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Forex vs. CFD
The brokerage industry is characterized by such a stiff competition that Forex brokers are trying to do everything to attract new customers. But only attracting new customers is not the way to survive in this business. Retaining the current traders is key for a Forex brokerage house. However, this is not an easy task as active trades are difficult to find.
Nevertheless, conditions are still in favor of more and more people to come and join the Forex market. This is because people in all corners of the world have access to the Internet and the number is increasing by the day. A Forex broker needs to split the efforts in two directions: on one hand, it needs to attract new clients, and on another, it needs to keep the active ones’ trading. This is a difficult task to be done. As a business that runs pretty much the same for every brokerage house, the Forex industry offers little chances for brokers to differentiate from one another. If you go and check a list of brokers and their offering, you’ll find out that they are pretty much similar. This is not good for any business as customers are not loyal if there is a similar offer just around the corner. To avoid that, Forex brokers are desperately trying to offer something new every time.
What is CFD?
One way to differentiate a Forex business from another one is to try to keep up with technological changes. This is a field that changes by the day, as more and more things are being developed, and therefore a whole department is needed for this task. Another way is to offer other financial products that can be traded on the same trading account. Such a product is a CFD (Contract for Difference). A CFD can be traded on other products other than the Forex currency pairs. Such products are individual stock companies. As the name suggests, a CFD is a financial product based on the difference between the entry and the exit price. If this difference is positive by the time the trade is closed, a profit is being made. If not, the trading account takes a loss. The trading principle is the same as when trading a currency pair, only that the underlying financial product is different.
Advantages of Trading CFD’s
There are many advantages and incentives to trade the CFD market. The most important one of them all is the fact that the CFD market gives access to a whole new world of opportunities, other than the Forex market. And everything can be done on the same trading account! There’s no need to open a different trading account, as the CFD products are simply being offered for trading in the same account. If the account is opened with a broker that has the MetaTrader platform on its offering, the thing to do is to go to the tab that shows all the currency pairs that are being offered and then simply right-click on any pair. Next, select the “Show all” tab. The result will be that all financial products offered by that Forex broker, CFD’s included, will be listed. This way, the entire offering can be seen. In general, a CFD is based on a company’s stock price. This gives access to the stock market, a market that otherwise cannot be traded with a regular Forex account.
To trade the stock market, a trader needs to open a trading account designed especially for this. This is both time consuming and costly, in the sense that resources are divided. Plus, the same information needed to trade the Forex market can be used for trading CFD’s. That is fundamental information. To give you an example, imagine the Federal Reserve of the United States is raising the interest rates for the federal funds. Such a move is beneficial for the financial sector and banks will be the first ones to see profitability increasing. Therefore, buying a CFD on a bank stock price is the way to go. If indeed, the price of the stock is moving to the upside, the CFD will return a profit, based on the difference between the buying price and the selling price. Of course, trading the stock market is not that straightforward, as other things come and influence the way stocks are moving. Things like earnings calendar, dividend dates, mergers and acquisitions, etc., are all influencing the price of any given stock, and this has nothing to do with the Forex market. However, having access to an entirely new market other than Forex, allows traders to diversify their strategies and portfolios. This is the first step in a proper money management strategy designed to keep the value of a portfolio on the rise.
Disadvantages of Trading CFD’s
The biggest disadvantage when trading a CFD is the margin needed for a trade. This is, by far, much bigger than the margin locked for any Forex trade. Brokers are enjoying this very much as the lower the margin level in a trading account, the more business for them means. Let me explain this in a few words! When opening a trade in a trading account, the margin for that trade is blocked. The more trades are open, or the bigger the volume, the lower the free margin level will be. If positions are going against the trader, the available margin will become smaller and smaller and the trader faces two choices: either will add more funds to the trading account (hence, in the future, will trade some more, so the Forex broker will benefit) or will close the current positions (closing the positions to free margin in the trading account means the Forex broker will benefit as new positions will be opened and commissions and fees will keep pouring in). Therefore, trading CFD’s is costly for the Forex trader, but represents a good business opportunity for the Forex broker. To put it bluntly, for the broker, it is a win-win situation. Besides the margin thing, a CFD is a product that is riskier than trading a currency pair. This is a curious statement to be made about the Forex market, a market considered to be extremely risky. Nevertheless, CFD’s are riskier. These products are moving based on the factors that influence the Forex market, plus some more, like dividend dates, earnings calendar, etc. Moreover, diversifying too much in a trading account has the effect of splitting the attention and focus on too many directions. This can result in the trading account to incur losses as the focus is split. To sum up, trading Forex and CFD’s is similar, but the factors that move the two markets are not the same. Being able to combine the benefits of both markets is something that successful traders do.
Forex or CFD — Where Should I Start?
Traders should understand that there is no better market, as forex and CFD’s, although similar are very different when compared.
Forex and CFD trading might seem similar and traders can often confuse themselves in figuring out which is a better market to start trading.
At the outset, traders should understand that there is no better market, as forex and CFD’s, although similar are very different when compared. As a trader, the first step is to understand your risk profile and your initial capital that you would like to start trading with.
For someone trading with $500, it is best to stick to the forex markets while for others who have larger capital amounts to trade with, CFD’s can also be traded. The bottom line is that both the markets (forex and CFD’s) are volatile and uncertain and there is no unique advantage or an edge that a trader gets if they opt for one market over the other.
Similarities and Differences between Forex and CFD Trading
CFDs and forex are quite similar considering that the transactions are executed over-the-counter (OTC). Whether you want to trade CFD’s or Forex, you can trade in both rising and falling markets, meaning that you can buy (go long) as well as sell (short) the markets.
Broker opsi biner terbaik untuk tahun 2020!
Trades are executed on the same platform and are processed electronically through the network of banks and not at a centralized exchange. CFDs and forex also carry similar transaction costs, which could be a commission on the trade or the spread as well as the overnight rollover swaps.
Whether you want to trade CFD’s or forex, the fact remains that the trades do not entitle you to any sort of actual ownership of the underlying security that is being traded. For example, if you were trading the EURUSD, you do not own the euros, but merely speculate on whether the euro will rise or fall, relative to the US dollar.
Similarly, if you were trading a commodity CFD such as oil, you do not actually own a barrel of oil. With the similarities between CFD’s and forex covered, the obvious question is what sets them apart.
The biggest difference between a CFD and a forex contract is the fact that CFD’s cover a diverse range of markets. While forex is limited to the currency markets, CFD contracts can range from a stock CFD, commodity CFD or indices CFD.
Based on the contract being chosen for CFD trading, you can expect variations in terms of the minimum tick size, the base currency and the lot size as well. With forex, the lot size is uniform regardless of whether you trade EURUSD or USDCAD.
On the fundamental aspect, the price fluctuations in a CFD contract depend on the markets. For example trading a CFD for indices such as the German DAX is influenced by the respective stocks in the index, earnings and so on. With forex, the fundamental aspects that determine the currency’s movement is based on economic factors and global macroeconomic events.
How Does CFD Trading Work?
The best way to understand how CFD trading works is to start with an example of a stock:
If a stock is trading at $50 and you purchased 100 shares, your initial cost of the transaction amounts to $5,000 (100 shares x $50).
Now, when you trade on margin, say 50%, your transaction cost now comes to only $2500. If you were to trade the same stock via CFD’s which require only a 10% margin, your equity investment now comes to only $500.
CFD stock trading specifications
The above example shows Alcoa’s shares.
- We know that 1 lot equals 2000 shares
- Alcoa is currently trading at $10
- If you were to trade through an exchange broker, you would require capital of 2000 x $10 = $20,000
- With a 20% margin, your equity investment would come to 2000/20 * $10 = $1000
Note that besides the margin, there is a negative swap of $2 that is applied to long or short positions in Alcoa.
With CFD’s, although the transaction costs are lower you still need to pay the spread. Therefore, if the spread was 5, then your CFD transaction opens with a loss equal to the spread.
In order to realize a profit, the stock needs to move a minimum of 5 cents to initially break even on your trade and then realize some profits. Some brokers charge a commission on CFD transactions as well.
The above example illustrates the point that CFD trading is ideal if you want to trade an instrument that would typically require a higher equity investment. Therefore, a stock trader could trade CFD’s lowering their equity costs rather than owning the shares.
Also, with CFD trading, because you do not own the shares, it is more suited for speculative trading rather than investing.
Besides, the spread, CFD contracts also come with rollover or overnight swaps which are determined by the broker. CFD contracts are also subject to dividend payouts.
Therefore, if you were long on a CFD contract for a stock and the company announced dividends, that amount would be credited to your long position. However, if you were short on a stock and the dividends were paid out, that amount is deducted from your position.
- CFD trading makes it possible to trade a security that would typically require higher transaction costs
- With CFD trading, you do not own shares or the security that you are trading
- Lower margin requirements and the ability to go long or short on CFD contracts makes it easy to profit from both rising and falling markets
- CFD trading comes with additional costs such as spreads and rollovers or swaps
- With CFD trading, the transaction sizes can vary. A 1 Lot trade for Alcoa for example, buys you 2000 shares, but on the other hand, 1 Lot trade for ZYNGA buys you 1 share. Traders should bear the lot sizes and their respective share sizes when trading with CFD contracts
CFD Trading – Varying Contract Sizes per 1 Lot
How Does Forex Trading Work?
Forex trading is a lot more straightforward compared to CFD trading. For starters, you can trade from as little as 0.01 lot or 1000 contracts. With forex, when you trade a currency pair, you are essentially buying one currency and selling the other.
So a long position in EURUSD means that you are buying euros and selling dollars. With forex, the margin requirements are far less compared to CFD trading contract specifications.
The picture below shows an example of a EURUSD position. 1 lot equals $100,000 units. So a long EURUSD position for 1 lot infers that you are selling 100,000 US dollars. The margin size requirement for a 1 lot transaction requires 200% margin.
Therefore, if you bought EURUSD at 1.12826, your actual transaction size would amount to 100,000/200 * $1.12826 = $564.13.
With forex, the lot size remains the same, which is 100,000 units of the base currency that you are buying or selling.
Forex – Contract Specification
- With forex trading, you are focusing on just the currency markets
- Forex trading allows you to trade from as little as 1000 units in lot sizes thus making it easy for traders with lower capital to trade these markets
- Forex trading is subject to the respective currency’s economies and global developments and traders should always keep an eye on the unfolding events
- Forex contracts are also subject to rollover swaps which vary on long and short positions as well as the currency pairs in question.
In conclusion, whether you want to trade CFD or forex, the choice is entirely up to the trader. To best determine which of the two you want to trade, start by looking at your leverage and your trading capital.
Then, ensure that you fully understand the markets in question as well as determining your risk tolerance and your goals for making profits. CFD’s are diverse and vary from one security to another, therefore pay attention to the individual securities and proceed accordingly.
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Alvexo is owned and operated by VPR Safe Financial Group Limited, supervised and regulated by:
The Cyprus Securities and Exchange Commission (CySEC) with license number 236/14 and company registration number HE 322134 , located at 1, Agias Fylaxeos Street, 3025 Limassol, Cyprus.
The Financial Services Authority (FSA) of Seychelles through HSN Capital Group Limited, with company registration number 8422417-1 and address at HIS Building, Office 5, Providence, Mahe, Seychelles.
Forex and CFDs are leveraged products and you may lose all your investment capital. Trading leveraged products carries a high level of risk and may not be suitable for all investors. You should consider your investment objectives, level of experience, financial resources, risk appetite carefully and seek independent advice if necessary. 80.7% of retail investor accounts lose money when trading CFDs with this provider. Please read the risk warning policy before entering any transaction with VPR Safe Financial Group Limited a Cyprus Investment Firm. For more information regarding the companies risk disclosure please follow the link
Broker opsi biner terbaik untuk tahun 2020!