CFDs vs Stock

stockWhen you’re looking to get into trading, you will first have to consider a few different types of instruments that you can use and the way you should approach them. Figuring out which one works best in your case is a big part of it, so you will get to learn more about the advantages and disadvantages of both stocks and CFDs, so you can make an informed decision on which one to use.

One of the main things to keep in mind about regular stock is that there is a requirement for cash, without which you can’t buy that stock. The margin loan does give you a way to mitigate that requirement somewhat, but you usually have to get a minimum of 30% of the stock’s value from somewhere else and it needs to be cash. That changes considerably when we’re talking about a CFD, since the cash that is needed can be as little as 3% when the stocks are the ones they’re based on. You need an even smaller amount if the trading is done with currency or indices. Thanks to the sheer amount of leverage that you have when you’re using a CFD, you will find that the potential for profit is truly impressive, sometimes up to 20x what you could get if you got into stocks with the same amount of money. If you’re simply looking at these two options and trying to figure out which one has the best potential per dollar used, you will find that the clear winner is the CFD.

While you do get that higher amount of leverage for your limited funds, you do risk just as much. The leverage will increase the potential size of the loss or of the gain. When you’re going with stocks, you can end up losing all the capital you have, as long as there was no borrowing involved for that money. Without proper risk management, the CFD can result in considerably larger losses than the amount you started with. You do have that option of mitigating the risks, so use it if you get into CFD trading. However, in the battle between stocks and CFDs, the risk management is easier done with the former.

As far as trading costs are concerned, you get two of them that are most important. The first one would be the cost of the broker, since he’s costing you a certain percentage of every transaction. The CFD brokerage fees are usually lower, sometimes as low as 0.08% the amount you bought. The stocks don’t suffer from the presence of interest costs, though it does happen with CFDs since they benefit from leverage. We don’t get a very clear winner between the two when these costs are the ones considered. Depending on how much time the positions are kept, the CFDs can be more costly than the stock.

The CFDs development was initially because the purchase of stocks came with taxes attached and they were trying to get around them. The CFD wouldn’t have to pay that stamp duty. Depending on each country where the trades are done, the capital gains taxes might apply to them or not. Because of that, stocks might have advantages from a point of view of taxes, but once again it depends on the country.

While you will not figure out immediately what the winner is between the stock and the CFD, there are certain elements that might look more appealing to some traders. You are able to choose your own winner, based on your own needs. The CFD generally gives you an extra potential for wins, while requiring smaller capital investments since they give you a lot more leverage. You also tend to risk considerably more when you’re using these CFDs, so you have to keep in mind and use risk management tactics. Keeping CFDs in the long run can make their cost advantage go away, as the charge for interest gets bigger as well.

As long as you learn how to reduce the amount of risk that the CFD comes with, you should definitely give them a shot though. They’ve proven quite profitable for a lot of traders.

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