The majority of those who start in the world of investing have a lot of doubts. Something normal if we consider the huge amount of possibilities present in the financial markets.
Hence a lot of people end up overwhelmed and end up choosing the worst option, because normally they look quite good.
That is why people open so many accounts in binary options, Forex, futures or CFDs without knowing very well what those markets are about, but actually thinking that they do.
They are quite wrong.
When people are interested in trading stocks they realize that they can find different assets to do so, like CFDs, binary options, vanilla options, warrants or futures.
As you can see there are many ways, at least in most of the World. American traders cannot trade CFDs, for example.
Here, however, I will talk about the differences between traditional stocks and CFDs.
Stocks are the favourite instruments of many people when they want to do trading or investing, not without a reason because these assets are the ones with more possibilities and potential.
Currencies, bonds or commodities are much more limited, roughly some hundreds of instruments, and many of them not volatile enough, so to speak.
Traditional stocks and CFDs differences
First of all, stocks CFDs are not efficient for investing in the long-term because for that we have the traditional stocks and we should not leverage for investing.
With CFDs with can leverage our positions up to 10 to 1, normally.
Imagine the purchasing power you can have by buying Apple stocks with a 10 to 1 leverage.
If Apple stocks rise 10% you would make 100% profit and if they fall 10% we lose all.
The potential of profit and loss is very big.
Of course it is not recommendable to try that because it may work well just temporarily in a bull market and eventually you can lose all when the market falls.
This is what we can do with CFDs.
With traditional stocks we can normally count on our own purchasing power with some occasional broker allowing us to leverage 2 to 1 perhaps but it is not the norm.
The norm is that stock CFDs have 10:1 leverage while traditional stocks only 1:1.
Difference in prices between stocks CFDs and traditional stocks
Another fundamental difference is that of the price we get when we trade.
In many CFD providers we will trade an “in house” price, in other words they will have as a reference the price of the stock in the official market, for example Siemens as it is quoting in the German market and later they add some extra spread or some “small” variation to the original price, depending on the CFD Broker “liquidity providers”.
Some CFD brokers offer us better prices than others, being closer to what the real market is, trying that the CFD price is closer to the stock one.
However, we have to know that in CFDs we will always be dealing with some sort of synthetic prices, not the real ones.
Selling short with CFDs
The other fundamental difference with traditional stocks and one the defenders of CFDs use the most is the fact that with them we can trade the short side of the market in the same conditions that the long side.
In other words, that we will not only be able to leverage 10 to 1 but we will also be able to bet that the stock will fall, using as much as 10 to 1 leverage.
It seems a great advantage that the skilled traders of the market can use.
It s true that the traditional stocks do not offer us that kind of operation as a general rule. We will only be able to short stocks in some brokers and never with leverage.
The general rule is that we will be able to short stocks with CFDs and not with traditional ones.
Therefore with CFDs will be easier to win when the market rises and when the market falls.
Well, the truth is that trying to win using short-selling techniques is one of the most complicated endeavours in the financial markets
As Hugh Hendry said once: selling short is a very precarious market.
In any case it would be better to try to be short the indexes since they move more “quietly”, so to speak.
In fact, one of the best trades I made was shorting the stock indexes in 2008, although that is another story.
The fact is that it is very difficult to win consistently selling stocks short.
Stock CFDs day trading?
In many cases there is the possibility of leveraging more than 10 to 1 with some brokers that allow that in the intraday markets.
However this is a type of trading that you will only be able to do with some sort of efficiency in the stocks with more volume and with a better intraday spread.
In the majority of the rest of CFDs this will not be possible since the spread can well be close to 0.2% of the stock price, something that makes intraday trading almost a suicide, although many people do not even look at these things.
As I have said before, day trading is not the best alternative when it comes to trading, especially in stocks with that limited spread. In this case we can find better conditions for day trading in futures or Forex, which does not mean it is recommendable anyway.
Therefore, for stock CFD trading, it is better to use a medium-term approach, which is not intraday or long-term, that allows us to do a quieter trading than the intraday ones and more dynamic than the long-term.
Doing so we can have some interesting opportunities trading stock CFDs with some of the numerous trading techniques.
The advantage with respect to traditional stocks is that we will be able to use some leverage to make the most of our trading.
The best the majority of people should do is, nonetheless, long-term investing since trading is quite complicated.
Emotions are very difficult to master in investing and much more difficult to do in trading.
Therefore considering traditional stocks and CFDs we have:
- Long-term investing: traditional stocks
- Medium-term trading: CFDs or traditional stocks
- Day trading: it is better if you do not do that, honestly
What do you think is the best alternative?