Traders' views - Spread betting

Veteran trader Vince Stanzione provides a monthly commentary, outlining his real-life trading strategies and the thinking behind his latest financial spread betting and CFD activity.

Some people only ever dip their toe into the wide investing sea via simple stocks and shares purchases, perhaps deterred from trying other investment techniques like spread betting and contracts for difference (CFDs) due to their exotic terminology and association with the maligned ‘short sellers’.

But financial spread betting can be a very uncomplicated process when it is explained in plain and simple language.

At the basic level, financial spread betting or financial spread trading is a way that investors and professional traders can back shares, currencies, bonds, commodities, funds, sectors and many other financial markets with a relatively small amount of up-front money.

A wide variety of markets can be traded from a single spread betting account on the internet, over the phone or via an app on mobile devices like iPhones.

In the UK, spread betting and using CFDs is tax free and gives you the opportunity to make a profit whether the market rises or falls. You can trade on a wide range of markets, from indices such as the FTSE 100 and S&P 500, to thousands of individual shares, commodities and foreign currency exchange rates (‘forex’ or ‘FX’).

A financial bet

The difference between traditional share dealing and spread betting and CFDs is that with the latter you never own the physical share or underlying financial instrument. You are simply betting with your spread betting company (you can think of them as your bookmaker if you like) on whether you think it will rise or fall in value.

To make your spread bet you choose the amount of money you want to bet per point movement (each point is usually a penny when betting on UK equities). The further the underlying share or product moves in your favour the more profit you make, while the more it moves against your prediction the higher your losses.

The good news is that your risk can be strictly limited using a process called a stop-loss. The way this works is that if you bet £1 per point with a 100-point stop, your maximum risk is £100 on the downside, with no limit to your profit on the upside.

The spread

The spread is the difference between the price you can buy at and the price you can sell at. You will buy at the higher price if you think the market will rise (or ‘go long’ or an ‘up bet’), or sell at the lower price if you think the market will fall (‘go short’ or a ‘down bet’).

The tighter the spread, the smaller the market has to move for you to make a profit. No commission or funding costs are charged in spread betting, as the costs are all built in to the width of the spread.

What can I spread bet on?

Individual shares – shares in individual companies from almost any market across the globe, including UK, the US, any of the European markets, China, India, Australia, Hong Kong and Singapore, to name but a few.

Stock market indices – popular indices for investors all over the world are London’s FTSE 100 and New York’s Dow Jones, but other indices such as Japan’s Nikkei 225, China’s Hang Seng, Germany’s DAX, the Eurostoxx 50, or the NASDAQ and S&P 500 in the US can also be traded.

Commodities - the last few years has seen a surge in trading on commodities such as crude oil, natural gas, gold, silver, copper, palladium, wheat, cotton, coffee cattle, soybeans, orange juice and of course those famous pork bellies. Inflation, such as seen in 2010 and 2011, has increased the demand from investors for commodities such as gold, for instance.

Currencies – another hot area, especially for shorter-term traders, is the foreign exchange market (also known as the ‘forex’ or ‘FX’). Here you trade on currency pairs, which are the relationships between two currencies. These are generally expressed in three-letter codes, so sterling is GBP, the US dollar is USD, the yen being JPY, the Australian and Canadian dollars being AUD and CAD, and so on. Popular currency pairs include GBP/USD (also know by traders as ‘cable’), EUR/USD, USD/JPY, GBP/EUR, EUR/JPY and many more.

Interest rates and bonds – these are financial instruments with fixed short-term or long-term interest rates, such as issued by corporate bonds issued by companies or state-issued government bonds (also known as ‘gilts’ or ‘treasury shares’).

How does a spread bet work?

First, you select your market – as an example let’s take an individual share, Barclays.

Start by checking the price quoted by the spread betting company – it will reflect the actual share price. There will always be two figures – the sell price and the buy price (also known as the bid and the offer), the sell price will be lower. For example, it could be 318p - 319p. The spread is the 1-point difference in this example, it would probably be smaller in real life.

You must decide if you think the price of Barclays shares will go up higher than the buy price, or fall lower than the sell price. If you think higher, you bet or ‘buy’ at the buy price, if you think lower your bet is to ‘sell’ at the sell price.

Now, you must decide how much you are betting, that is, what your stake is. The stake is the amount of money you gain or lose per point of movement on the value of the share. It is always expressed in currency per point of movement, such as £1 per point.

In spread betting you do not have to pay the full cost of what the share would be to buy – you will only have to pay a percentage – this is called trading ‘on margin’. However, spread betting companies will require you to have a certain amount of cash in your account, or ‘on deposit’, to cover potential losses. Exactly how much varies from company to company and this figure is often called the ‘initial margin requirement’.

You can close a trade at any time – as long as the underlying market is open – whether you are making a profit or a loss. You do not have to meet any specific value on any specific date.

A spread bet example

So let’s consider our Barclays example. Your spread betting company currently has a quote of 318p - 319p. Two weeks later the share price increased in value to a quote of 330p - 331p.

Example 1: Going long (betting that the shares will move upwards)

So if you had bought £10 a point of Barclays at 318.8 as you thought the price would rise.

The price moves to 330 - 331.

You take your profit and sell at 330.

Profit = (330-319) x 10.

Your profit is £110.

Example 2: Going short (betting that the shares will move downwards)

So you sell £10 a point of Barclays at 318 as you think the price will fall.

The price moves to 330 – 331 and you decide to get out.

You cut your losses and to get out of a short positions (a sell) you have to buy the bet out. So at the buy price this is 331.

Loss = (318-331) x 10.

Your loss is £110.

In my courses I explain more and the exact system I use to buy and sell such trades, and much more. This is a very simple trade, but there are many other hints and tips which have taken me over 25 years to learn, such as spread betting with traded options or index striping.