Spread Betting

spread bettingSpread betting is a way for people to bet on the price movement of oil, shares, interest rates and other financially related interests.

What is Spread Betting?

A “spread bet” is essentially a speculative markets position that allows traders to benefit from price changes in an asset.  Traders with a positive outlook for an asset will buy at one price on the expectation there will be an opportunity to sell the asset at a higher price in the future.  The differences between these prices is what determines the monetary gains for the position.  Conversely, those with a negative outlook on an asset can sell it, looking to buy the asset back at a later date and for a lower price.  The differences in these prices will again determine the amount the trader has gained on the position.

Leverage

Spread betting is a “leveraged instrument”, meaning bets can be placed that are worth more than your account balance.  This means you can quickly win or lose considerable sums of money, so it is very important that you take care when placing your bets and apply some kind of risk and money management.

Education

As with any business, a successful career in spread betting requires an understanding of the main elements that move the financial markets.  Unfortunately, this knowledge does not come overnight and will require some time and effort before a real understanding of this information can be gained.  Luckily, most of the basic elements can be read fairly quickly and once they are understood, spread betters can open an account and start trading without feeling lost or losing money unnecessarily.

When many spread bettors begin, it can be easy to overlook the more “boring” aspects of trading and jump right into positions looking to make great riches.  Unfortunately, this is a mistake that causes many new investors to deplete their trading accounts and take on monetary losses that could have been avoided. Fortunately, new traders can sidestep most of these problems by doing a little homework and making an attempt to understand the spread betting markets before real money is committed to positions. In the following sections, we will look at these main trading factors in greater detail so that new traders don’t feel lost when entering into their first positions.

Demo Accounts

Demo account allow new spread bettors to place trades under real market conditions, using virtual money.  Most spread betting brokers offer free demo accounts so that traders can test out their strategies and make sure that the software platform can be easily navigated.  Trading with real money on an unfamiliar platform can lead to costly mistakes, so it is generally advisable to practice with a demo account until the system becomes familiar.  Spread betting demo accounts can also be useful for experienced traders looking to test out investment strategies that have not been attempted previously.

Manage Risk

Another important educational area is risk management.  Some would argue that the most important aspect of trading is the reduction of risk, as unmanaged risk can lead to trading losses.  There are many types of risk management strategies that can be implemented, and these will generally involve the use of trading features and concepts such as “stop loss”, “profit targets” , and “risk to reward ratios”.

Each of these trading tools allows you to protect each position from excessive losses and turns the general odds of profitability into your favour. It is important to have managed trades whenever real money is put at risk because there is always the possibility that market volatility will increase and catch traders off-guard.  These risk management tools, and specific trading examples using these tools, will be discussed in later sections.

Analysing Market Prices

In order to be consistently profitable in the spread betting markets, we must have methods for analysing market prices.  These analysis methods will allow us to construct qualified hypotheses about future price activity and enable us to structure trades based on those expectations. Broadly speaking, there are two main forms of spread betting analysis:

  1. Technical analysis
  2. Fundamental analysis

Technical analysis focuses solely on price activity and trends, and seeks to make market predictions based on chart patterns and mathematical indicators.

Fundamental analysis requires an assessment of economic data.  This data tends to be seen in various reports, which can include items like GDP, Retail Sales, Consumer Inflation, Corporate Earnings and Import/Export data.

Spread Betting Bonuses

The growing number of spread betting brokers available on the market has led to increased competition in attracting prospective clients.  Generally speaking, a broker can make its platform either by improving on its efficiency, spread costs and customer service.  But with many brokers now matching one another in these areas, an alternative method has been seen with the use of monetary bonuses for traders opening new accounts.  These bonuses can provide a nice cash injection to your trading account, so here we will look at some of the types of bonuses that are typically offered.

Cash Bonuses

The most common type of spread betting bonus can be seen with the simple cash incentive.  For example, if a trader opens an account and deposits a certain amount of money (let’s say $250 or $500) that trader might be entitled to a cash bonus that will be added to that account balance.  These bonuses can be as large as $500 or $1,000, and, in some cases, you can even get a matching deposit bonus (equal to the amount of money you put in your account).  This money is yours to use in your trades but in order to withdraw this money you will usually have to place a certain number of trades.  This prevents clients from simply opening accounts, taking the bonus, and closing the accounts without engaging in trading activity.

Deposit Percentage Bonuses

Similar to the simple cash bonus, the deposit percentage bonus is an amount of money that is placed directly into your account as it is opened.  The total bonus amount will depend on the size of your initial deposit.  For example, a 10% deposit percentage bonus with an account of $10,000 will mean a bonus of $1,000 (and an $11,000 account balance).

This type of bonus is also similar to the simple cash incentive in that it is usually accompanied by certain trade requirements that involve a set number of opened and closed positions before any of the bonus money can be withdrawn from the account. Requiring these trades helps the broker to recoup some of the costs associated with giving out the initial bonus.

Reduced Spread Fees

A different type of incentive program is not as much of a bonus as it is a reduction in trading costs that will be seen later.  For example, these brokers might typically charge a spread of 3 points in the EUR/USD but for new members in the program, that spread might be reduced to 2 points.  While this might sound like a trivial offering, spread costs are nearly constant for traders and incentives like this can help to improve return ratios over time.  This type of incentive is typically offered by small or new spread betting companies that are not yet willing to hand over cash and instead will charge a reduced fee for their services.

Trader Referral Bonuses

The last of the common incentive programs is the trader referral bonus program, which gives rewards for referring new traders that fund and actively use a spread betting account.  These referrals can be accomplished either through personal relationships or affiliate programs on websites.  The ultimate reward for these referrals is usually a cash bonus and so any time you find a reputable broker, it might be a good idea to suggest that broker to other potential traders you might know.  For many brokers, these programs are life-long and will not expire after the initial payout is made.

Use Broker Competition to its Advantage

The increased broker competition in recent years has forced many brokers to offer incentive programs in order to attract new clients and stay in business.  Luckily for traders, this means that this competition can be used to its advantage and bonus offers can be found.  Typically, this involves placing (and closing) a specific number of trades but for those looking for a nice cash injection to your account balance, these programs provide an excellent option.  There are many different types of incentive programs currently available and the ones that can be found will often have a lot of “fine print” that must be read in order to understand how the bonus can be withdrawn later.

These programs will sometimes differ in approach, with some brokers offering simple cash payouts while others offer reductions in trading costs (spreads) for new positions.  Either way, the ultimate goal is to find an incentive program that allows you to maintain sufficient funds in your account to continue trading.  This is one of the biggest challenges when we start to trade the spread betting markets, so it is important to use broker competition to its advantage and look for the best possible bonus offer when looking for a new broker to use in your daily trading.

History of Spread betting

Spread betting was conceptualised in 1970s America; Wall Street firms first used it as an alternative way to deal shares on behalf of their clients. Traditional share dealing cost a lot in terms of commission and resources; they saw the opportunity to cut that cost by becoming market makers themselves. Spread betting however also offered many institutional investors and traders a much cheaper way to hedge their share trades, and it still does for 1000s of independent traders today.

Traditional share dealing VS spread betting from the perspective of Wall Street firms and brokers worked as follows:

Consider the situation where investor A wants to buy 100 shares of XYZ company, and at the same time investor B wants to sell short 100 shares of the same XYZ company. Before spread betting was available, those Wall Street firms acted as stockbrokers, and they would have to facilitate investor A and investor B as 2 separate entities. This required the simultaneous management of 2 different transactions and incurred the related stock exchange fees. With spread betting, both clients A and B have the opportunity to make the same transaction, except that instead of buying or selling short the shares of XYZ, investors now just bought or sold at the ‘spread’ without any need for a broker. As a result the 2 clients’ orders cancelled out resulting in massive savings for the dealing firm without affecting the investors in any way.

Let’s assume that a 3rd investor C comes along and buys at the spread price; this 3rd investor will be betting at a particular pound per point level which is equivalent to owning a number of actual shares of XYZ company’s stock. Let’s say that the spread betting firm has an imbalance i.e. investor A buys the equivalent of 100 shares, investor B sells the equivalent of 100 shares, but investor C buys the equivalent of 50 shares then the market maker firm (or spread betting firm) has an excess long trade of 50 shares. This would require the firm to hedge this risk either by placing an identical bet to investor C with another spread betting company, or by buying 50 actual shares of XYZ. Through this the overall market becomes balanced, and those investors who predicted the market right would make a profit while the dealing firms take the commission (the spread).

Spread betting is more affordable than actual share dealing because it requires much less capital than actual share dealing (all positions are leveraged). Spread betting firms are not like traditional fixed odds bookmakers; they are perfectly happy with winning clients as their income is made on the spread. In traditional fixed odds gambling, it is clear that bookmakers don’t like winning clients. Just a small amount of research on fixed odds bookmakers will turn up many clients whose accounts were closed, or clients who are refused legitimate payouts for all sorts of ridiculous reasons. This is simply not the case with spread betting. A spread betting firm makes money in a number of ways, but on every trade they take a small amount of profit from the spread. They also earn money on interest and they fully hedge their real exposure to the markets making it easy for them to payout a winning trader. In fact there are traders in the UK who make over ₤1 million a year spread betting on stocks and commodities without having any issues withdrawing their winnings. In addition to that, spread betting firms will actually use the knowledge and betting patterns of long-term winning traders to predict market movements.

Opportunities for new traders:

Spread betting offers an exciting and very affordable way to deal in the financial markets. A new trader can test their trading skills at a fraction of the cost of traditional share/commodity dealing. Typically the cost of dealing shares in the traditional way requires 100% capital commitment, whereas with spread betting the trader only has to commit a small percentage of the total value of the trade. This is known as a margin requirement and ranges from 5% to 25% depending on the instrument being traded and the spread betting firm in question. In addition to that, there’s no capital gains tax on spread betting.

However the risk of losing money is relatively high for new traders. This is often caused by inadequate account balance, bad money management and badly planned trades. The spread betting companies themselves are not the reason why many traders lose, the consistency of successful traders, both big and small is solid proof that these firms really support winners!

Spread Betting vs CFDs

Spread betting and CFD trading are often thought of as one and the same. Both allow traders to take long and short positions and use leverage to control trade size. As the trader does not own the underlying, no stamp duty applies.

Beyond these similarities however, are some small differences that might dictate which investment is “best” for any particular trade. Here are those differences: