What Is CFD And Spread Betting?

Key Takeaways

• Spread betting is tax-free in the UK and Ireland and allows trading in GBP to avoid currency risks, while CFD trading requires paying capital gains tax and trades in the asset’s currency.
• Spread betting is only legally available in the UK and Ireland, while CFD trading is legal in most countries except the US.
• Both spread betting and CFD trading offer leveraged trading, no stamp duty, and the ability to go long or short without owning the underlying asset.
• Choosing between spread betting and CFD trading depends on your preference for tax implications, trading costs, and desired market access.

1. Difference Between CFD And Spread Betting

Perhaps the main reason spread betting is a popular alternative to CFD trading is because there are no tax liabilities on profits. With CFDs, you must pay capital gains tax on profits, while spread betting is exempt from this requirement. On the flip side, you can offset your losses against taxes with CFDs, but you cannot with spread bets.

The UK’s Financial Conduct Authority (FCA) categorises spread betting as gambling, not an investment. This means that any profits you make through spread betting in the financial markets are exempt from Capital Gains Tax (CGT), making it an attractive alternative to CFD and share trading (as both pay CGT).

While the appeal of no capital gains tax when spread betting is the main reason many choose spread betting over CFD trading, other differences are worth noting. One of these (and it’s a subtle one, but one I think is no less crucial if you are a serious trader) is that you trade all assets in GBP with spread betting. This lets you avoid currency fluctuation (aka currency risk) when betting on international financial markets.

For example, if the dollar is strengthened against the GBP while I am trading AAPL shares, the value will be lower when converted back to GBP, meaning I’d make less profit. Below is a summary of the main differences:

A second difference is that spread bets have a fixed expiry, unlike CFDs, which can be held indefinitely since they do not expire. The exception to this is CFD futures, and even these can be renewed if both parties agree to this.

Another difference is that spread betting using financial markets is only legally available in the UK and the Republic of Ireland. Financial regulators outside this region do not recognise (or permit) spread betting, while most do recognise CFD trading (except in the US).

The last point of difference I should note is that some of the terminology between CFD trading and spread betting may differ. With a CFD, you speculate on the movement in the price of the underlying instrument for a defined contact size (usually done in ‘lots’,) while a spread bet entails betting on a price per point basis (i.e. a ‘pip’).

2. Similarities Between Spread Betting And CFD Trading

CFDs and spread betting also have a lot in common, which is why most traders find it challenging to choose whether to trade CFDs or spread bet. Below are the main similarities:

• Leveraged trading
• No stamp duty tax
• A wide range of financial markets
• Both pay and receive dividends (for shares)
• You can go long and short
• No physical ownership of the underlying asset

What Is Spread Betting?

In financial trading, spread betting is a type of derivative that allows you to speculate on the price movements of financial markets with the aim of making a profit without owning the underlying asset. Since there is no exchange of assets or contracts involved, spread betting is considered to be more akin to gambling, which means there are no taxes on profits and purchases.

Like all derivatives, spread betting allows you to take advantage of rising and falling markets by going long or short on the underlying asset. When spread betting, you simply stake how much you want to risk per point of the asset rising or falling. By placing a spread bet on an asset, you can profit (or lose) based on how many points the market has moved in your favour (or against you).

You can view our what is forex spread betting guide to learn more about the concept.

Example Of A Spread Bet Trade

You can spread bet on a range of markets and, in this example, we will look at how to spread bet on the FTSE 100. After analysing the markets, your technical analysis indicates that the FTSE 100 will reverse and trade lower. To benefit from this analysis, you place a spread bet and sell the FTSE 100 at 7660 with a stake of £50 per point.

A few days later, the FTSE 100 has traded lower in your favour and is at 7600, giving you a 60-point drop. You decided to close the position and take the profit off the table.

In this trade, you made £50 for every 1 point that moved in your favour, and because the markets moved lower by 60 points, you would have made £50 x 60 points. Therefore, you will have made £3,000 profit before costs (like spreads and swaps).

I like the simplicity of spread bet trades because you enter the stake size per point moved, making it easier to understand in my head. Meanwhile, with CFDs, you have to open a number of contracts, which you must then manually calculate the value of each point.

Risk of Spread Betting

Spread betting is risky, so here are a few key risks to consider before placing them:

1. Leverage – Leverage is a tool synonymous with spread betting to take advantage of smaller market movements. It can boost your wins or intensify your losses, so it is important to realise this risk early on. Fortunately, most spread betting firms offer balance protection to help you avoid having a negative balance if the markets suddenly drop against you.
2. Interest rate risk – When central banks raise interest rates, your rollover fees will increase. This makes keeping a bet open for extended periods is more expensive.
3. Gambling risk – On a psychological level, by entering a stake size (instead of a contract size value), your stakes can seem small in comparison. For example, £1 stake size per point vs. 1,000 shares bought. This can lead to you increasing your stake size to chase losses.
4. Over-trading risk – Spread betting makes it easy and fast to enter the markets, which works great in your favour if you are trading well. But if you don’t, it can become a gateway to over-trading, where you can trade to chase your losses. Instead, take a break and try again the next day.

Best Brokers For Spread Betting In UK

As spread betting accounts are only available to residents of the UK and Ireland, all brokers offering this style of trading are regulated by the Financial Conduct Authority (FCA). Most spread betting providers offer spread betting and CFD trading, although pricing, market access, and trading platform options vary between brokers.

You can view our full best spread betting brokers page with a summary below:

• Pepperstone is an excellent option for spread betting or CFD trading, with tight no-commission spreads, excellent trading tools, and no minimum deposit.
• OANDA is ideal for beginner traders who want an easy-to-use trading platform and a good range of CFDs.
• IG is an excellent option with the largest spread betting markets available.
• City Index is good for beginner spread betters with premium order types for risk management.
• CMC Markets is a well-established spread betting and CFD broker with over 9,500 financial instruments to spread bet.
• Spreadex is the only broker to offer sports and financial spread betting along with CFD trading. We like their spread betting app.

Overall, ensure the spread betting broker is FCA regulated and understand if they allow you to trade the instruments you are interested in. For example, only some brokers allow FTSE spread betting, while others specialise in more exotic forex pairs.

What Is CFD Trading?

A contract for difference (CFD) is a derivative product that lets you speculate on whether an asset’s price will rise or fall in the short term. When CFD trading, you are not purchasing the underlying asset but instead taking out contracts (sold to you by the broker) at a specific price (based on the underlying instrument’s price.

With each CFD, you set the size of the contract of how many units of the underlying asset you want to buy or sell. Each unit is expressed as a lot (which is 100,000) and sometimes as mini lots (10,000) or micro lots (1000).

When it comes to closing the trade, you sell the contracts back to the broker. Your profit (or loss) is the difference in price between the open and closed price of the underlying asset, hence the name “contract for difference”.

You can develop trading strategies that include CFDs derived from various asset classes, ranging from forex to shares and commodities. Until recently, UK brokers could offer cryptocurrency CFDs like Bitcoin, yet the FCA recently banned retail traders from accessing cryptos due to the high risk and volatility.

Example Of A CFD Trade

You’ve analysed TESCO (TSCO) and think they could have an uplift in sales in the next quarter. You want to purchase 10,000 shares of TSCO at 200p (£2 per share), which has a nominal value of £20,000. CFDs offer you 1:10 leverage, allowing you to open this position using £2,000 in margin.

A couple of weeks pass, and TESCO shares are now worth 240p (£2.40 per share), giving you a 40p profit per share. You are happy with the profit and feel you’ve captured most of the trend, so decide to close the position.

In this example, you have made 40p x 10,000 TESCO shares, which is £4,000 profit. Thanks to leverage, this movement has had a 200% ROI on your initial investment of £2,000 before costs and taxes.

I think this example also highlights the benefits of CFDs because if you bought the shares outright, you would have had to spend £20,000 to get £4,000 profit, netting a 20% return before paying stamp duty and capital gains tax.

Risks Of CFDs

Trading CFDs brings inherent risks like all financial products, and there are a few underlying risks you should understand before trading them:

1.  Leverage – Traders are attracted to CFDs as it has access to leverage that can amplify your returns (as well as accelerate your losses). Your losses can exceed deposits, which means you would owe the broker money unless the broker offers balance protection.
2. Currency risk – because CFDs are traded in the currency of the asset (e.g. US shares are in USD), if the currency’s price gets stronger against the GBP, your profits may dwindle or could even increase your losses.
3. Interest rate risk – i if central banks increase the interest rates, then this impacts your rollover fees and increases the costs of maintaining a position open for longer periods.
4. Over-trading risk – Because of leverage, 24-hour trading, and fast execution speeds, traders can place trades with little effort easily, and if you are chasing losses, this can easily wipe your account.

Although some of the risks above are out of your control, it is essential for you to understand the risks associated with them and have sound risk management. I highlighted overtrading as a risk if you are a beginner because I know how easy it is to start entering and exiting trades out of boredom or chasing losses.

I’d recommend limiting how many daily trades you do on a live account, maybe one or two, and then switching back to your demo to continue practising.

Risk Management Strategies for CFDs

Trading CFDs involves leverage on top of what is often a highly volatile financial instrument. The FCA themselves declare CFDs to be high-risk products, so you must have a plan for managing risks when trading them.

A good risk management plan includes:

How much will you risk on a trade? This could be a percentage of your capital or a set dollar amount. It should be an amount you can lose, and you’ll still be okay and able to pay your expenses.

Where you’ll set your stop-loss. A stop-loss takes you out of a losing trade automatically. You might consider placing your stop-loss at a level that invalidates the logic that made you place your trade in the first place, for example, above or below a key price swing.

How you’ll handle profitable trades. When you have a profitable trade, you still need to have a point where you’ll exit the trade and not let it eventually become a loss. You might elect to have a trailing stop-loss or a set profit target level that you’ve selected when entering the trade.

Best Brokers For CFDs In UK

When it comes to CFD trading, a vast number of brokers are available that offer retail trading accounts. When searching for the best UK regulated forex broker, it’s vital to assess the pricing structure, trading platforms, risk management tools, and CFD products a broker offers. We found the best brokers offering CFD trading platforms are:

• Pepperstone is the best broker overall, with ultra-tight spreads from 0.0 pips and the best trading platforms worldwide (MetaTrader 4, MetaTrader 5, and cTrader).
• IC Markets provides an ECN trading environment with low spreads and a diverse selection of CFDs.
• Markets.com has competitive no-commission spreads plus top trading tools on its proprietary trading platform, Marketsx.
• Plus500 is a good option for beginner traders who require a simple pricing structure and strong risk management tools.
• eToro provides access to a social-copy trading network with account mirroring features.

Margin Available In The UK

You require a margin to open and maintain your spread betting and CFD trading positions. The margin allows you to borrow from your broker to use leverage to trade and take control of larger trade sizes without having to fund the position fully. Margin is what makes trading more accessible to traders with smaller accounts.

To open a trade, you must meet the initial margin requirements, a percentage of the total value of the position you are opening. For example, if you want to open a £10,000 position, the broker may want you to have an initial margin of £1,000 (or 10% of the total position) to open the trade.

While in an open position, you must keep the margin at a “maintenance margin” level because if the markets move against you, your account value could drop below the maintenance margin level. This is when you get the dreaded margin call, where the broker will request you to deposit more funds, or they will automatically start partially closing your position to recover the margin required.

Is spread betting or CFD trading right for me?

Now you know the differences between spread betting and forex trading CFDs, the most crucial choice is to choose the method that suits you. If you are still undecided, I’ve provided thoughts on what I believe each product is more suitable for:

1. Spread Betting is best for

I think that spread betting is best for beginners because it has the most straightforward execution and management of trading. Understanding how much you will profit or lose through the staking system is easier. I like how you just put in how much you want to stake for every 1 point the asset moves, which is how much you will profit or lose. Compared with CFDs, you input how many lots you want to trade, which can be confusing if you have just started.

In addition, you don’t have to worry about tax liabilities because spread betting profits are exempt from CGTs. Nor do you have to worry about currency risk when trading international products because you trade all international products in GBP/EUR, protecting you from currency fluctuations.

No matter which product you choose, you can use the same strategies with spread betting and CFDs.

2. CFD trading is best for

I find that CFDs are best if you prefer to control your trading fees, as you can get much tighter spreads with low commissions by trading CFDs, especially if you are a high-volume trader. Alternatively, if you use Direct Market Access (DMA) to trade order flows, CFDs are the obvious choice, as these are not available with spread betting products.

If you are worried about paying the extra tax, don’t forget you can offset your CFD losses, reducing your tax liability.

Direct Market Access (DMA):
Some brokers offer Direct Market Access that shows you all currently open and pending orders at different price points on the exchange, enabling you to see how many orders are available.

If you are worried about paying the extra tax, don’t forget you can offset your CFD losses, reducing your tax liability.

FAQs

Are CFDs Allowed In the UK?

Yes, CFDs are allowed in the UK, and many UK brokers provide access to an extensive range of CFD products (from stocks to forex) for you to trade.

Is Spread Betting Tax-Free In The UK?

Spread betting is tax-free in the UK, meaning it is exempt from stamp duty and capital gains tax.

What are DFBs?

DFBs is an abbreviation for Daily Funded Bets and is the more popular type of spread bet available. It’s called a daily funded bet because the product is rolled over each night, and interest is charged. DFBs are typically used for short-term trades with lower spreads but higher rollover fees. If you want to trade longer periods, you can bet the quarterly or forward bets with wider spreads but cheaper rollover fees.

Why do spread betting and CFD forex prices look different?

Both prices are derivatives of the same asset but there are a couple of reasons why the prices may differ. The main reason is you are getting two different prices from different liquidity providers. Another reason could be that the pricing structure of the CFD is commission-based with tighter spreads, where you could get prices at zero spreads while the spread betting price will have a wider spread (and pay no commission).

How Do I Get Started?

Whether you are spread betting or CFD trading, your first step if you are a beginner is to sign up for a demo account. Demo accounts allow you to practise trading financial markets with no risk of losing money, providing an excellent environment to build confidence and find a broker that suits your trading needs. As both trading styles involve margined products, demo accounts are a great risk management tool, allowing you to practise and optimise trading strategies without the high risk of live trading.

View our how-to-spread bet page to learn more about this type of trading and get started.

Key Learnings

• You will have learned the difference between CFDs and spread betting, understanding which may be most suitable for you.
• Understand what spread betting is, its tax benefits, and its risks.
• You’ll have learned what CFD trading is and its risks
• Developed an understanding of risk management strategies you can use for both derivatives.