No other investment tool gives you as much freedom and options as CFD: easy access to hundreds of markets, betting on a price drop, CFD trading with leverage, etc. But each coin has two sides, and each side has its own face. So, let’s look at not only the pros of CFD trading, but also the cons that are often overlooked.
Advantages of CFDs
MANY DIFFERENT INSTRUMENTS
With CFDs, you can bet on how the value of a currency, cryptocurrency, stock market index, commodity, or share will change. Brokers usually offer CFDs on hundreds to thousands of financial instruments, all from one application and one account.
SPECULATION ON A PRICE DROP
One of the best things about CFD trading is that you can bet on whether prices will go up or down. So, traders can make money not only when the market goes up, but also when it goes down.
FINANCIAL LEVERAGE
Leverage is used in CFD trading to make both your profits and losses bigger.
With leverage, you can make big trades without putting up a lot of money. This means that even a small change in the market can bring in a lot of money.
LOW ENTRY BARRIER
CFDs are easy to trade, and you don’t need a lot of money to do so. Most of the time, the minimum deposit is around 2000 crowns, so almost anyone can trade.
If you want to trade directly on the stock market, you will need more than $2,000. For example, the US regulator FINRA says that day traders who trade stocks on margin can’t have less than $25,000 in their accounts.
FEES AND COMMISSIONS THAT ARE LOW
It can get too expensive to trade on the stock exchange. Costs will include things like broker commissions, exchange fees, stamp duty, and taxes on financial transactions.
Such costs would be a huge financial burden for traders who use leverage and make a lot of trades every day.
Since there is no purchase of the underlying asset when CFD Trading, the costs are much lower. Most of the time, traders only pay the spread, a fee for holding positions overnight, and, on rare occasions, a commission fee.
EXECUTION RIGHT AWAY
Most CFD brokers allow orders to be filled right away, so opening and closing a position takes place almost instantly.
As a point of comparison, brokers can take a few days to settle trades with classic shares. When using cryptocurrencies, you have to wait for the miners to process the transaction, which can take tens of minutes.
CFD trades, on the other hand, usually open and close in less than a second, so traders can get their money right away.
Disadvantages of CFDs
FINANCIAL LEVERAGE
One of the best things about CFD is also one of the worst things about it. We are, of course, talking about financial leverage, which makes it easier to make money but also makes it easier to lose money.
When you have a lot of leverage, even a small change in the market against you will cause a big loss. In extreme cases, leverage can wipe out your entire account in no time.
HIGH RISK
CFD trading is very risky, and studies show that 80–90% of traders lose money when they do it. The main reasons for this are the use of financial leverage and the short-term nature of trades. This, along with traders’ careless behavior, makes CFD Trading a risky business.
NON-STANDARD PRODUCT
Since there are no rules or standards for giving out CFD Trading conditions are completely up to the brokerage companies.
In the EU, part of CFD trading is regulated by ESMA, which limits, among other things, how much financial leverage can be used. Even so, there are a lot of brokers in the Czech Republic who don’t have the right license and don’t follow these rules.
Some countries don’t allow CFDs because their rules aren’t strong enough.
NON-TRANSPARENT PRICING
The prices to buy and sell CFDs depend on how much the underlying assets are worth. The problem is that the brokers don’t say where they get their price information. So, customers can’t check to see if, for example, prices are being manipulated or there aren’t too many spreads. Also, there may be a delay between the time an order is placed and the time it is carried out on the CFD Trading platform.
INTERESTS AT STAKE
A contract for difference (CFD) is an agreement between a broker and a trader to settle the difference in price. Since this is the case, the broker and his clients have different goals. So, if the trader makes money, the broker has to give the trader the money. If the trader loses, on the other hand, he has to pay the money back to the broker.
In some situations, like when the market is more volatile, the broker may hurt his clients in order to avoid losing money himself. For example, they could increase the spread, cut the number of trades, or stop CFD Trading altogether.
A sample case happened in the spring of 2020 when the price of oil fell significantly and then began to rise – as expected. At the time, the market was pretty easy to read, which meant brokers could lose a lot of money. Because of this, some brokers have stopped CFD Trading in oil, denying their clients a big chance to make money.
YOU DO NOT OWN A REAL ASSET
When you trade CFDs, you don’t buy the underlying asset. This has both pros and cons. The pros are lower costs and not having to worry about storing and protecting the asset. For instance, traders lose the right to vote on shares and can’t move their portfolio to another broker.
NO TAX BENEFITS
Every year, you have to pay taxes on trading and investment income, but you can legally avoid paying taxes on some assets.
For example, income from the sale of securities doesn’t have to be taxed (shares, bonds, ETFs, mutual funds). It’s enough if you don’t make more than 100,000 crowns a year from selling CP or if you buy and sell CP at least three years apart.
But CFD income doesn’t get any tax breaks or other benefits. According to 10, CFD trading income is considered “other income” and is taxed at a rate of 15%.
POSITION HOLDING FEE
CFD trades never end, so you can hold on to them for as long as you want. But every day after the market closes, contracts are changed. This means that the open positions will be carried over to the next trading day, and the broker will charge a swap fee.
Most of the time, the swap fee is small, but you have to pay it every day that the position is open. If you kept the position for a year, the swap fees would cost you between 4% and 8%. The annual rate for cryptocurrencies is even 20 to 30%. CFDs are not good for long-term investments for the same reason.
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