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Spread Trading with Stocks and Shares

Updated on October 13, 2014

Spread Trading: Easy Come, Easy Go....

How to make lots of money from financial spread trading.

Or how not to lose all of your money...

Financial spread trading is a very risky way of playing the stock-market, but does have the advantage of allowing you to make money no matter which way the market is going. It is just as easy to make money in a falling market as it is in a rising market.

Financial spread trading is similar to sport betting, but you bet on the outcome of the financial markets instead of horse races or football matches. It is also possible to do fixed-odds financial binary spreads: i.e. bet on an event occurring analogous to a win/loss in a sporting event.

As with any kind of investment it is possible to reduce the risk and even use spread-trading to reduce the risk of an existing portfolio.This article is about how to reduce risk with financial spread-betting: spread-betting explained and some spread-betting strategies.

Disclaimer

This article should not be taken as financial advice and is entirely for personal interest and should not be taken as a recommendation to invest.

Spread Trading Books

Here are a few books which go into even more details, but I have also outlined below some risk reduction strategies.

How to Spread-trade Stocks (relatively safely)

Risk Reduction with Spread-betting

Any kind of stock-market investment is a bit of a gamble, but only spread-trading (or betting) is actually classed as gambling for tax-purposes (i.e. no tax in the U.K.) which makes it rather useful, especially for a higher-rate tax-payer.

With most investments (e.g. shares) the stake is the total cost of buying the investment so the most you can lose is all of your money, and the profit theoretically limitless although usually small relative to the initial stake, in any one year. With spread-betting you are just betting on the direction of the chosen market, share, index or commodity etc. E.g. you might want to bet £1 per point that the FSTE100 will rise, in which case you will get the number of points the FTSE rises times the £1 stake minus the "spread" between the buying and selling prices quoted when you start the bet. Similarly if you think the price will fall you can bet the other way, or short the FTSE (which has been useful over recent months, making a profit from the falling stock-markets) The potential gains or losses can be huge compared to the stake, for instance if in the previous example the FTSE moved 100 points you could win or lose about £100. Effectively a £1 bet gets you exposure to £4500 worth of FTSE shares (assuming the index is at 4500 at the moment)

Most spread-trading companies provide a wide variety of things to bet on from house-prices to currency exchange rates, shares, metal prices and bonds. Unfortunately this is where it gets a bit tricky because if you want to bet on an actual price of something, or a "rolling" price the bet is effectively just for today, so if you want to keep the bet open (to roll it over into tomorrow) you have to pay the spread again, which makes it more expensive, unless you always win on the first day or cancel the bet. I find it better to bet on the value of a "future" - i.e. the price on a certain date in the future for which there may be several possible dates available (e.g. I just made a bet on the Gold October 2008) It doesn't mean I have to wait until October, because I can cancel the bet or use stop-loss or limits to make it automatically cancel. That's enough about what spread-betting actually is and how it works (for more information most spread-betting companies give free tutorials or help pages about how their particular web-site works. See the link at the end of the review)

Now I shall discuss some strategies.

Spread-Trading Strategy

Spread-trading is extremely risky as the name implies, and most spread-betters lose money, but it is possible to reduce the risk involved or to use it in conjunction with other investments to reduce their risk. One general equity trading strategy which is often quoted is to cut your losses and run with your winners. When applied to spread-betting this can be interpreted as using a stop-loss close to your opening price and a limit set a significant distance away so your losses are small and the wins are big. In theory, if you get half of your predictions correct you will win more than you lose. If however you set the stop-loss too close to your opening price you can be correct about the general direction of the market and yet your stop-loss is triggered just by the volatility, resulting in many small losses and occasional big wins.

To be more analytical about the probability of either the stop-loss or limit being triggered would require knowledge of the volatility of the index or share you are trading. The volatility of the S&P 500 index is published and can even be traded or spread-bet. VIX is quoted as a positive percentage and represents the expected volatility of the S&P 500 index over the next 30 days. Similarly volatility indices are available for various other markets (although not the FTSE indices) Alternatively the variance of share-prices (or their standard deviation) may be easily calculated using a spread-sheet and historic prices. Volatility is important in determining the ideal relative placement of stop-loss and limit in this or any of the strategies below, but it's a lot of effort to try to analyse the data. A simpler approach is to observe past data for the index or share in question and determine what you consider to be a small and probable daily move and what you consider to be a large and improbable move. The probability of a move of any given magnitude in a financial variable is usually assumed to follow a Gaussian distribution, a bell curve, with high probability of small changes and ever diminishing probabilities for large positive or negative moves in the variable. Deviations of more than 3 standard deviations would be considered extremely improbable (this may not be entirely accurate as very large moves caused by market-moving events are perhaps more common than this would predict and are difficult to predict. The so called "Fat Tail" distribution)

An Alternative Less Risky Strategy?

An alternative and possibly lower risk trading strategy would be to set a stop loss at a point that is improbable, but affordable (i.e. in the rare occurrence of it being triggered you will not be wiped out) and set the limit at a point that is highly probable, such that the potential losses are large compared to the possible win, but the probability of the win is significantly larger than the probability of the loss. The probability of a small movement in either direction is far greater than a big move as described above. This results in many small wins and the occasional large loss. The sum of the losses should on average be less that the sum of the wins. It also means you could be wrong a lot of the time, or have no idea about the market direction and still make many small wins triggered by the volatility in the market. It sounds too good to be true, but unfortunately the "spread" between buy and sell prices (effectively the fee charged by the spread-betting company) eats into the small wins and if you get several big losses in a row it could set you back a long way (or at least be very frustrating).

So this may not sound like a low-risk strategy, either and involves a lot of work for little reward, but it is a fairly low-risk way of getting into the trade. Monitoring the progress of the bet and then adjusting the parameters allows the winnings to be improved if the market moves in the way you hoped. You will often be in a small winning position and once you are ahead by more than the minimum spread for the index, you can move the stop-loss to a point that guarantees you a win (if you are using "guaranteed" stop-loss. With a standard stop-loss there is a chance the index will gap-through your stop-loss, but the guaranteed one costs more in terms of a larger spread) The limit may then be moved for the possibility of a larger win. This may be repeated if the index moves in your favour. If the market moves against you however, the bet will be closed with a small profit.

Hedging Strategy

How to hedge an existing portfolio using spread-bets

The only truly low-risk use of spread-betting is to hedge against market falls in conjunction with a long-only portfolio. If you have a portfolio of shares, unit-trusts, investment trusts etc. which is highly correlated to an index e.g. the FTSE100, then every day the value of the portfolio will fluctuate but it would cost a lot in trading charges and stamp duty, to try to trade in and out. If a spread-bet is used to short the index when you perceive the index to be high, using what ever method you prefer. e.g. technical analysis (The easiest example is when the market is range-trading and the index hits a resistance level - See this article about Technical Analysis) The share portfolio will have made you a profit which if the market falls will be wiped out again. The spread-bet will however make a profit as the market falls which can be taken once you perceive the market to be relatively low (e.g. a range-trading market hits a support level). A stop-loss can be used a small distance above the opening price, so if the market continues to go up (i.e. breaks through the resistance level in the case of range-trading example) you will still gain from your existing portfolio. This is a good risk reduction method. It has disadvantages versus a put option or warrant, but the returns are tax-free (although losses cannot be offset against CGT) Another advantage of going short is that you make a profit as the market goes down, but you still get the dividends from the share portfolio.

Spread betting is provided by many different financial companies, but interactive investor gives a very good service and is easy to use, with low minimum bets (e.g. 50p or £1 per point) and a free 8-week training tutorial.

Financial Spread-Trading is exciting, but don't bet too much as it could quickly cost you a lot of money. I started out with very small bets and practiced for a long time before increasing the stake.

See this article about Technical Analysis

Summary: Be very careful and don't bet to much

Binary Financial Spreads

Spread-trading is a preferred investment tool for day-trading because it is easy to make short duration bets on market movements. Day trading theoretically involves very short duration trades and day-traders will often use stop-losses and limit orders to make the bet cancel at either a profit or a small loss when certain thresholds are reached. An alternative method is to use fixed odds binary financial spread betting; i.e. bet on an event occurring: Bet that a market index with reach a certain value in a certain period and if it does you receive a defined amount of money (like a sports bet) Not all spread-betting companies are offering this service yet, but it is becoming more popular.

Please tell me about your spread betting experiences

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    • profile image

      Carmen 2 years ago

      firstly you need a demat account,secondly, start rndeiag economic times and business today and other business magazines,start doing research on companies you would like to invest.look at their annual reports and see how they have been performing for the past one year and how their share prices have been moving over the period.see lowest price during the last year and the highest price during that period,if the price during the trading hours is near the lower price purchase the shares, and then when prices start rising and you feel that the price has reached your target profit, sell the share.That is it, you have made a profit.REMEMBER this is not a written rule, you can fail a number of times before actually getting profits.I m giving the answer of personal experience and knowledge.I hope it helps

    • profile image

      XmasterJ 3 years ago

      Great, thanks.

    • profile image

      beabettertrader 4 years ago

      Noticed some people saying that this kind of trading scares them. My advice would be to make sure you're looking at trading strategies that best reflect your risk tolerance.It doesn't matter how good the strategy is if you can't sleep at night. Personally I can tolerate risk provided I fully understand the investment strategy so I tend to rely on getting better educated.

    • profile image

      TechnicalIndicators 4 years ago

      Good information. Nice lens.

    • robertred24 profile image

      robertred24 4 years ago

      I trade options spread usually.

    • profile image

      Notafraid 4 years ago

      Very helpful, thanks!

    • profile image

      mstcourtjester 4 years ago

      Interesting lens, thanks for the information :)

    • profile image

      dannystaple 5 years ago

      Hmmm - right now I'd rather stay of the risky ways to make money, and I thank you for being candid on the subject. Some other lenses are quite overly- promotional on this. I am not much of a gambling man, preferring property to shares - although this hasn't done quite so well recently. The tax advice there is also handy. It does sound like this kind of investment requires a lot of knowledge and attention to really profit and not loose so much - something that seems hard to do with a full time job. I would like to consider some investments that are low risk - we aren't really in a position to deal with losses yet.

    • profile image

      anonymous 5 years ago

      Each day trader also engages in forex trade or also referred to as foreign exchange day trading.

    • profile image

      julieannbrady 5 years ago

      I am very conservative with my finances as they aren't that much to begin with ... spread trading rather "scares" me as I don't like to take much risks with my money. Good to have it explained to a little old lady like me! TYVM for all the financial tips!

    • profile image

      gilgil2 5 years ago

      If you want to start trading or spread betting - visit http://www.trading-deals.com to get the best and latest deals, examples include up to £7 000 or $10 000 to trade forex or a 30% bonus on trading stocks, shares and commodities

    • profile image

      anonymous 6 years ago

      Spread betting is new to me and well explained by you!

    • profile image

      gilgil2 6 years ago

      Hi, great article, loads of good info on spread betting. I have just written a lens on short selling, which very briefly mentions spread betting but not in as much detail. I have given you a thumbs up for this, and would appreciate it if you would have a look at my lens, http://www.squidoo.com/short-selling-equities and perhaps leave a comment with a link to this so that my readers can have a more in depth look at spread betting? A thumbs up if you think it is worth would be amazing as well!

    • Countryluthier profile image

      E L Seaton 6 years ago from Virginia

      Zilch, zero, nada, etc. Since I can't explain it to a eight year old, I'm gonna hold off on spread betting, but it is an interesting concept.

    • profile image

      anonymous 6 years ago

      I've had a lot of luck using equityfeed for my spread betting. There is a good EquityFeed Review site if anyone wants to check it out. The full montage screen is what I've used the most.

    • profile image

      TradingTips 6 years ago

      Hi there, thank you for these tips on spread betting trading including the principles to reduce risk and to let the winners run, and yes, its best o trade with a system than without!

    • profile image

      Goholga 7 years ago

      Great lens, I gave it a thumbs up and a favorite. Would appreciate it if you returned the favor on my page: http://www.squidoo.com/businessintelligenceinfo

    • profile image

      anonymous 7 years ago

      This lens is awesome. I love it. I am going to tell my editors on my Thai News website to write something about this lens and probably feature it.

      I will comment here again once we do.

      Great Work

    • profile image

      anonymous 7 years ago

      Excellent lens on the daily stock market, the size of the world stock market was estimated at about $36.6 trillion US at the beginning of October 2008, with the global recession coming to an end, things are beginning to look bright, especially in less developed nations where their own markets witnessed big shocks.

    • profile image

      financialspreadbetting 7 years ago

      spread betting is great when things go well, but you can lose loads of money, another way

      to trade is www.finbets.co.uk

    • profile image

      mike8178 8 years ago

      for financial stuff have a look at Financial Centre

    • profile image

      Global_B2B 8 years ago

      You are part of my B2B Marketplace Headquarters business group so I thought I'd let you know about a new service I intend to start in a few days.

      I'm inviting you to become a subscriber to my weekly newsletter (free). Details on http://www.squidoo.com/groups/b2b-marketplace. Secure yourself a free membership!

    • optionzone profile image

      optionzone 8 years ago

      Interesting and informative lens! Just recently delved into spread trading the S&P here in the States. Results are favorable thus far; playing it safe.

    • profile image

      Global_B2B 8 years ago

      Thanks for joining my group:B2B Marketplace. You have a great lens here! 5*

    • Andy-Po profile image
      Author

      Andy 8 years ago from London, England

      [in reply to Bob]

      It's been more difficult certainly, But if you use guaranteed stop-losses it's still possible to avoid big losses. Shorting the market to reduce losses in other (long) portfolios also worked well.

    • profile image

      anonymous 8 years ago

      I came back! How did you get on ove the last few months? It's been a bit volatile. Probably better to short the market?

    • Andy-Po profile image
      Author

      Andy 8 years ago from London, England

      [in reply to Viktorson]

      All of these strategies should work in a volatile market, assuming the distribution of probabilities of market movements are still normal (i.e. Gaussian)... Unfortunately I'm not sure that has been true in recent months because there are almost daily interventions by governments all over the world due to the financial crisis. This has resulted in some very large, unpredictable market movements and difficult trading conditions. The only safe strategy has been the last one; the Hedging strategy really does reduce risk of an existing portfolio in any market.

    • profile image

      Viktorson 8 years ago

      First of, nice Lens!

      I have never use these strategies but I once used another strategy that I will discuss in a future lens.

      Was it more or less difficult to use this strategy in a volatile Market?

    • Andy-Po profile image
      Author

      Andy 8 years ago from London, England

      [in reply to daria369]

      Yes. Absolutely. This can be high risk, but if used very carefully can be used like insurance. Be very cautious.

    • dahlia369 profile image

      dahlia369 8 years ago

      Never heard of that before but it seems like something that needs to be studied first and certain tested tactics applied before jumping in (head first)... :)

      Great lens!

    • profile image

      anonymous 9 years ago

      Looks exciting, if a little risky, as you said. Being able to short the market at the moment is very profitable. Great article. Thanks.