Financial spread betting is a flexible way to trade the financial markets without holding the physical ownership of investments. It allows you to speculate as to the direction of a number of markets and is a margined (leveraged) investment vehicle.
Financial Spread Betting is not new and has been in the UK for almost 30 years but has grown in popularity in recent years and the competition between firms has intensified in order to attract new customers by offering tighter spreads and improved customer service.
Placing a spread bet gives you, as the consumer, an instant access to the price of the financial markets, permits you to take long or short positions without the stockbroker's interference and allows you to trade all the different financial markets - indices, commodities and currencies, individual shares and bonds - from a single account. It does not see you actually buying shares or commodities but instead placing a bet as to which way you believe the market or share price will move.
You have the ability to bet per penny or point movement - the amount wagered is known as the stake and can be as little as £1 per point. It is important to understand that £1 bet on shares represents 100 shares (how many shares do you need to buy to make £1 if the share price goes up 1 penny? 100 shares).
For example for the FTSE 100 index contract the standard market size is £10 and the investor nominates a stake size of £2 per point. The bet is settled as the difference between the purchase and the sell price. People should be aware that their losses and indeed profit, can increase dramatically if the markets move substantially in the opposite direction to their bet.
An example of how it works
Example one
- The FTSE 100 market is quoted as follows: 5600-5602 2.
- It is possible to buy at 5602 (the offer price) or sell at 5600 (the bid price)
- The investor believes the price will go higher than 5602 and bets £2 per point
- Their expectation is correct and they choose to sell at 5642
- They can then claim £80 (40 * £2 per point)
Example two
- The FTSE 100 market is quoted as follows: 5600-5602
- It is possible to buy at 5602 (the offer price) or sell at 5600 (the bid price)
- The investor thinks the price will go lower than 5602 and bets £1 per point
- Their expectation is wrong and you decide to sell at 5622
- They would lose money as 5622-5602= -20 * £1 per point = loss of £20
Advantages and disadvantages
As can be seen above financial spread betting can prove risky and may seem a daunting prospect even for those with some experience and knowledge of the market.
Some people may think that in addition to being risky, investing in shares is ethically acceptable whereas betting has slightly different market connotations.
However, it might be worth keeping in mind that shares are purchased by those who believe they will make a profit and a share price bet has exactly the same objective.
In practical terms, the only real difference between buying a share and betting on the movement of the share price is that more ready cash is required. Overall, the costs of buying a share are much greater than placing a bet.
The chance of losing more than the initial deposit means that it is vital to learn as much as possible about how spread betting works before placing an initial trade is even considered.
On the other hand, spread trading is also one of the simplest and cheapest ways for you as the private investor to back your belief with hard cash. So for day trading spread betting may be an option worth considering.
Big gains are entirely possible in a short space of time, however, it is wise to be cautious and minimise the risk of big losses occurring.
There are of course other reasons why spread bets appeal to investors. Perhaps the most prominent being that unlike conventional share trading there is no capital gains tax on profits.
In addition to this, there is a lack of stamp duty on transactions as it is viewed as a bet rather than an investment.
However, with the absence of a stop loss any bad decisions made cannot be offset against capital gains on ordinary investments.
But if a bet has been placed on the share and a guaranteed stop-loss limit imposed,
you would limit your loss to a predetermined amount. A stop-loss is exactly what it is called - a limit to the amount you might lose. On the other hand, there is no limit to the amount you might win.
Tips
- As with most things involving a risk, the savvy people will ensure they are fully prepared, so that if the worst does occur they are not badly hurt. This makes it important to research the products you wish to trade and take full consideration of the risks associated with this sort of investment. Although a vast experience is not required to spread bet, being as well informed as possible is always a good idea.
- Try using technical analysis to help with your investment choice - this is offered by virtually all spread betting firms. Making use of charts and technical tools is a wise idea and it is best to discover who offers the services required. If such indicators predicted the markets to fall, you can instruct your broker to 'sell' the FTSE. The same is true if signals suggest a summit point of profit is likely to be reached.
- Some strategies are more popular than others and you might like to find out more about market trends, scalping, break-outs and reversals before parting with your cash.
Remember: Indexes have been known, on occasion, to move by hundreds of points at a time. For example, in May 2010 the DOW fell over 950 points in what become known as the Dow Jones 'flash crash' and in June 2010, the DAX rose by more than 300 points in several days.
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Author: KYM Editor
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