What Is The Difference Between CFD and Forex?
CFD stands for Contract for difference and has a lot of commonalities with Forex. However, there are also many differences. Both can be used to speculate on assets. Investors who are familiar with both can use the one that suits them best for their objectives. Some traders even choose to use both.
CFD is essentially a contract between a trader and a broker: they agree to exchange the difference between the entry and an exit price of a specific asset. They can be used to speculate on the foreign exchange markets, assets like oil and metals, or they can be used as an addition to other instruments like indices.
When trading a CFD, the investor has the freedom to choose what type of asset he will trade, and the values he will use for that assets (entry, exit price and the asset amount). CFD profits and losses are determined by the difference between the entry and exit prices, multiplying that amount with the number of CFD units.
While CFD looks complicated at first, Forex is much more straightforward. With Forex you essentially trade different currencies against each other. The Forex market is one of the largest markets for investors and it has a volume of more than $5 trillion.
So, what separates CFDs and Forex?
There are a couple of obvious distinctions between CFDs and Forex. As previously mentioned, CFDs are more flexible as they offer a variety of contracts that include many currencies as well as increment values. Another significant distinction between the two is the way their price is determined. The CFDs’ price is mostly dependent on the supply and demand of the traded asset. On the other hand, when looking at Forex, the currency price is determined by the fundamental factors. These are the strength of economic indicators, government policies, world events, etc…
Another notable difference is the availability of trades. Forex markets are available 24 hours a day, 5 days a week, while CFDs trading times depend on the underlying assets.
CFDs and Forex Commonalities
First of all, CFDs and Forex are usually traded on the same platforms. This has led service providers to almost always offer both options to traders – CFDs and Forex. One of the most popular CFD trading platforms is Plus500. You can read the full review of Plus500 here.
Another thing both have in common is they don’t deal with physical assets. CFDs and Forex are traded over the counter (OTC). This means their exchange is decentralized and happens via a network of financial institutions. Furthermore, both CFDs and Forex have a trading cost that is based on the spread (at least to some extent). The spread is the difference between entry and exit points.
When looking at leverage, CFDs and forex allow using the margin. When trading CFDs, traders can use the margin stated in a fixed percentage. So if a contract has a margin of 15%, a trader can deposit 15% of the contract’s market position and borrow the rest. With Forex, the margin is usually used as a ration. It is expressed as 1:5, 1:10, etc… For example, a margin of 1:10 would mean that a trader can enter into $10 worth of trades for every $ in their account.
Even though CFDs and Forex share many commonalities, they also differ in a couple of key aspects. Knowing what makes them different, and the way they are used, the investors can make better trading decisions and include them in their trading strategy.