Contracts for difference (CFDs) enable you to trade thousands of assets without needing to own the underlying asset. This means you can easily go long or short on instruments like cryptocurrencies and stocks without needing a crypto wallet or a share dealing account.
In addition to the wide range of instruments offered, CFD platforms typically allow you to trade on margin, which means you could execute a £1,000 trade with an account balance of just £100, assuming a 10% margin.
We’ll explore the pros and cons of CFD trading in more depth in this guide, but first, here’s what to consider when choosing between different CFD trading platforms.
What to look for in a CFD Trading Platform
With hundreds of CFD brokers to choose from, you might be wondering what differs from one broker to another, and what should you pay close attention to when trying to find the best CFD broker for you?
We believe there are four key differences to consider:
1. Is this CFD broker safe to use?
The most important thing to consider when choosing a CFD trading platform is how reputable the company behind it is.
While thankfully not common, brokers have gone bust in the past leaving traders out of pocket. This is why we suggest using a company that is regulated by a recognised regulator such as the Financial Conduct Authority, who are obligated to insure their clients investments against insolvency by up to £85,000 under the Financial Services Compensation Scheme.
In addition to this protection, major regulators also ensure that the broker runs their business in accordance with the laws and regulations designed to protect retail traders. We only feature brokers on our website that meet this criteria, but you can also check that a broker is regulated by visiting their website and looking for their regulation registration number.
2. Am I able to trade what I want to trade?
Each CFD platform will offer a different array of instruments that you can trade. If you have a specific asset or asset class you’d like to be able to trade, it’s wise to ensure that the broker you’re thinking of using offers these.
You can see a comprehensive overview of the instruments offered by any broker by reading their review, which can be accessed in the navigation menu at the top of this page.
3. How much will it cost me to trade?
There are three main fees to consider with CFD trading – the commission, spread, and overnight holding fee (swap rate).
The main fee is likely to be the commission rate, which you pay on each trade and is effectively the main way the broker makes money. This is sometimes a percentage (e.g. 0.1%) or a fixed price (£5 per trade) or a combination of the two.
The spread is the difference between the bid and the ask price. In CFD trading, it’s less common for this to be a major part of the cost, but it is worth paying attention to.
Finally, there’s the overnight swap rate which you will pay for every night that you hold a position open.
Not all brokers charge all three fees, but it’s important to run some example costings to calculate how much you’ll likely pay per trade with the different brokers.
4. How good is the trading platform & charting package?
CFD trading platforms range from being highly intuitive for novices (such as eToro or Plus500’scustom platforms) to more sophisticated platforms like MetaTrader 4 or IG’s L2 Dealer, which come with advanced features like automated trading & direct market access.
The right platform for you will largely depend on how experienced you are as a trader and what you trade. An experienced equities CFD trader, for example, may specifically want a CFD broker that offers direct market access, a good charting package and a wide range of stocks to trade. On the other hand, a novice crypto trader may be more interested in finding a platform that offers a high-quality news feed, a wide range of crypto assets to trade, and an intuitive platform.
One of the best ways to compare platforms is to open several demo accounts and see which platform feels right for your trading style.
What are CFDs?
We’ve briefly alluded to why people choose to trade CFDs – but what actually are they?
A CFD is simply a contract or ‘bet’ to pay the difference in the value of a particular underlying asset between when the contract is agreed and when it expires.
The underlying asset could be a company’s stock, cryptocurrency, forex pair, market index or a commodity like gold or oil. This underlying asset is never owned by the buyer or the seller.
The profit (or loss) is the difference in the price from when the contract was opened and the time it closed. There is no restriction on the time one has to hold the contract – it can be sold at any time the buyer deems fit.
While we’ve talked a lot about contracts, CFD trades are typically made with the click of a button from an online trading platform between an individual (the buyer) and a broker (the seller). This is why it’s essential to choose a trustworthy CFD trading platform that offers a variety of instruments at a reasonable price.
An example of a CFD trade
If Facebook’s shares were trading at a price of $192 and a trader bought one hundred shares at the current price, the total transaction would cost the trader $19,200.
Applying leverage
Now, let’s imagine a broker offered a margin (or leverage) of 10% or 10:1 on US stocks like Facebook. The trader could now make the exact same trade, but would only be required to put down $1,920 (10% of the cost).
What about the spread?
Some CFD brokers make their profits through what is called the spread.
This is a small difference in the buying and selling price of the CFD. When a trader enters a CFD trade, the online account will immediately show a loss equal to the size of the spread. Therefore, if the broker charges a spread of 10 cents, the trade will immediately show a loss of 10 cents when the trade is opened.
The blessing and curse of leverage
Using the example above, let’s imagine that Facebook made an announcement that increases its share price by 15% to $220. In this case, the trader would have made a profit of $2,800 (a 146% increase on their deposit of $1,920). As you can see from this example, leverage has the ability to magnify profits, but there’s also a dark side to leverage.
Now imagine that Facebook is involved in a scandal that unexpectedly plummeted its share price by 30% to $134. In this situation, the trader would have made a loss of $5,760, which means the trader would owe the broker more than the balance in their account.
Many reputable brokers now offer negative balance protection, which ensures that you never owe your broker more than your account balance. This works by closing out your trades when your margin is used up.
Limits on leverage (and how to get professional status as a trader)
In 2018, the European Securities and Markets Authority (ESMA) imposed rules that capped the amount of leverage that inexperienced traders were allowed to use. Prior to this, it was possible for most traders to get leverage as high as 500:1.
While the limits are constantly being reviewed, it’s currently only possible for retail traders to get leverage on major currencies of up to 30:1. For more volatile instruments like cryptocurrencies it’s 2:1. There may be a way to increase this, however.
If you meet the criteria of a professional trader, which means you meet at least two of the three criteria below, you can apply to be an elective professional with certain CFD providers which increases your leverage limits up to a possible 200:1 and usually includes a host of other benefits such as lower rates and a dedicated account manager.
Professional status criteria:
- You’ve carried out a minimum of 10 significantly sized transactions at a frequency of 10 per quarter over the previous four quarters.
- The size of your investment portfolio, including cash deposits and financial instruments, exceeds €500,000
- You’ve worked (or work) in the financial sector for at least one year in a professional position, which requires knowledge of the transactions or services envisaged
It’s worth pointing out that there are often some features you lose access to by having elective professional status which varies from broker to broker that you should consider.
What are the pros and cons of CFD trading?
Pros
- Access to a huge range of markets – including instruments that may not normally be available in the trader’s country.
- Go long and short – With CFD trading it’s relatively easy to open a short (sell) position, allowing traders to potentially make money when an instrument goes down in price. With some other forms of trading it can be difficult to execute short positions without having already borrowed the instrument or having a relationship with the broker.
- Leverage – While we’ve covered the downsides of leverage, it does allow traders to potentially maximise their gains with a lower initial deposit.
- Instant order execution – With CFD trading, most orders are executed instantly with the click of a button so there is little risk of slippage or requotes.
- Low fees and commissions – In comparison to traditional share trading, where it’s not unusual to pay £7-12 per trade, most CFD trading platforms charge a relatively low commission that works out more cost-effective for higher-frequency trading or trading with lower amounts of money.
- No stamp duty (UK only) – Because there is no exchange of an asset, there is no stamp duty to pay if you’re trading in the UK.
Cons
- You can lose everything – While assets rarely plummet to zero in traditional stock or commodity trading, it’s possible to lose your entire balance (and more) with CFD trading as a result of using leverage.
- Overnight fees – CFD trading is not ideal for holding positions for long periods of time as there are fees for holding a position overnight.
- Lack of ownership – With CFD trading you own the contract – not the asset. This has its upsides – you can trade Bitcoin without having a crypto wallet, trade gold without having to pay for bullion storage, and trade foreign stocks without having to open accounts with international brokerages. There are some drawbacks, though. When you own a company’s stock, for example, you get voting rights and potential dividends.
- Capital gains tax applies – Unlike spread betting, which is exempt from capital gains tax, CFD trades are subject to capital gains tax. You should seek specific financial advice for more information on this.
What CFD instruments can you trade?
As a CFD is simply a contract to pay the difference in value between the current price and a future price, there are few inherent limits on what can be traded as a CFD.
Generally speaking, though, the following asset classes are commonly available for online CFD trading, in approximate order of most popular to least:
- Stocks (e.g. Facebook, Barclays, Vodafone, Tesla)
- Cryptocurrencies (e.g. Bitcoin, Ripple, Ethereum)
- Forex
- Commodities (e.g. Gold, silver & oil)
- Indices
- ETFs
- Options
To make it easy for you, we’ve highlighted which instruments each of the CFD brokers in our comparison table above.
How to Learn CFD Trading
While covering the vast number of CFD strategies is beyond the scope of this article, many brokers offer educational programmes, webinars, and seminars to make learning how to trade CFDs easier.
City Index has a particularly good online guide for learning how to trade CFDs using their Web Trader platform, which covers much of what we’ve already talked about but in greater detail and with specific examples.
You can access City Index’s educational content here.
XTB also provides an online trading academy, which has the advantage of offering different courses depending on your level of experience.
While their introduction to CFD trading is just two short lessons (and repeats much of what we’ve included here), they provide a very detailed course on fundamental analysis, which dives into specific strategies for trading CFD stocks, cryptocurrencies, commodities, as well as an introduction to interpreting macroeconomics, politics and central bank policy.
