CFDs – a better bet?

Contracts for difference are very similar to spread bets in many ways. But when should you use one over the other? Tim Bennett explains.

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Contracts for difference are very similar to spread bets in many ways. However we'd normally only recommend them for professional traders.

Like a spread bet, a CFD allows you to place 'up' and 'down' bets on a range of assets, from shares to currencies and commodities. An 'up' bet involves buying a contract, hoping the price rises in line with the underlying asset and then closing the bet by selling the same contract for a higher price.

'Down' bets work in reverse, with the opening trade being a sale of a CFD to create a 'short' position. The advantages of using CFDs over, say, betting by trading the underlying asset are similar to those of spread bets it's quicker and usually cheaper to trade a CFD, and you don't get stuck holding the underlying asset.

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Like spread bets, CFDs are margined products you only put down a percentage of the value of the contract up front typically between 5% and 20%, depending on the riskiness of the bet.

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So what's not to like? Well CFDs differ from spread bets in one crucial respect tax. Whilst a spread bet offers tax-free gains, a CFD does not. You pay capital gains tax on profits and can use losses to reduce future CGT bills too. Next, you usually suffer a daily financing charge to run a CFD position. Keep it open for, say, a couple of months and this can add up. So, as a rule of thumb we would only recommend CFDs over spread bets for day traders and institutions such as hedge funds.

Tim Bennett

Tim graduated with a history degree from Cambridge University in 1989 and, after a year of travelling, joined the financial services firm Ernst and Young in 1990, qualifying as a chartered accountant in 1994.

He then moved into financial markets training, designing and running a variety of courses at graduate level and beyond for a range of organisations including the Securities and Investment Institute and UBS. He joined MoneyWeek in 2007.

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