The following article on CFDs vs Futures is the opinion of Optimus Futures.
When it comes to trading commodities or stock indices, traders outside of the US have the choice of trading futures or Contracts for Difference (aka, CFDs).
Both are derivatives that allow you to trade the underlying assets without owning them outright. Both offer high leverage*, which allows you to take advantage of small price movements. Both are favorable instruments for day trading or swing trading, unlike ETFs, whose rules and regulations may be more geared toward longer-term investing.
It seems as if both offer you the same advantages that it’s simply a matter of choosing one or the other. But that’s not the case.
There are huge differences in terms of the way each asset type is structured. While both provide similar advantages, they don’t hold exactly the same risks. And perhaps, the risks should be the determining factor as to whether you’d prefer trading futures or CFDs. Let’s explore both.
Market Structure
As you know futures contracts allow you to speculate on the future value of an underlying commodity or index. These contracts traded on regulated exchanges offer standardization and transparency.
Similarly, CFDs also allow you to speculate on the price movement of an underlying commodity or index. But unlike futures, CFDs don’t trade on an exchange. Instead, you’re trading with a liquidity provider who, in turn, may hedge their position on an actual exchange.
This means CFD liquidity providers can present different prices for each instrument, which is why CFD prices often differ from one liquidity provider to the next.
Regulation
Futures trading is closely monitored by government agencies like the Commodity Futures Trading Commission (CFTC) in the US. This adds an extra layer of protection for traders. Furthermore, regulated exchanges act as a clearinghouse for all trades, significantly reducing counterparty risk (where the party on the other side of your trade can’t pay your gains) since the exchange itself guarantees the performance of the contracts.
CFDs, on the other hand, are Over-the-Counter (OTC) products that are issued by liquidity providers. Hence, they are not subject to the same level of regulatory oversight as futures. While some jurisdictions have implemented regulations to protect CFD traders, these measures are often less stringent than those governing futures markets. As a result, traders are more exposed to the financial health and practices of their broker.
If a liquidity provider goes bust, in other words, you may not be able to recover your funds, let alone any gains you may have made. This leaves you exposed to the possibility of sustaining significant financial losses.
Costs and Fees
The cost of trading futures is transparent. Your broker will tell you exactly what you’re paying, and the fees are often stated in your return. The costs are typically comprised of the following in one lump sum:
- Broker commission
- Exchange fees
- NFA fees
- Any miscellaneous platform or technology fees
CFD costs, on the other hand, are not always transparent. CFD brokers often have to incorporate their profit margins into the spread, the difference between the buy and sell price.
This spread can sometimes be wider than that found in futures markets, not only because of market liquidity but also because your provider needs to get paid. But unlike futures, these costs are dynamic and can change unpredictably.
In addition to this, CFD liquidity providers may charge overnight financing fees for positions held beyond a single trading day, further eroding profits or deepening losses.
Ultimately, these hidden costs can make CFDs more expensive to trade than they might initially appears and you should be aware of how this can negatively impact your overall profitability.
CFDs vs Futures: Which Is the Better Choice?
When comparing CFDs vs futures, it’s clear that futures trading offers several advantages, especially if you’re seeking a more transparent, regulated, and potentially less risky environment. Here’s why futures trading comes out on top:
- Regulation and Transparency: Futures trade on regulated exchanges, giving you a level of transparency and protection that CFDs can’t deliver.
- Counterparty Risk: With futures, the exchange has your back as the counterparty, lowering the risk of default. With CFDs, you’re relying on your broker’s financial health since they’re the counterparty in the trade.
- Leverage* and Margin: While both offer leverage*, futures generally have stricter margin requirements which can tighten up when markets get more volatile. This potentially reduces your risk of carrying over-leveraged positions. Still, leverage is risky, so you have to remain cautious (with both futures and CFDs).
- Costs: Futures trading generally means lower costs with fewer surprises. On the other hand, CFD brokers can change the costs through spreads.
Comparison in a Nutshell
| Comparison Criteria | Futures | CFDs |
| What are you buying? | Contracts for future delivery of assets | Lots representing the price movements of an underlying asset |
| How long can you hold it? | Until contract expiration | Indefinitely (with rollover) |
| What can you trade? | Commodities, indexes, currencies, etc. | Commodities and indexes |
| Leverage* | Varies, typically 10:1 to 30:1 | Similar to futures, but some brokers will go as high as 100:1 or more |
| Risks | Market volatility, margin calls | Market volatility, margin calls, and counterparty risk |
| Who are you trading with? | Market participants via a centralized exchange | Liquidity providers (e.g. market makers) |
| Regulation | Regulated by CFTC in the US | Less regulated, varies by country |
| Price Transparency | Very high | Price varies according to the liquidity provider |
| Counterparty risk | Very low | Higher for CFDs depending on the broker |
The Bottom Line
While both allow you to trade the same underlying assets, CFDs come with much less transparency and potentially bigger risks. Relying on a broker as the liquidity provider, the lack of standardization and regulation, and hidden costs can make CFDs less appealing to some traders who seek basic protections.
Ultimately, it depends on your risk tolerance. But given the fact that markets are inherently risky as is, do you really want to take on additional risks presented by your CFD broker? Something to think about.
*There is a substantial risk of loss in futures trading. Past performance is not indicative of future results. The initial margin required is small compared to the futures contract’s value, making transactions ‘leveraged’ or ‘geared.’ A modest market movement will have a larger proportional impact on the funds you’ve deposited or will need to deposit; this can work for and against you. High leverage may result in deficits.
This article is part of our comprehensive “Versus Series,” where we compare futures trading with other popular financial instruments. To gain a fuller understanding of the trading landscape, be sure to explore the entire series:
- Futures vs Stocks
- Futures vs Stock Options
- Futures vs Forex
- Futures vs Crypto
- Futures vs CFDs
- Futures vs Index ETFs
Each comparison offers unique insights that can help you make more informed trading decisions. Don’t miss out on this valuable knowledge – read the full series today!
