Spread betting is a way of investing in the movement of a particular market such as foreign exchange, shares or indices, without actually owning the asset.

 

When financial spread betting, you speculate on the direction in which the price of a financial instrument will move.

If it moves the way you predict, your profit will grow the further it goes. However, if the market moves against you, your loss will also increase as the price movement becomes greater.

Betting on the price increasing is referred to as going long, while betting that it will decrease is called going short (or ‘shorting’).

With spread betting, you predict an outcome, and the degree to which you are right or wrong determines the size of your profit (or loss).

‘With spread betting, you predict an outcome, and the degree to which you are right or wrong determines the size of your profit’

Spread betting is becoming increasingly popular, but it does come with high risks and the potential to lose more money than you originally stake.

Spread betting gets its name from the bid/offer spread that all providers wrap around the underlying market price, thus you will buy an asset at slightly higher than the market price, and sell slightly below it; this is the spread and you are betting whether the price of a financial instrument will move above or below it.

One feature of spread betting is that it allows you to buy greater exposure to an asset than the amount of your original stake would ordinarily deliver; you effectively pay a deposit on the full cost of the trade which may be a fraction of its true value.

This is called trading on margin and it allows you to ratchet up the exposure you have to a particular instrument – known as leverage.

For example, if you use leverage to open a position worth £1,000, you may only have to put down 10% of the total position; despite only paying £100, your exposure is £1,000 and you are leveraged 10:1.

Leveraged trading does offer the potential for greater returns as your returns are magnified if you get your bet right; however, the converse is also true and if you get it wrong you are effectively wagering with someone else’s money and you can lose more than your original stake.

This is a key difference between spread betting and more traditional investment in stocks and shares or bonds where your loss in the event of a failure of the business you invested in may be all of your investment but it will never exceed it.

‘With spread betting, you predict an outcome, and the degree to which you are right or wrong determines the size of your profit’

Spread betting was once the preserve of young guns in the City looking to supercharge their returns from financial markets but they have become increasingly mainstream and if an account is operated with due regard to the safety mechanisms that exist at least some of the associated risks can be mitigated.

Spread betting comes with the additional attraction that returns are exempt from capital gains tax and stamp duty.

 

How Does Spread Betting Work?

 

The Spread

 

The company you choose to bet with will quote a two-way price on each market – the offer price and the bid price; the difference between these prices is known as the spread.

If you think a market is set to rise you ‘buy’ it at the offer (higher) price, and if you think the market is set to fall you ‘sell’ it at the bid (lower) price.

When you want to close a bet, you take the opposite action to when you opened it: buying if you sold, and selling if you bought. For that reason, the market price of your asset will have to move beyond the spread before any profit is made.

 

The Bet Size

 

The bet size is the amount you bet per unit of movement of the underlying market and subject to any parameters set by your provider, you can choose your bet size.

Your profit or loss is the difference between the opening price and the closing price of the market, multiplied by the value of your bet.

Price movements of the underlying market is measured in ‘points’ – for equities, for example, one penny movement in the underlying market would equal one point; the movement of a whole index, however, is simply measured in points.

For example, if you open a £2/point bet on the FTSE 100 and it moves 60 points in your favour, your profit would be £2 x 60 points = £120. If it moved 60 points against you, you would lose £120.

 

Bet Duration

 

Spread bets have a fixed timescale, expiring from within a day to several months away although they can be closed at any point before their designated expiry time. The Two Types of Spread Bet

 

  • Daily funded bets run for as long as you choose to keep them open and you will be charged a funding fee for each day the bet remains open; this reflects the cost of borrowing, or lending an underlying asset. You would generally use a daily bet to speculate on short-term market movements.
  • Quarterly bets are futures bets that expire at the end of a quarterly period and have funding costs built into the spread.

 

Most providers will allow you to open a dummy account to practice spread betting and there is a raft of good educational content to help you.

Those new to spread betting would be well advised to take it slow; if you bet £10 per point, for instance, you stand to lose ten times as much for any given change in price as if you bet £1 per point.

It will also allow you to understand the various order types such as stop losses and limit orders that can prevent a losing position running away from you.

When ‘buying’ a market (going long) your maximum loss, while potentially very high, is limited by the size of the underlying market. The underlying prices cannot fall below zero so if you bet £10 per point on a market worth 100 points, your maximum loss is £1000.

However, when ‘selling’ (going short) there is no limit to what you can lose, as the underlying price could, in theory, keep rising indefinitely.

Because of the inherent risk associated with trading leveraged products, it is wise to start with relatively small bets and to consider what a hefty, magnified loss would look like in regard to your ability to tolerate such a loss.

Experts suggest that spread betters should ensure that they formulate and stick to a core strategy and that they are constant in the way in which they respond to market movements in order to avoid ‘chasing’ losses.

Market data, fundamentals and news are available to all investors but some are able to profit whereas others may not.

Because of their nature spread bets are risky but the potential rewards can be high; however, unlike some investment types, to a large degree the level of that risk is controlled by the individual when they decide upon how much they want to bet per point.

Sure, the magnified rewards are to be relished when they come, but at every turn it would be wise to ensure that losses are within the bounds of acceptability if things turn ugly.

 

 

 





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