Trading CFD vs Forex: Insurances and Safety Measures for Investors in 2020

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Updated: 04 March 2020

Is there a real difference between the markets for Forex currency trading and CFD? Should you trade both with a reliable broker or choose one that seems just right for you? Are the various trading platforms all easy to use or might you run into problems with clumsy interfaces? Check out this comprehensive overview of your options that highlights what you need to know to select your very best trading strategies. While CFD vs Forex share many similarities, in the end, your preferred trading techniques will help you decide what will work best for you.

  • Check out the comprehensive CFD vs Forex guide
  • Understand how both markets really work
  • Check the broker comparison to see the best deals
  • Make an informed choice

Advantages of Forex

Forex trading is often the starting point for many new investors. This is because the way in which the market functions, the techniques involved and the strategies traders can pursue are considered to be relatively easy to understand and also to manage. Among the acknowledged advantages, for example, are:

  • Ability to scale – This refers to the fact that most brokers will allow you to trade micro, mini and full sized lots, which means you can start trading at a level with which you’re most comfortable.
  • Free trading data and software – Besides demo accounts, which include the provision of virtual funds, most brokers offer free charting and trading software so that you can follow the markets, including free real-time Forex data.
  • Free web resources – These resources include information about recommended brokers, financial calculators, a range of educational materials, suggested manual strategies and appropriate software.
  • High trading leverage – A big plus for many Forex traders is that brokers will allow them to take trades with up to 50:1 margin.
  • Low fees or no fees – Instead of charging commissions on Forex trades, most brokers take the spread between the bids and ask on the buy side.

These features often represent a tempting opportunity for potential new investors and can encourage existing investors to try something new.

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Advantages and Disadvantages of CFD

A contract for differences, or CFD, is a tradable contract between you, as the client, and your broker. Normally, you will be exchanging the difference in the current value of a commodity, currency, share or index and that same item’s value at the end of the contract. In a way, the differences in price are similar to physical goods or services that might be supplied to you in return for cash. The arrangement with your broker is made in a futures contract, and both gains and losses are paid in cash. A CFD provides you, as an investor, with the same risks and benefits you might get from owning an asset, except you don’t actually own it. It’s not difficult to understand the pros and cons of a CFD.

On the one hand, it provides higher leverage than mechanisms used in traditional trading. This may be as low as a requirement for a 2% margin or as high as one for 20%. There are no restrictions about minimum capital outlay and no limits on trades per day. Often, only a modest amount is required to open an account. You may receive cash dividends and other benefits, increasing your return on investments. However, the CFD industry is not highly regulated, and the credibility of a broker depends on reputation. Small moves do not usually result in profit from entries and exits, and a CFD is not a suitable vehicle for long-term positions or buy-and-hold trading.

Disadvantages of Forex – Why They Matter

There are a lot of good things to be said for Forex trading – it’s relatively easy to understand, especially for new market traders. However, it makes sense to be aware of some of the disadvantages associated with Forex trading. Here are a few considerations:

  • As Forex has no centralised exchange, this can lead to problems with unscrupulous dealers, so it’s important to select a reputable broker for all your Forex transactions.
  • Large scale institutions are highly competitive, and their aggressive trading can put many smaller traders at a disadvantage. For this reason, it’s important to always pay attention to developing a solid trading strategy with a reliable broker.
  • Trading around the clock, like some other ‘advantages’, can also be a disadvantage, as letting go can become an issue for a trader. The best advice is to aim to trade at optimal times for your markets and your geographical location.
  • Remember to proceed carefully when choosing your preferred software, as there are a number of scams out there at any one time, so you should proceed carefully, taking sound advice from wherever you can.
  • While high leverage can be very advantageous, remember that it is also high risk, and adjust your trading strategies accordingly.

By keeping these disadvantages in mind, you will be better equipped to start your journey as a new investor.

Insurances and Safety Measures – Why Do You Need Them?

Every investor and broker knows that leveraged trading in foreign currency, CFD or other off-exchange products can carry a high level of risk. For this reason, they may not be suitable for everyone. Before trading, brokers generally advise investors about the relevant risk disclosures, which are published in detail on brokers’ websites. Generally, these risks are economic, legal and technical. The risk disclosure statements warn that you, as an investor, are in danger of losing all of your initial funds. Good brokers will advise you to consider your own personal circumstances when deciding whether trading leveraged products is appropriate.

They should also recommend that you seek independent financial advice and ensure that you fully understand all the risks involved before trading. Trading through an online platform carries additional risks, and good brokers will set these out in detail so that traders are informed before committing to investments. They might include, for instance, failure of your communication systems, including inadequate broadband speeds and breakdown of computer facilities. Trading software may also malfunction at a number of points in your trading system, including when operated by your broker, an exchange or yourself. For this reason, most traders investigate and verify the safety measures in place to protect them and explore and implement the levels of insurances most appropriate to their trading strategies. Every trader behaves differently, so investors need to be aware of the level of risk attached to their preferred business activity.

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What’s Available in Insurances and Safety Measures

Some insurance companies offer insurance for financial trading against any or all financial losses. However, if you’re a new investor, you may be expected to trade successfully for at least 12 months before your insurance takes effect. This means you’ll have to rely on your own financial resources for your first year of trading. You should therefore fully understand the mechanisms of how financial trading functions and undertake analyses carefully and with due diligence. This will help you to make sure your predictions about foreign exchange rate changes or CFD stay accurate, within reasonable parameters. Try to choose a trading strategy to maximise profit when you make successful predictions and minimise losses when you fail to do so.

There are also several safety measures you can make good use of when trading. For example, a stop-loss order, also referred to as a stop order or stop-market order, provides a kind of safety net. Essentially, it removes the emotional aspect from your trading decisions. It can also be handy if you are on holiday or unable to monitor your trading position. There’s also a trailing stop, which is a type of stop loss order that can also protect your profits or follow a stock’s rising price. This is a good strategy for new investors and those who have some limited experience, particularly if you wish to protect a profit but let a winning investment keep going for as long as possible.

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How to Decide on the Best Broker

There’s a lot of competition among brokers, so it’s useful to have a good idea of which are the most important features when you’re trying to find one. When searching online or taking advice from experienced colleagues, look out for these Forex broker attributes:

  • Check where the broker is regulated. For instance, the FCA regulates brokers in the UK, and the ASIC regulates those in Australia.
  • Verify the quality of the web trading platforms offered – independent reviews should give you an honest appraisal.
  • Make sure commissions or spreads are low, and look for any hidden fees charged on withdrawals, etc.

Since CFD trading differs from Forex, there are some additional elements to consider. As with Forex brokers, you need to consider the cost of trading. However, you should also look at a broker’s trust score – look for a score of AAA and you’ll know you have selected a highly reliable broker. In addition, consider how the broker rates in terms of the range of platforms provided and the number of trading instruments available. Does the company allow hedging and provide 24/7 customer service in a number of different languages? Are there tight spreads (say from 0.70 pips) and good leverage (say up to 1:400)? The better brokers will probably be suitable for different kinds of trading, for example Forex as well as CFD, and possibly also social trading and spread betting.

Are Some Brokers Better at CFD and Some Better at Forex?

No matter what kind of investments you decide to pursue, you’ll soon find that some brokers handle both and are considered to be among the top providers. Examples include AvaTrade, XTB and City Index. Plus500 is a CFD specialist, while eToro offers CFD plus social trading. To make sense of your options, first decide what kind of investor you are. Usually, a trader doesn’t hold on to trades for a long time. If you’re seeking short-term gains based on price volatility, you might wish to make lots of trades during a short time. If this sounds like you, it may be best to look for a broker with low execution fees, as your returns will quickly be consumed if trading fees are high.

Remember that active trading takes experience, and you are more likely to get negative results if you trade frequently and are a new inexperienced investor. If you consider yourself to be a more passive investor – that is, someone who’s content to hold stocks for some considerable time – then you’re considered to be a ‘buy and hold’ investor. These long-term investors are happy to let the value of their positions appreciate over time so that they can reap the benefits later. In this case, you should seek out brokers who don’t charge monthly fees. Instead, long-term investors often do better with a broker that is charging a trade commission that is higher than others.

CFD vs Forex: Which Way Should you Jump?

To make an informed decision about the relative merits of CFD vs Forex, you need to thoroughly understand how the markets function. You also need to be conscious of your level of risk and how to mitigate it. Beyond that, the solution lies in acknowledging your trading preferences and even your trading ‘personality.’ The advantages and disadvantages of CFD and Forex are clear, but it’s no accident that most new investors gravitate towards Forex, as the market is relatively easy to understand and negotiate. However, if you have been investing in a range of stocks or trading at various levels for some time, you may want to try your hand at different options, which is why CFD may be of interest. In the end, it takes thorough research and a genuine and honest appraisal of your personal trading style to reach a valid conclusion.