Contracts for Difference or CFDs and futures contracts are the tools that enable you to speculate on the price of any cryptocurrency without actually buying the coins, leading to increasing your investments. In this article, you will explain CFDs, what they are and how they work, and the difference between them and the futures.
CFD Trading: in a nutshell
Trading futures and trading CFDs are the features that allow you either to profit or lose money from cryptocurrency price fluctuations. Basically, what you do is you are betting on cryptocurrency’s price, just like in any casino game.
Even though CFDs and futures might seem alike, they are actually quite distinct from one another and have some unique features that I will state later in the section “CFDs vs. futures.” I will also present to you CFD broker systems, such as eToro, Binance, Plus500, and OKEx. However, I must state right away that you have to be careful with eToro since around 75% of its CFD accounts lose money when trading CFDs. So beware when choosing a trading platform.
That is pretty much all for CFDs in a nutshell. Further in this review, I will give you detailed information on:
- Futures Explained
- CFDs Explained
- CFDs vs Futures
- Best CFD and Futures Brokers
- Bottom line
1. Futures Explained
Futures are a financial instrument aimed at protecting futures traders from losing money rapidly due to how fast trading prices change. Many traders long for a steady income that is impossible to achieve when the prices constantly go up and down. And this is exactly the moment when futures CFDs come into play.
Trade futures contracts mean that according to this contract, you will buy something, cryptocurrency in our case, at a later date, at a specific price. Suppose you mine Bitcoin or Ethereum (or other crypto), and your income comes from mining Bitcoin or Ethereum and selling it on the cryptocurrency market. Even though it is fairly easy to guess an approximate amount of Ethereum you will mine within one month when we talk about transforming them into money, the problem becomes more visible: price volatility affects your planning. In this case, the best option would be to get a futures contract where you state that for a certain amount of Ethereum at a trading rate of X within the first month. When the 1st of the month arrives, you’ll settle this contract with your counterparty and receive your money.
A futures contract can be settled by actual physical delivery of the product or through cash settlement. The first one means that you send a certain amount of Ethereum to your buyer, and then you get the amount of money stated in the futures contract. The second option of the cash settlement underlies that the end price of your Ethereum will be estimated closer to the expiration date of the futures contract. If this amount is greater than the contract amount, it means that you lose potential income. This way, you will have to send your buyer the cash equivalent of the difference.
However, in the case when the price dropped, the risk management function of futures comes into play. In this case, it would mean that you have lowered the risks of losing your money, and your buyer loses them instead of you by sending you the cash equivalent of the difference. It does not matter what type of futures contract settlement you choose, and Ethereum never trades hands. Only cash does. And by implementing this trading strategy, you can easily predict what amount of fiat currency for the currency pairs you will get at the end of the month.
2. CFDs Explained
A Contract for Difference, or CFD for short, is financial services that are very similar to a future. In a CFD trading process, both parties, the buyer and the seller, agree to pay any difference as prices rise or fall in cash instead of through the delivery of physical goods. A CFD broker allows an investor to tap into the benefits and risks of cryptocurrency trading without having to own the coin itself physically.
Let’s continue with our example of trading Bitcoin or Ethereum (or other crypto) and see how CFD trading works.
First, suppose you know from a very reliable source that the price of Ethereum will rise in the near future, and you want to increase your invested capital this way as many CFD brokers do. For sure, you may go and buy Ethereum on your own. Still, sometimes it is not worth it, especially if you don’t have a verified account on any cryptocurrency exchange and am not sure how the exchange commission is calculated. That is why in this case, instead of buying coins of Ethereum or even a future contract that would require the future delivery of the Ethereum, you could purchase an Ethereum CFD.
In this arrangement, you (investor) and the seller (retail investor) of the contract would agree to settle any rise or drop in prices in cash when the expiration dates come close. If your source was correct about the rise in Ethereum’s price, you will be paid the difference between the current price and the price when the seller purchased the contract. Meaning that retail investor accounts lose money when trading CFDs.
On the other hand, if your intuition turns out to be incorrect and prices don’t go as you expected, you will have to pay the difference. In a certain sense, this is essentially betting on whether or not prices will rise or drop.
Because of how simple it is to execute a CFD trade, Contracts for Differences are very popular among traders and numerous different brokerage firms.
3. CFDs vs. Futures
For many futures traders, there seems to be little difference between CFDs and futures contracts. However, there are quite prominent features that are unique for each type of these underlying assets:
Let’s start with expiry dates. Most futures contracts have them, whereas CFDs do not. What it means is that when you are doing CFD trading, there is no need to get rid of CFD on a certain date. There is no fixed expiry date. When CFD traders want to liquidate it, the price difference will be calculated, and depending on the market, either the trader pays the difference or the CFD broker.
Moreover, CFDs do not have opening and closing prices in comparison to futures contracts. Trading futures requires a higher minimum commitment, and you usually have to trade large sums of cryptocurrency. This is due to the fact that the futures market is meant to be used by institutional investors.
I should also mention that futures trading happens at the open futures markets where the order book is visible to all. This gives market participants an opportunity to find the places where they are free of the high risk of losing part of their or entire investment. Whereas in the case of CFD, CFD brokers act as a market maker providing a single price that you are betting on.
One more difference between trading futures and CFD is that CFD trading has higher spreads than futures. This means that the difference between the opening and closing prices is higher due to the broker’s profit. Also, futures tend to charge you higher fees.
And lastly, even though CFD and futures have the same leverage benefits and a high risk of losing, there is a difference in how easy it is to open an account. A CFD account is way easier to open than a futures account since there are fewer regulations and you do not need a minimum capital to start trading.
4. Best CFD and Futures Brokers
Brokers provide investment advice to minimize the already high risk of losing money rapidly when you are doing futures trading. Some of them do not allow foreign exchange or require you to settle an odd expiration date. In this section, you will read about the most popular CFD and Futures brokers where you can trust your entire investment. All of them are different, but such distribution allows you to get service according to your needs.
- eToro CFDs
eToro is one of the biggest cryptocurrency exchange services. Aside from exchanging cryptocurrencies, eToro can also sell futures contracts and CFDs. If you want to try these complex instruments before you enter real life, eToro may give you access to a trial version with a demo account for $100,000. US users beware: you cannot buy or sell CFDs since they are considered illegal. For further reading on eToro, please look up my review over here.
- Binance Futures
September 2019 was a year where Binance, one of the main cryptocurrency investment banks, decided to open up a branch concerning futures, CFDs, called Binance Futures. This futures market allows you to trade for Bitcoin and more than twenty popular altcoins. Binance is an extremely popular platform for trading futures. Here, you can also trade CFDs. However, if you are a US citizen, you will not be able to use this exchange since it does not allow US traders.
- Plus500 Bitcoin CFDs
In 2008 the UK-registered company that goes by the name of Plus500 had entered the business for CFD trading and futures being the first broker to introduce a Bitcoin CFD a few years later (in 2013). The company is licensed by the Financial Conduct Authority (FRN 509902). You can use any underlying assets for futures trading as well as for CFD trading such as forex, stock indices, individual equities, commodities, cryptocurrencies, ETFs, and other options. The main advantage of this company is that you do not have to pay a fee for any of the trades you make with this execution-only service.
- Kraken Futures
Kraken is one of the few cryptocurrency exchanges that is based in the US and licensed in the UK. This particular exchange got its license from the Financial Conduct Authority (FCA), the UK’s primary financial regulatory body. Unfortunately, with Kraken Futures, you can trade just a few cryptocurrencies that include Ethereum, Litecoin, Bitcoin Cash, Ripple, and Bitcoin. This way, the futures market is a bit limited on the platform. If you want to know more, you can find my full Kraken review here.
- OKEx Futures
OKEx Futures is a quite young cryptocurrency trading platform with just 4 years of existence. But in spite of its young age, it has proven its robustness, and now it is one of the top exchanges in the sense of trading volume as well as providing many trading pairs. This Malta-based exchange has multiple advantages for futures contracts. First, you can invest in such cryptocurrencies as Bitcoin, Ethereum, Ripple, and Litecoin, as well as Tether. Second, there are no expiry dates for futures trading which is quite different from conventional futures contracts.
- CME Futures
Chicago Mercantile Exchange (CME) Group has a very big financial derivative section on its underlying market. An underlying market is sometimes also called an underlying asset. You can trade derivatives contracts based on many underlying markets, from an underlying commodity such as oil contract to gold contract to stock indices. The CME was the first company that started offering Bitcoin futures trading in 2017, which is regulated by the Commodity Futures Trading Commission (CFTC) and has an Australian Financial Services Licence.
However, since, in general, you cannot trade futures 24/7, CME opens its futures markets on Sundays till Fridays at 6 pm (EST) and closes each day at 5 pm (EST) with a short one-hour break at 5:00 pm (EST).
5. Bottom line
As you can see, even though CFDs and futures have many similar features, they are actually quite distinct. For example, futures trading requires you to settle an expiry date while you do not have to do so for CFDs. Futures trading is also limited by a maintenance break during the day and by the fact that the underlying asset or market is closed on Saturdays. These are complex financial instruments that are only recommended to use by experienced traders. That is why I personally recommend beginners avoid futures trading while they get used to terminology (such as “underlying asset”) and market movements.
What are CFD and futures?
Contracts for difference (CFD) and futures are complex instruments that enable you to multiply your investments rapidly. However, there is always a chance that you can lose your money.
Why is CFD illegal?
CFD trading is banned in some countries due to their high liquidity and open settlement date, and the absence of regulations for them.
What is a CFD in trading?
CFD is a contract for difference that allows you to speculate on dropping prices for cryptocurrencies on the crypto market.
Are CFDs bad?
The only bad thing about CFDs is that they are highly volatile and that there are almost no regulations to them that put you and your investment at even higher risk as it is when you are dealing with cryptocurrencies.
Why are CFDs illegal in the U.S.?
The main reason why CFDs may be considered illegal due to local law restrictions in the US, as well as the absence of regulations for them.