What Is A Crypto CFD And What Are Its Advantages?
Most people know that you can trade cryptocurrencies through exchanges or trading platforms, but there are other financial instruments that allow you to make a profit by trading with bitcoin futures or other digital assets.
In today’s article we will be looking at how a CFD can help you trade cryptos compared and how does this method compare to other available options.
What Is A CFD?
A contract for difference (CFD) is a popular form of derivative trading that tracks the price movement of an underlying asset without requiring the buyer to own said asset.
The contract calculates the asset’s movement between trade entry and exit, computing only the price change without consideration of the asset’s underlying value.
CFD trading the buyer if the contract to speculate on the price movements of many financial instruments such as cryptocurrencies, shares, indices, commodities, currencies, and treasuries.
CFDs are a leveraged product, meaning that it requires a small percentage of the full value of the trade to be deposited prior to opening a position. This is also known as margin trading. Margin trading can help you multiply your profits, but there is also the risk of losing the multiplied value of the CFD position.
CFDs and the crypto market
When you normally move large amounts of crypto from one wallet to another, it usually impacts the market price of the asset. But this is not the case with CFDs. Any CFD, even with positions of billions of dollars, will not make market prices budge.
This is because bitcoin CFDs are not the actual bitcoin. As we said earlier, opening a position does not mean you but the cryptocurrency, you buy the contract at the asset’s current price. It the asset then increase in value, you can sell the contract and make a profit from the resulted difference.
Crypto CFD advantages
CFD brokers are among the only ones in the industry that can allow you to margin trade with cryptocurrencies. This is because the method would incur a lot of losses, very few large exchanges, except BitMex and Binance, include this feature.
As margin trading platforms allow you to leverage on your trades, each trade you open will get more funds from the broker if your speculation turns out to be correct.
For example, if you open a position with $100 on Bitcoin and its price then grows with 30%, you get will get $130, meaning a profit of $30.
A CFD position has a leverage amount added to the trade. With a leverage of 1:10, that means your position will be multiplied ten times. This means that if Bitcoin experiences a growth of 30%, you will get a profit of $300.
After the trade is finalized, the trader has to give back all the “borrowed” funds to the broker. Since you had $100 and your trade resulted to a sum of $1000 due to the 1:10 leverage, you have to give back the $900 to the broker along with the $30 profit. This leaves you with a profit of $270, which equates with a 270% increase on your first deposit.
When compared to crypto pairs on exchanges, CFDs have much better liquidity. When you trade with crypto, you might not have the option to withdraw directly in fiat. This means that you will have to move your crypto to another exchange that supports the option or use a Bitcoin ATM. But fees for such conversions take out a consistent part of your altcoin. There is also the hassle of having to move the funds in and out of wallets.
A CFD does not require conversion into fiat currencies. It is practically a fiat currency itself, so you can just request a withdrawal and the broker will approve it.
Cryptos also have withdrawal limits of 24 hours. Seeing as the market is very volatile, this system can lead to huge losses in just a few hours.
CFD brokerages, on the other hand, have the fiat directly on your account, so you do not have to worry about the effects of daily withdrawal limits.
Licensing and security
An important aspect of CFDs is that they are regulated contracts offered by a broker that is licensed by a legal authority. Because of this, if the broker should not give you your profits or any other monetary damage, the broker is obligated by law to pay you your money.
CFDs are currently regulated in Europe, but not in the United States and a few other nations.
As CFD brokerages are always licensed, this means customer are protected by their local law.
Crypto exchanges are mostly unregulated and do not have the obligation to compensate customers. Also if we compare the rate of hacks, crypto exchanges are much more prone to be attacked and have their funds stolen. In contrast, there are very few cases when a CFD platform lost money in a hack.
Crypto CFD disadvantages
You don’t own the asset
The main disadvantage of a CFD is that you do not own real cryptocurrencies, you just speculate on the price on a platform and get money if you are proven to be right.
And if you trade with crypto CFD for a security token, you will also not impact the market in any way.
Margin trading is not a long-term option. Positions are usually opened and closed in just a couple of days and the same applies to crypto CFDs.
When you open a position with a CFD, you have to respect the deadline, and if not, the platform will close it for you which might cause you to lose money. The deadline can only be extended by paying a fee, which could cost as much as 1% of your position.
This deters CFD traders from entering long-term positions with cryptos because they will end up paying more in fees than making a profit from a trade.
With crypto traders, long term investment is not a problem, as they can just transfer the funds to their cold wallets and wait for the price to go up.
Limited crypto options
The CFD brokerages only provide more just a few crypto CFD options, as most traders would capitalize easily on certain cryptos that have predictable price movements.
This is why on most CFDs you will only find Bitcoin, Ethereum, Bitcoin Cash, and maybe Litecoin and Ripple XRP. Of course, there some CFD brokers that might also offer Monero, EOS and even IOTA, such as Plus500.
All in all, a crypto CFD is a good derivate option for short-term trading, but be very aware that this method is very risky due to the amount you can stand to lose.
Featured image: Crypto chronicle