Forex trading and CFDs (contract-for-differences) are popular investment options with many similarities, including a similar trade execution process that offers several benefits to traders in the financial markets.  However, the two markets are vastly distinct.

While forex trading tends to be more straightforward since it only involves trading currencies, CFDs may seem a little more complex and sophisticated. By learning the differences and similarities between these investment options, traders can ask the right questions to determine which market is better suited to their long-term objectives and trading plans.

Let’s explore some of them here:

Similarities

Perhaps the most notable similarity between forex trading and CFDs is that although it allows traders and investors an opportunity to profit from price movements, neither entitles traders to the underlying asset.

It means that when you trade EUR currency, you’re not buying the actual currency but simply speculating whether the euro’s value will increase or decrease relative to another currency.  Likewise, if you’re trading a commodity such as oil, you don’t own the barrel of oil. In many ways, forex is another kind of CFD.

Both forex and CFD trades are executed in the OTC (over-the-counter) market, meaning that their transactions are decentralized and take place through a network of financial institutions rather than being listed on the exchanges like the NASDAQ or NYSE.

Traders can use margin and trade long or short in both investment options, which allow them to leverage borrowed money from a broker to open and maintain positions in one or more currencies.  With forex trading, the margin is normally quoted through a leverage ratio.

Unlike other trading instruments that impose commissions and additional financing fees, the only cost of Forex trading and CFDs is the spread.

Distinct differences

The main difference between forex and CFD trading is that CFD contracts cover a broader range of market assets such as indices, energy, and metals, while forex trading is limited to pure currencies.

CFDs give traders access and exposure to thousands of trading opportunities, including international stock portfolios and cryptocurrency CFDs.

The forex market, Also known as FX trading, involves the speculative buying and selling of currencies in a quest to profit and is mainly influenced by global macroeconomic events and economic conditions.

For this reason, this type of trading is often used as a hedge against the economy to speculate on factors like interest rates, trade flows, tourism, economic strength, and geopolitical risk that affects the supply and demand for currencies.

Most forex trading only happens between institutional traders, banks and other financial institutions, and multinational companies. In turn, the price fluctuations in the CFD market depend on specific factors like trend changes associated with a particular business or the supply and demand of a given commodity which could influence the instrument being traded.

The forex market is an around-the-clock market open 24 hours a day and five days a week with four main trading hubs working across different time zones.  When trading stops in one location, the forex market will continue to operate in another.

Conclusion

While CFD trading and Forex trading have many similarities, the main difference is that CFD trading involves different types of contracts covering a diverse set of markets, including indices, energy, and metals, whereas Forex offers pure currency trading.

By knowing all the key differences, investors and traders can make better-informed decisions and create a sound plan before incorporating these investment types in their market strategies.