CFDs are contracts between a trader and a broker to exchange the difference in an asset’s value between the opening and closing positions.
Options give traders the right, but not the obligation, to buy or sell an asset at a fixed price.
Both CFDs and options are derivatives – i.e., they derive their value from an underlying asset.
Contracts for difference (CFDs) are agreements between a buyer and seller to exchange the difference in value of an underlying asset, while options give the buyer the right, but not the obligation, to buy or sell an asset at a fixed price.
Options are most associated with stocks and stock indices, though they can also be used with other assets. There are two types of options: a call option (to buy) and a put option (to sell). You can buy or sell both calls and puts.
| Call options | Put options |
| You purchase the right to buy at a specific price, known as a strike price, on or before a set date. | The buyer has the right to sell a stock at a fixed price within a set timeframe. |
| As a buyer you are hoping the stock increases, as a vendor you are hoping it won’t. | As a buyer you’re hoping the price decreases, as a vendor you’re hoping it won’t. |
| When selling a call option – also known as a covered call, you agree to sell the stock at that price to the buyer – if they decide to exercise their option. | If you’re selling a put option, you agree to buy the underlying stock at the agreed-upon price if the investor who purchased the option exercises it. |
CFDs vs options
| CFDs | Option contracts | |
| Type of instrument | Derivative | Derivative |
| Allow going short | Yes | Yes |
| Allow leverage | Yes | Yes |
| Trade size | Based on the number of contracts taken out | Standardised lot size |
| Locations available | Banned in US, Belgium and Brazil | Globally |
| Exchanges to trade on | CFD trading brokers or trading platforms | Options-trading platforms |
| Tax implications in the UK | Subject to local tax jurisdiction* | UK capital gains tax* |
| Additional costs and fees | Varies from broker to broker | Varies |
| Underlying asset classes | Forex, indices, stocks, commodities, interest rates, ETFs, and more | Forex, indices, stocks, commodities, ETFs and more |
*Tax treatment depends on individual circumstances and can change, or may differ in a jurisdiction other than the UK.
Financial derivatives: CFDs and options are both derivatives, meaning they derive their value from an underlying asset. They are contracts between two or more parties.
Speculation: CFDs and options allow traders to speculate on the price movement of an asset without physically buying or owning it. Both types of instruments are used to go long or short on an asset’s price.
Variation in asset classes: Both instruments allow for a wide range of markets and asset classes as underlying security.
Leverage: CFDs and options are traded with leverage. With CFDs leverage is given by the broker, and with options it is built into the product. Remember that while leverage can magnify profits, it can also magnify losses, making it important to have a risk management strategy in place.
Fixed price vs variation in price: With an option, you’re buying or selling the right (but not the obligation) to trade an asset at a fixed price. With CFD trading, you’re agreeing to exchange the variation in the price of an asset from when you open your position to when you close it.
OTC vs exchanges: CFDs are OTC products, meaning they are not traded on a stock exchange but through a broker. The majority of options, on the other hand, are traded on exchanges. Note that some options can be traded between private parties – these are called OTC options.
Possibility of ownership of the underlying asset: CFDs do not give you the possibility to own the underlying assets, but options do. You can choose to exercise your rights under a call option to acquire the underlying asset.
Expiry date: Spot CFDs have no expiry dates, but options do.
Transparency level: Options are complex financial products, with their prices derived from multiple factors. Different types of options can be combined to create advanced trading strategies. CFDs can be considered more transparent, as their prices move one-for-one with the underlying market.
Risks involved: Buying call and put options limits your potential risk to the price you paid for the premium, whereas CFDs expose you to the risk of increased losses as the market moves against you. Note that selling calls and puts does not completely negate all risk.
CFD trading gives you access to a broader range of markets. With just one account you can trade CFDs in a variety of asset classes, such as cryptocurrencies, forex, equities and commodities.
Through financial leverage, traders are able to trade with just a small initial deposit. However, traders should keep in mind that leverage magnifies profits and losses.
With the opportunity to make bigger gains comes the higher risk of loss. Volatility in markets can affect profits, quickly turning a winning position into a losing one. Risk protections, such as stop losses, guaranteed stop losses – which come with a fee and don’t have the risk of slippage – and hedging, can be useful in these cases.
Leverage in CFD trading may be beneficial but it comes with risks and even small price movements could put a trader’s funds at risk. Traders can manage their risk with basic and guaranteed stop-losses and take-profit orders.
Traders do not pay income tax* or national insurance contributions on the difference between what they pay for the option and the underlying market’s original worth.
Options trading can give the trader the opportunity to gain a very large exposure with only a small capital outlay. It should be noted that this could also be a risk, despite being able to make a profit, traders could also make losses and they are also at risk of losing their capital.
Options are seen as a useful form of hedging, offering some protection against losses on stock portfolios.
They can be seen as complicated. Options come with their own set of rules, regulations, and jargon.
Options are not easy to trade and can be seen as quite a complex process, which requires great observation and time.
Neither one can objectively be considered better or worse than the other, it falls to how much risk a trader is willing to take.
Traders that are happy to deal with the downside risks in exchange for the possibility of higher returns may find options trading is the preferred option for them. With that said, traders also have to bear in mind that CFDs can also be volatile and when you add leverage into the mix, this can increase your profits, as well as your losses.
Traders should also take into account the latest market trends, their own trading strategy, financial news and expert opinion before making any decision. It’s important to remember that where any asset is concerned, past performance is not a guarantee of future results and markets can be volatile. And never trade with more money than they are comfortable losing.
*Please note this information is provided on an ‘as is’ basis with no guarantees of completeness, accuracy or timeliness. Tax treatment depends on individual circumstances and can change, or may differ in a jurisdiction other than the UK.
This really depends on how much risk you are willing to take. You should do your own due diligence considering your attitude towards risk to decide which strategy could be a better option for you.
Both CFD and options trading comes with a certain level of risks. As a trader it is up to you to decide the level of risk you want to take and to do in depth research to identify which financial instrument is best for you. Remember, past performance does not guarantee future returns. And never trade with money you cannot afford to lose.
This all depends on you. CFDs can be used to trade a broader set of asset classes, so having choice may be your preference.
CFD hedging strategies
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