Spread Betting Guide

A Beginners Guide to Spread Betting

What is Spread Betting?

Chart going up with peopleFirst it is necessary to answer the question "What is spread betting?" Spread betting is quite simply the process of placing a directional bet, either up or down, on any stock, stock index, commodity, currency or any other market or instrument quoted by a spread betting company.

A spread bet gives the bettor the ability to place a trade on any market without having to buy (or sell) the underlying instrument. This means that physical ownership of the instrument is not necessary and that the trader is simply placing a bet on where the underlying market may go. Because no physical ownership is required with spread betting, trading in this manner is quite simply a bet and spread betting is therefore free of tax or stamp duty in the U.K.

The trader can bet on the direction that he thinks that the market will go, either up or down. If he thinks the market will rise, he will buy the market (go long). If he thinks the market will decline, he will sell the market (go short). In this way he can profit if he is correct with his prediction of which way the market will go and will profit by the amount the market moves in his favour, multiplied by his stake.

An Example of How This Works...

If the trader thinks that gold is going to go up, he can place a buy bet on gold at the current market price. For this example, let’s say that the price of gold is currently $1800. On his spread betting platform the actual market price will be the mid-point between the two prices quoted.

If the spread on gold is two points the quote would be displayed as $1799-$1801. The mid-point ($1800) would be the actual market price but the price paid would be $1801 if the trader bought the market. This $1 is the spread and it is wrapped around the actual market price. The spread is the amount the spread betting company charges in order for you to be able to place tax free bets on the markets.

Back to our trade example, if the trader wants to buy at $1800 he would actually pay $1801. If he placed a bet of £5 per point and the market rose to $1850, when he sold his profit would be 49 points ($1850-$1801= 49 points) multiplied by the stake of £5 = £245 profit.

If the reverse was true and the trader wanted to sell the market, he would sell to open at £5 per point and would be short from $1799 (the lower of the bid-ask spread). When buying a market, the trader will always pay the higher of the two prices, known as the bid ask spread, and when selling he will always sell the lower of the bid-ask spread.

In a nutshell, profits and losses are calculated by the amount that the market moves from the open price multiplied by stake. If for example the market had gone down following a buy bet opened at $1801, and the trader sold the bet to close at $1790, he would have lost 11 x £5 for a total loss of £55

What are Stop Losses?

When placing a trade, it is always a good idea to limit your losses and attach a stop loss order to every trade you place. Doing so is an instruction to the spread betting company to close your bet should the market move a certain amount against you. You specify the amount based on what you are willing to lose in terms of capital and at the point at which you think that you would be wrong on the trade and would no longer want to have the position open.

About Contract Options..

Now that we have explained what spread betting is and the process of placing bets as well as setting stop loss orders, we shall briefly discuss the different contract options the trader has when placing trades.

There are effectively two different types of contracts, forward bets and spot bets. Forward bets expire at some point in the future, usually either monthly or quarterly. Spot bets, which can also be known as daily rolling or daily funded bets, expire at the end of each trading day. Because of this, forward bets attract wider spreads than do spot bets, where the spreads can be very tight. If the trader at the end of the day wishes to keep his spot bet open, he call roll it over to the next day and pay an additional roll spread and/or an overnight funding charge, which is generally nominal.

When placing a trade, the trader needs to think about how long he is likely to keep the trade open for. If he only plans to hold the trade open for a few days, he will likely be better off by opening a daily funded bet as the spread will be less. If a trade is likely to be open for more than a couple of weeks, a forward bet will likely be the cheaper option. There are other considerations when making this decision, but these are general guidelines.

At LS Trader we do not place short term bets as we are position traders and like to ride the trend. We often hold trades for several weeks and quite often several months. We therefore always trade the forward bets.

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