Spreadbetting as a (very) high risk investment

Leverage, gearing, OPM (other people money) – many terms for the same idea. In essence, using borrowed money to multiply the rate of return on an investment. As house prices rose, this principle has be used by many owners on the housing ladder in the form of mortgage equity withdrawal. This common form of leverage has produced excellent returns for homeowners over the last 10+ years. As the property market looks like it’s cooling (in the U.S. at least), other investment classes look to take centre stage. If you were to go and ask your bank manager for a loan to go and invest in the stock market you’re unlikely to get far. However, there are opportunities available to achieve similar leverage through the means of spread betting.Instead of merely buying a set amount of stock – spread betting allows you to leverage your initial outlay and multiplies any movements in the price of a financial market up or down.

An Example from wikipedia:

i.e. LloydsTSB is trading the market @ 410 bid -411p offer.

S/betting company are also offering 410-411p.

Usual way using a broker to buy share:

Say I want to buy 1000 shares @ 411p. In the market you would call/deal online and buy 1000 shares @£4.11p thus – you shell out 1000x£4.11(£4110) +0.5% stamp duty (£20.55) + broker charge(say £10). = £4140.55p

Spread betting (using cash bets – no definite expiry):

If I wanted to spread bet I would bet £10 a point (i.e. £10 per penny the shares moves) @ 411p. Thus total loss could be £4110 so no more risky than buying the shares normally.

However, if you take a cash spread bet out each night you are charged a financing cost (or receive if you are shorting the stock) LIBOR (currently 4%) + (a certain percentage – usually around 2/3%)

Thus for every day you keep the bet open you are being charged (taking finance cost @ 7%) the exposure of the share i.e. if LloydsTSB were trading @ 415p – (415p x 10 )*(7/100 – 7% )/365 – no of days in year) = £0.7958.

Now on top of this you need an amount in your spread betting account to cover the bet. Usually this is either 5 or 10% of the total exposure you are taking on. i.e. in this case £4150 * 0.1 or 0.05 = £415.00 or £ 207.50

If LloydsTSB finished trading the day @ 400p – you would need to cover that £4150 – £400*10(£4000) = £150 difference by putting extra deposit (or margin) into the account.

So it is always advisable to have at least 25% of the total exposure (in this case, £4150 *0.25 = £1037.5) in case of adverse movement.

Although amounts far above your initial capital can be lost, many spread betting bookmakers today offer limited risk accounts in which you cannot place bets that would result in losses that are above your remaining capital. This, allied to guaranteed stop loss positions (generally 5 points from the opening position) goes some way to limit the risk incurred on any one bet. The catch is that the opening spread of each bet has to be covered before any profit is made, plus the daily financing rate for every day you want to roll the bet over.

While the above investments may seem hugely speculative, and they are, they do allow you to leverage your available capital by up to 700 times or more – simply not possible via normal means. Although it seems that most spread betters invest on a limited time-span of a day or two, I can see the possibilities for obtaining returns on much longer trends. As long as the rate of return exceeds the overnight financing rate it could be possible with a little luck on the first few days, and a solid trend in one direction to take a position and allow it to ride out over the long term.

One of the benefits of spread betting is access to markets not normally available to the average investor. Bets on commodity prices, currency prices, share and index prices from round the world, and even future prices can be made at just the click of a button. You can also bet on all the above going down too, allowing you to profit from tumbles in the market where the average stock investor can only do his best to cut his losses. Oh – and the biggest benefit? As spread betting is a form of gambling all winnings are TAX FREE (in the UK anyway). That’s right – no capital gains tax, no income tax, nothing.

I don’t see why spread betting can’t be compared favourably to any other investment. It gives you control, reach, and the possibility to highly leverage your initial capital.

I’ll close with a warning however. Although you can leverage your gains, it is entirely possible, if not likely, that you’ll leverage your losses also. This is a dangerous game where a volatile market (which they all are at 10 or 20 times leverage) means you can hit your stop losses in a matter of seconds. As with any investment, be prepared to lose everything you’ve put into it.


3 Responses to “Spreadbetting as a (very) high risk investment”

  1. 1 Roman March 24, 2007 at 8:24 pm

    I have stumbled upon spreadbetting few days ago and have decided to try it out for the sake of knowledge. While it bears a lot of risk, I also don’t see why it shouldn’t work in one’s favor if used in a controlled, objective environment and the investor has a good background and solid understanding of the matter.

  2. 2 majic March 25, 2007 at 4:35 pm

    Thanks for your comment Roman, you’re entirely correct – although there’s risk, controlling your emotional response and making cool decisions is vital to success in this game.

  3. 3 Alan December 26, 2007 at 12:49 am

    It’s just like trading.. in the UK, if you’re a trader why not use the spreadbetting platform and gain everything tax free?


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