Beginner’s Guide to Spread Betting: What It Is, How It Works and Why Choose It
In the last few decades, spread betting has turned from a niche investment product into a popular choice among UK traders and investors alike. However, if you’re just starting out, you may find this financial product to be somewhat intimidating. This is where our thorough spread betting guide comes to the rescue.
Below you’ll find all the things you need to know about spread betting before getting your feet wet. Ready. Set. Go!
So, what exactly is spread betting?
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In a nutshell, financial spread betting is a derivative product which can be used to speculate on the financial markets through leverage. A tax-free alternative to traditional equities trading, spread betting enables you to bet on the rising or falling prices of a wide variety of underlying assets.
Unlike an equities trader, however, a spread better will not actually own any of the assets in their portfolio, but instead bet on the price they think the instrument will reach at a future point in time.
How does spread betting work?
The outcome you’re speculating on is whether the price of an underlying asset will move up or down. If it moves the way you predicted, your profit will grow with that move. If it moves in the opposite direction—your loss will increase as the price difference widens. With that said, let’s demystify some terminology first so that all of this (hopefully) makes sense in the end.
What is a “spread”?
Similarly to regular financial brokers, a spread betting broker will quote you two price types—the buy price (known as “Bid” price) and the sell price (known as “Ask” price). The spread is essentially the difference between the “Bid” and the “Ask” price of a given instrument that is quoted to you by the broker and is measured in points.
Source: DF Markets
For example, if the Bid/Ask price difference for stock ABC is 2995/3005, then its spread would amount to 10 points. Note that the spread can vary depending on the instrument’s type, bet size, and popularity (more popular = tighter spreads). The spread of each instrument is typically calculated based on its current market price.
What is a “spread bet”?
In an online spread betting platform you can choose between two types of bets—buy bets and sell bets. For example, if you expect the price of Intel (INTC) to go up, you can place a buy bet (also known as “going long”). This way, if the price of the instrument goes up, so will your profits.
Conversely, if you expect that the price of Intel (INTC) will go down, you can place a sell bet (also known as “going short”). In this instance, any decline in the instrument’s price will yield you a profit. Should the company’s price move in the opposite direction of your bet, however, you can potentially incur a heavy loss.
What is a “stake”?
As we mentioned earlier, price movements when using spread betting are measured in points. Your role as a spread better is to decide how much money you wish to bet per point—a value known as the “stake”. With DF Markets, for instance, your stakes can vary from as low as £1 to any desired amount dependent on your account balance.
Please note that while you will gain multiples of your stake for every point in your favour, you can also lose multiples of your stake if the markets move against you.
What is “leverage”?
Leverage allows you to take a position in a certain instrument by using just a small fraction of the total trade value. This means that spread betting is treated as a leveraged product.
When spread betting through our platform, you will discover that the leverage for FX pairs is 1:30. In other words, if you were to place a bet worth £10 000, then you’d require £333 as margin* to open your position and benefit from the same market exposure.
*This example is not applicable to all Forex pairs featured on DF Trader.
Putting everything together
Below is an example that illustrates how financial spread betting works in practice.
Let’s say that company XYZ is currently priced at £30 (3000 points) per share. Your friend thinks that the price is going to rise. They decide to place a bet.
The XYZ stock is quoted at a price of 2995/3005. This means that its “Bid” price is 2995 and its “Ask” price is 3005. Your friend pays the “Ask” price for one share. They also set their stake at £2 per point.
The price of XYZ’s shares rises to 3055. The Bid/Ask price thus becomes 3050/3060. Your friend decides to close their position at a “Bid” price of 3050, or 45 points above their initial “Ask” price of 3005.
Your friend’s profit will be calculated by multiplying the bet size by the point difference. The equation would then be £2×45 points, or £90 profit!
What are the benefits of spread betting?
Tax-free, leveraged product
One of the main advantages that this financial product has over traditional share dealing is that any profits are completely tax-free* for UK residents, but also void of:
- Broker commissions
- Fees and stamp duty
- Capital Gains Tax (CGT)
The ability to spread bet using leverage also enables you to gain larger market exposure on popular instruments at just a fraction of their total trade value. With DF Trader, for example, you can take advantage of leverage as high as 1:400 on some financial products.
*Tax treatment will depend on individual circumstances. Tax laws are subject to change.
Hedge investment opportunities
In addition to being more affordable than fully priced assets and even other popular derivatives like CFDs (Contracts for Difference), spread betting can be also used as a hedging tool to protect your investments in an existing portfolio.
For instance, if your long-term portfolio contains shares of blue chip companies and you expect the markets to underperform, you could partially offset your losses with the profits gained from spread betting—and vice versa.
Wide range of markets available
Spread betting has become an integral part of many businesses worldwide. DF Markets presents you with a wide variety of markets to choose from, including:
- Gold and silver
What are the risks involved?
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It’s important to remember that spread betting is a leveraged product and that as such it carries a high level of risk to your capital. That is why, before setting foot on the global markets, you should carefully consider whether this financial derivative is crucial to achieving your goals or not.
Here are some of the risks you should be aware of when opening a live spread betting account:
- Tax-free doesn’t equal loss-free. This benefit only works if you make a profit. Investors who lose funds trading won’t be able to offset their losses against the Capital Gains Tax liabilities.
- Leverage is a double-edged sword. Use it sparingly as too much leverage might lead to heavy losses caused by even the slightest of market moves.
The bottom line
Ever since its original appearance in 1974, spread betting has been taking full advantage of the technological advances to deliver an intuitive, low-cost way of investing on the markets.
Spanning across multiple business sectors and exempt of any taxes whatsoever, this financial derivative also involves risk due to the use of leverage.
And while there are many risk management tools that can be used to avoid over-leveraging your positions, you should never invest more money than you can afford to lose and should always consult an independent professional whenever important questions arise.
Willing to give spread betting a go, but don’t want to risk any real-life funds? Open a spread betting demo account with a virtual £10 000 and benefit from tight spreads, low margins, an intuitive platform with 80+ technical indicators and more!