RISKS OF SPREAD BETTING
Is spread betting risky? How do I manage my spread betting risk?
- You can lose more than you put in. This is the biggest difference between normal investing or gambling, and something you need to appreciate before you go any further.
- If you back the FTSE at £1 per point, and the spread trading company says you need to deposit £200 to do this, but the FTSE falls 500 points, then you lose £500. Unless you manage your risk appropriately. You can do this by using stops.
STOPS, GUARANTEED STOPS
What is the difference between a guaranteed stop and a stop?
- Although there is a risk of losing more than you put in, this is actually quite easily managed by using ‘stops’.
- Stops do pretty much what they say. If you buy the FTSE at 5500 for £1 per point, but do not want to risk more than £500, then you place a stop order with the firm you’re using. As soon as the FTSE hits 5000, your position will be closed, and you will lose the £500.
- The difference between a stop and a guaranteed stop is also pretty clear. A stop order is effective the majority of the time, however if the market closes at 5,100, and opens at 4,900 because of a big event that occurred overnight, a normal stop could only be acted upon at 4,900, meaning you lose £600, rather than the £500 you were planning for. A guaranteed stop however, entitles your position to be closed at 5,000, regardless of what the market opened at.
- Why doesn’t everyone just use stops then? You do have to pay for stops (with guaranteed stops obviously being slightly more expensive than normal stops). However the price is normally worth it, particularly for beginners.
- You usually pay for stops through the spread that you’re offered. So, if you want to buy (go long) the FTSE. The quote provided may be 5505 without stops, 5506 with normal stops, and 5507 with guaranteed stops.
What exactly is the spread? What is the difference between going long and going short?
- The spread is the difference between the buy and sell price being offered, it’s the same as a broker commission in any traded product. So if we’re looking to buy the FTSE, we might be offered 5505 to buy, but 5500 to sell.
- This is where spread betting company makes their money, because they can match the size of your bet by buying the underlying product at a slightly better price.
- For example if you are quoted 5,505 to buy the FTSE, they might be buying at 5,502. So if it ‘loses’, they just take your money, and if it ‘wins’, they pay you out, but make themselves slightly more than they pay you.
- The closer, or tighter the spread (ie the smaller the gap between the buy and sell price), the better for you. How tight the spread is will depend on the liquidity of product being traded, and the spread betting firm itself. See spread
- The liquidity essentially means how frequently the product is traded. For example, the FTSE100, is very frequently traded, and therefore spreads on its position are usually very tight. A random AIM listed stock that doesn’t have its shares bought and sold very often on the other hand will have a much wider spread.
- The spread betting firm will then decide how much they want to add onto the spread as commission for themselves.