Options and CFDs are financial derivatives whose value is determined by the performance of an underlying market. However, this is where the similarities end.
CFDs and options differ in many key aspects, so understanding the CFD vs options distinction will make it easier to choose the right investment for your risk appetite, trading style and budget.
What Are CFDs?
A CFD, or contract for difference, is a financial derivative allowing investors to speculate on the price movements of an underlying asset. With a CFD you basically agree to exchange the difference in the price of a given asset from when the trade is open to when it is closed.
There is no delivery of physical goods or commodities since you never actually own the asset. So instead of investing in gold, you bet whether the price of gold will rise or fall.
When you are trading CFDs, you can decide to go long or short. Going long means you speculate the price of the underlying asset will rise, whereas a short CFD trading position means you expect the price to fall. How much you earn depends on how much the underlying asset moves.
You will make a profit if you predicted the price changes correctly, but if you speculated wrong, you will have to pay the difference to the broker.
Here’s an example: You believe that Tesla shares will go up from the current price of $300, so you buy a Tesla CFD (rather than buying Tesla shares).
If you close your position when the stock is over $300, your broker will pay for the difference in the price (determined between the trade entry and exit). If Tesla stock goes under $300, you will have to pay the difference to the broker (again determined between when you opened to when you closed the position).
What are the best CFD brokers in Australia?
What Is Options Trading?
An option is a financial derivative as well—however, instead of paying or receiving the difference from an asset’s price movements, with options trading you are buying or selling the opportunity to exchange the asset for a set price on or before a predetermined date.
Like futures trading, options allow you to lock-in the price of an asset before the contract expires, which is why they are very popular with hedgers.The difference is that with futures you must buy or sell the underlying asset when the contract ends, while with options you are not obligated to make the trade. If you are the holder of the contract you can either exercise the option, sell it or let it expire (the option becomes worthless when the price of the underlying asset is higher than the price specified in the options contract).
You can trade two types of options, call and put options. In both cases, the risk is fixed at the cost of buying the option, also known as the premium.
The first gives the buyer the right (but not the obligation) to buy assets from the writer (seller) at a predetermined price before the contract’s expiry date. If the buyer exercises the option, the writer must deliver the asset at the price specified in the contract.
With a put option, you are betting on prices falling. Here, the buyer buys the right to sell the asset to the writer at the specified price and at a predetermined time in the future. The writer must buy the underlying asset if the buyer chooses to exercise the option.
Simply put, buyers of a call option want the price to increase, whereas buyers of a put option are expecting prices to drop. The writers of both contracts are hoping for the opposite.
Continuing with the same example—let’s say you think that Tesla shares will increase from the current price of $300. So you buy an option that allows you to buy the share at $350 by December 15. If the price does go over $350, you can exercise the options and buy the stock at a reduced price.
If the price of the shares goes under $350, the option becomes worthless and you should let the contract expire—you will only lose the premium you paid when you bought the option.
Where can you trade options in Australia? Here is our selection of the top options brokers.
CFDs vs Options: How Are They Similar?
As mentioned above, both CFDs and options are derivative instruments, which means they are determined by the price movement of the underlying asset. Here are some similarities between the two.
Wide range of financial instruments
With both CFD trading and options you can gain exposure to many financial instruments, including stocks, forex, crypto, indices and bonds.
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You can trade both with leverage
Trading with leverage allows you to use borrowed funds, so you only invest a small percentage and you get the rest from your broker. CFDs are traded on a margin, whereas options are inherently leveraged—the premium is always a fraction of the cost of buying and selling the underlying asset, but profit is determined based on the price movements of the underlying asset.
Keep in mind that trading with leverage can be very lucrative, but also quite risky as you can lose more than your initial investment.
Both are better suited to advanced traders
Even though CFDs can be a bit easier to understand, both options and CFD trading is risky and complex, so definitely not suited to beginners.
If you are just starting out with trading, look into the best stock trading apps for absolute novices.
You can go long or short
The option to profit from falling markets is possible with both CFDs and options.
Options vs CFD Trading: Key Differences
This is how options and CFDs differ.
| Options | CFDs | |
| Possibility to own the asset | Yes | No |
| Expiry date | Yes | No |
| Trading costs | Lower | Higher |
| Best suited for | Long-term trades | Day traders |
| Pricing | Complex | Transparent |
Advantages of options vs CFD
Possibility of owning the underlying asset
With options you can own an asset tomorrow at today’s prices, unlike CFDs that have no standalone value.
Advanced strategies
There are many strategies you can use while options trading. For example, with the straddle strategy, you can buy call and put options of one underlying asset simultaneously and make a profit however the market moves. On the other hand, with CFD trading, you won’t have much flexibility to change and experiment with strategies, except when you are trading CFD options.
Trading costs
Depending on the asset, you can be charged several fees when you trade CFDs, such as commissions, spreads, overnight fees, stop loss charges, and other expenses set by the broker. Options do not incur overnight fees or excessive commissions which makes them both cost-effective and much better than CFDs from medium to long-term trades.
Limited risk
When you buy call options the risk is fixed at the premium—if the market moves against you, you can simply let the contract expire, losing only the premium. With CFDs however, your losses grow the more the market swings against you.
That said, stakes are higher when writing options since your profit is determined by the premium you get for selling the option, while there is no cap on the losses—if the buyer chooses to exercise the option, the writer is obligated to sell or buy the assets at the preset price regardless of what the market value is.
Hedging
One of the most popular uses of options and futures is hedging which can act as insurance against any losses. So if you own 100 shares in a company and you think prices will go down, you can buy an options contract and sell the shares at their current price sometime in the future.
Advantages of CFD vs Options
CFDs have no expiry date
There is no expiry date for CFDs, so you can hold an open position for as long as you wish. Options, on the other hand, are a wasting asset—as the contract comes closer to the expiry date, the price will drop.
Transparent Pricing
CFDs are meant to mirror the underlying asset so if the value of the share or commodity increases so will the value of the CFD. Conversely, option premiums are influenced by the expiry date, market forces and other complex factors.
Easier to understand
With CFDs you only need to look at the price of the contract and the underlying asset, while options trading involves more complex factors, so you can never be sure of whether or not you are making a good value investment.
That said, neither options nor CFDs are a good choice for beginners to investing.
Bottom Line: Is CFD Trading Better than Options?
Which financial derivative is better depends on your trading style and priorities. If you are looking to take advantage of price movements across a broader set of markets, CFDs may be the better choice. Options, however, can be suitable for long-term investors and those who have a better grasp of the market. They are also a more suitable choice if you wish to implement advanced trading strategies as CFDs are not as flexible.
If you can’t decide between the two, you could try trading in a demo account—most brokers will allow you to trade CFDs and options using virtual funds giving you a taste of the market with zero financial risk.
FAQs
1. Are options more profitable than a CFD?
There may be fewer costs to pay when trading options, but since both CFDs and options are traded using leverage, you stand to make much more than your initial investment. However, leverage is a double-edged sword since it can enhance losses as well as profits.
2. Is CFD trading similar to options?
CFDs and options are similar in some ways. They are both financial derivatives that let you trade on the price movements of underlying markets and come in the form of a contract. What’s more, they both give you access to a wide range of financial instruments, including crypto, shares, indices and commodities. That said, there are many key differences between the two.
3. Are CFDs more risky than options?
Typically, CFDs are easier to trade and have more transparent pricing, making them less risky than options, which require traders to have more knowledge of the market. In contrast, call options tend to be considered safer than CFDs since buyers will only lose the premium if the option becomes worthless. Risk is not the only factor affecting the CFD vs options dilemma—you need to consider your trading style and experience to make the right investment decision.
