trading and CFDs

Both Spread Trading and CFDs are geared-based derivative financial instruments.

As their values derive from an underlying asset, when you trade using Spread Trading or CFDs, you never actually own any of the assets.

You’re just making a simple bet on whether you expect a market price to rise or fall in the future.

If you decide to go with the broker or market maker who offers CFDs or Spread Trading, there are certain costs you’ll need to pay.

Costs with Spread Trading

With Spread Trading, you’ll only have one cost to pay – which are all included in – the spread.

The spread is the price difference between the bid (buying price) and the offer (selling price).

EXAMPLE: Let’s say you enter a trade and the bid and offer prices is 5,550c – 5,610c.

The spread, in this case, is 60c (5,610c – 5,550c).

This means your trade has to move 60c to cross the spread in order for you to be in the money-making territory. Also, if the trade goes against you, the spread will also add to your losses.

Why the spread you ask?

The spread is where the brokers (market makers’) make their money.

Costs with CFDs

Brokerage

With CFDs, it can be different.

Depending on who you choose to trade CFDs with, you may need to cover both the spread as well as the brokerage fees – when you trade.

These brokerage fees can range from 0.2% - 0.60% for when you enter (leg in) and exit (leg out) a trade.

NOTE: If the minimum brokerage per trade is R100, you’ll have to pay R100 to enter your trade.

Daily Interest Finance Charge

The other (negligible) cost, you’ll need to cover is the daily financing charges.

If you buy (go long) a trade, you’ll have to pay this negligible charge (0.02% per day) to hold a trade overnight.

However, if you sell (go short) a CFD trade, you’ll then receive this negligible amount (0.009%) to hold a short trade overnight.

The costs you WON’T pay as a Spread Trader


With spread trading (betting), you don’t own anything physical.

When you take a spread bet, you’re simply making a financial bet on where you expect the price to move and nothing else.

This means, there will be no costs to pay as you would with shares including:

• NO Daily Interest Finance charges

• NO Stamp Duty costs

• NO Capital Gains Tax

• NO Securities Transfer Tax

• NO Strate

• NO VAT

• NO Brokerage (all wrapped in the spread).

The costs you WON’T pay as a CFD trader

With CFDs, you’ll notice that there are similar costs with Spread Trading that you won’t have to pay including:

• NO Stamp Duty costs

• NO Securities Transfer Tax

• NO Settlement and clearing fees

• NO VAT

• NO Strate

24-Hour Dealings

The great thing about Spread Betting or CFD trading is that, you can trade markets trade 24/5.

I’m talking about currencies, commodities and indices.

And with Crypto-currencies you can trade them 24 hours a day seven days a week.

I have left out a very important difference between CFDs and Spread Trading… Gearing and how it works in real life… We'll save that for next time.

Do you have any questions or did you find this helpful on CFDs or Spread Trading?

Let me know in the comments below...

Regards,

Timon Rossolimos
Founer, MATI Trader

Comments

Muy clara explicación. Ahora que es Gearing
Reply
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