A question we are often asked is ‘What is the difference between Financial Spreadbetting and Contract For Difference?’

Contract For Difference (CFD) were originally used by large institutions to cover their equity exposure but are now widely available to the retail sector and allows the dealing in Shares, Indices, Sectors, Currencies etc. without having to physically own the Instrument. A CFD reflects the underlying market price of the Instrument and the profit or loss is determined by the difference at which you Buy and Sell.

A number of the financial spreadbetting companies indeed offer both a spreadbetting and CFD service e.g. IG Index, CMC Markets, City Index, Capital Spreads. There are many similarities between CFD’s and Financial Spreadbetting but also many nuances Let’s look at the similarities and differences between to the two trading methods:

Similarities

• With CFD’s you trade on Margin i.e. you need only put up a deposit of the total value of the position. Each Instrument has a Notional Trading Requirement and a Margin Requirement. In much the same way as Financial Spreadbetting this may be a % or a fixed £ value.
• Because you do not physically own the Instrument there is no Stamp Duty to pay.
• Some CFD providers offer no dealing charges. Some offer no commission charges on Indices but apply commission charges when dealing in Shares (Please do check with the providers).
• You Buy at the Offer Price and Sell at the Bid Price.
• CFD’s allow the ability to Buy in the anticipation of a price rise and also Sell in the anticipation of a price fall.
• The markets you can deal in are virtually the same. E.g. UK, USA Europe, Far East Australia etc.
• When dealing with Indices, Sectors the trade is identical.
• Much of the dealing terminology is the same.
• You can place Controlled Risk Trades.

Differences

• When dealing in Shares you deal in the number of Shares not £’s per point. (1000 Shares not £10 per point).
• CFD’s are an ongoing Contract that will only expire when you actually close it.
• CFD’s are usually priced based on the Cash price of the market (Financial Spreadbets can be Futures based e.g. Quarterly).
• CFD’s attract financing charges. A Long position carried over to the following day will attract an Interest charge debited to your account; a Short Position will attract Interest credited to your account. Interest is calculated on the total value of your position.
  • The Interest rate will vary from provider to provider but as a rough guide it will be the official overnight Cash interest rate plus say 1.5% for Long positions and less 2.5% for Short Positions. So if the overnight rate is 4% you will be charged 5.5% on Long positions and receive 1.5% on your Short positions. Interest is calculated and applied on a daily basis.
  • (Please Note: Some Financial Spreadbetting companies offer a Rolling Cash Bet which operates a similar system, however some might automatically close out Daily positions. Longer term bets e.g. Quarterly, have the spread adjusted to reflect interest charges. Interest charges are often referred to as Cost of Carriage.
• CFD’s allow the owner of a Share CFD to partake in Corporate Actions e.g. Share splits, Dividends.
  • The owner of a Long share or Index CFD will receive dividends in much the same way as an actual shareholder but Short CFD Share and Index positions will have the dividend deducted from their accounts. (Each provider treats Dividend slightly differently so please do check).
• CFD’s are subject to Capital Gains Tax.
• Commission Charges may be applied to some or all transactions.

See over for EXAMPLES OF Financial Spreadbetting when compared to CFD Trading.

Two examples of a CFD trade when compared to a Financial Spreadbetting.

Example 1 – Share Dealing

We wish to take a Long position in Barclays in anticipation of a rise in price and wish to expose ourselves to 1000 Shares:

Notes:

• The interest rate on the CFD is calculated as follows:
  • Value of position = 1000 Shares x £4.43 (the Mid price) = £4430
  • Interest @ 5.5% p.a. of the total position = £4430 x 5.5% = £243.65 p.a. £243.65 divided by 365 = £0.667. (Please do check exactly how the Interest charge is computed with the providers –there will be differences)
• The wider spread and higher price on the Financial Spreadbet reflects that it is a quarterly contract and takes account of Interest and Dividends
• The profit is calculated by valuing the positions at the prevailing potential closing price of the position i.e. the Bid Price – Opening Offer price x Size of Exposure.
• Interest will accrue on the CFD Daily until the position is closed.
• No interest would have accrued had the position not been held overnight.

Example 2 – Index Trading

We wish to take a Short position on the Dow Jones Index in anticipation of a fall in price:

Notes:

• The Notional Trading Requirement on the Financial Spreadbet is usually at a fixed level e.g. 400 – you would multiply this number by your stake to calculate your Margin Requirement e.g. 400 x £10 = £4000.
• The interest rate on the CFD is calculated as follows:
  • Value of position = £10 Per point x 8486.5 (the latest Mid price) = £84,865 Interest @ 1.5 % p.a. of the total position = £84865 x 1.5% = £1272.97 p.a. £1272.97 divided by 365 = £3.487.  (Please do check exactly how the Interest charge is calculated – there will be differences).
• The wider spread and higher price on the Financial Spreadbet reflects that it is a quarterly contract and takes account of Interest and Dividends.
• The profit is calculated by valuing the positions at the prevailing potential closing price of the position i.e. the Offer Price – Opening Bid Price x Size of Exposure.
• Interest will accrue on the CFD Daily until the position is closed.
• No interest would have accrued had the position not been held overnight.
• The CFD Bid an Offer Price is the Cash value of the market.

An interesting point here on Financial Spreadbetting. Check whether your spreadbetting company automatically ‘Rolls’ their Daily Bets. If they do then you may wish to consider placing Daily Cash bets since you will accrue interest and the margin requirement will almost certainly be less. Capital Spreads certainly offer this facility.