Spread betting was introduced in the UK in the 1970s and since then its popularity has soared. What started off as a way to make money on the movement on gold prices has morphed into a tax-efficient, flexible way of trading on the price movements of thousands of global financial markets. This is the 1st chapter of a 4-part eBook on how to spread bet stocks & indices.
For the full guide, click the link at the bottom of the article to download.
But what exactly is spread betting?
Spread betting is known as a ‘derivative’ strategy because traders are not buying an asset directly, such as a share, instead they are betting on whether the price of that asset will rise or fall. Through this strategy traders can trade on the price movements of thousands of global financial markets, including shares, indices, currencies, treasuries, and commodities. Traders speculate on whether the price of the asset will go up or down. If they believe the price of an asset will rise, then they place a ‘buy’ bet or ‘go long’, but if they believe the asset with fall in value, they place a ‘sell’ bet or ‘go short’.
Why spread bet?
There are a number of advantages that spread betting offers traders over conventional trading.
1. Lower costs and tax efficiency
Spread betting is a particularly tax efficient way of investing. As traders do not own the underlying asset they are not liable to pay stamp duty reserve tax - traders currently pay 0.5% stamp duty on all UK share purchases. There is also no capital gains tax (CGT) or income tax on profits made through spread betting. But remember, tax treatment depends on individual circumstances and can change.*
2. Ability to borrow capital
A spread bet is what’s known as a ‘leveraged’ product, meaning traders only have to outlay a small amount of money - a percentage of the full value of the position - in order to make the trade. The rest of the position is covered with ‘leverage’ or borrowed capital, allowing your capital to go further.
3. Trade on leverage
20:1 leverage on indices means with £1,000 you can open a trade with a value of £20,000 This way of investing is known as trading on ‘margin’ or on ‘deposit’ and allows traders to place much larger bets than they otherwise would be able to and potentially be rewarded with large returns on low bets. However, traders need to remember that the leveraging aspect of spread betting means losses could be magnified just like profits can. Good risk management techniques can keep your exposure in control.
4. Commission-free trading
Trading with a stock broker can incur a number of costs but spread betting is exempt from many of those costs, including commission.
“Spread betting is a particularly tax efficient way of investing. As traders do not own the underlying asset they are not liable to pay stamp duty reserve tax"
5. Fractional share buying
Buying stocks can be expensive, especially when it comes to the big names such as Apple and Amazon. Spread betting traders have the option to take a position on a ‘fraction’ of a share so they do not need to have the large amount of upfront capital required to buy some shares.
Spread betting gives traders the flexibility to speculate on high value stocks with a small amount of upfront capital.
6. Go long or short
Stocks are traditionally bought, and held, with the hope that over time the price will rise. This bet is known as ‘going long’ or just ‘long’. While spread betting allows traders to speculate on stocks that they think will rise in price by placing ‘long’ bets, it allows gives them the ability to place ‘short’ bets on stocks. Short positions are the opposite of long positions and traders are speculating that the price of an asset will fall over time. To short the market traders can buy a ‘future’ that allows them to bet on prices based on future performance.
7. Holding costs
Spread bets do not incur any commission cost or tax but there is a cost traders should be aware of. Trades can be subject to ‘holding costs’ if they are held in a trader’s account at the end of the trading day. The cost is incurred for holding a trade in an account overnight and are typically charged at a set daily percentage of the trade. It is essentially an interest payment on the cost of the leverage - or the loan - in the trade.
A trader investing £4,000 pounds at 5:1 leverage means a total position value of £20,000. If leverage costs 3.5% annually then this is approximately £1.90 per day. The holding costs on bets held overnight is typically outweighed by the fact that there is no tax on the trade and no stamp duty, even if the bet is held for an extended period.
Buying stocks vs spread betting
Many people will be well versed on buying and selling shares on the stock market but investing on the derivative market is very different. In the example of a stock market trade, the trader buys 1,000 shares in Company A at £100 per share. The original price goes up to £102 per share and the trader sells the stocks, capturing a profit of £2,000 - £2 profit on each share multiplied by 1,000 shares before commission costs and tax. This trade would have been costly for the trader, who would have needed to invest £100,000 to buy the shares, even before the cost of commissions and taxes.
Compare this to investing in Company A via a spread bet. Assume the bid-offer spread means the trader can buy the bet at £100. They then determine what amount to commit per ‘point’ moved. For this example, one point change equals one pence of change up or down in the share price. The trader, confident the shares in Company A will rise, places a £10 per point ‘long’ bet. The shares in Company A subsequently increased from £100 to £102, meaning the price has moved up 200 points (or 200 pence). The trader has bet £10 per point on the price rising, meaning they have gained £2,000.
The spread better would not pay commission or tax on their trade and would only require a small initial outlay. While the stock market trader would have to find £100,000 to invest in Company A’s shares, the spread better would only need to deposit a small percentage of trade. If the trader only deposited 5% or 10% of the trade their outlay would only be £5,000 or £10,000 - a dramatically lower initial outlay.
|Spread betting||Share dealing|
|Tax-free profits||Pay tax on profits|
|Trade on leverage and deposit a percentage of the full value of the trade||Buy shares outright and put up the full value of the trade|
|Go long or short with the ability to profit on stocks which rise or fall in value||The ability to profit on stocks which rise in value|
|Commison is payable on share CFDs||Subject to commisions|
|Trade on a huge range of financial markets||Trade stocks and shares only|
|Suited to shorter-term investments strategies||Suited to long-term investment strategies|
Placing your first trade
Placing a bet is simple once a trader has signed up with a platform like CMC Markets. Traders can open an ‘order ticket’ which allows them to commence a trade by clicking on any streaming price on the platform. However, any individual thinking of doing so must first understand the importance of planning and developing a trading strategy and beware of the risks involved.
The order ticket will show the product name, the sell and buy prices and the real time spread between the ‘bid’ and ‘ask prices’. The difference between the ‘buy’ and ‘sell’ price is known as the ‘spread’, which is where spread betting gets its name from. As traders are not holding an underlying asset and therefore cannot buy or sell, for example, a number of shares, they instead buy or sell an amount of points per movement - this is known as a ‘stake’.
Types of bet
|Daily||As the name suggests, daily bets have an expiry of one trading day, at the end of the day the bet will be closed automatically by our platform. Traders can close the bet early at any time during this period and do not have to hold a trade until the expiry.|
|Rolling daily||A trader who places a daily bet can decide not to close it at the end of the day and instead ‘roll’ it over into the next trading day. They may do this because they think that the market will move in their favour the next day and want to continue holding it to maximise gains. Where a trader who places a daily bet does not actively opt to ‘roll’ it over in to the next trading day, the daily bet will expire at the end of the day and will be closed automatically by the platform. There is a small cost for doing ‘rolling’ over as they will have to pay the daily spread again.|
|Future||Futures bets allow traders to bet on what will happen in a market or with a stock in the medium term. Futures are legal contracts to buy or sell something at a predetermined price at a given point in the future. By buying into futures, traders are locking in tomorrow’s asset at today’s prices, making money on price movements in the intervening period. The value of futures is likely to rise if the market believes the asset will perform well over the period meaning traders can get a good idea of whether the market thinks it is a good bet or not.|
The profit or loss of the bet is determined by the entry and exit prices. The more points the prices move in the direction a trader has bet on, the more profit they make. This also works the other way round, and if the market moves in the opposite direction to the bet, they make a loss. The number of points moved multiplied by stake size equals profit/ loss.
For example, a trader puts a £5 per point stake on a stock to rise, it rises by five points, which would equal £25 profit. The stake price multiplied by the asset price equals your total trade exposure. It’s good practice to always be aware of this so you can manage the risk on all your trades. Click on a price will bring up an order ticket; if a trader believes a price will go up they click ‘buy’, and if they think it will go down they click ‘sell’.
*Tax treatment depends on your individual circumstances. Tax law can change or may differ in a jurisdiction other than the UK.