How does spread betting on shares works?
So can you actually bet on shares going up or down in value?
Yes. Spread betting is available on sectors and indices as well as individual shares. However, the advantage of spread betting on individual shares is that it is possible to get your hands on far more specific information about the company, such as profit and loss accounts and product information. With indices spread betting it is necessary to forecast what the net result will be, taking into account a number of different companies’ performances. It is also much more difficult to develop the same level of knowledge about each individual component.
Spread betting profits are free from Capital Gains Tax as well as stamp duty, unlike other market gains and for the majority of individuals, are also free from Income Tax.
There are different ways to spread bet on shares, depending on the length of time you want to hold the position open. It is possible to have a short term bet, where the position is opened and closed within the same trading day as well as those that roll over to the next day. However, as there is a finance charge for every day the spread bet is rolled over, for anything longer than a month, it would be more cost effective to spread bet using share futures.
Spread betting on shares, as well as indices in general, involves a spread that constantly changes. The clearest way to show this in practice is with an example.
Going up or going down
You’re a big fan of Burberry and hear a whisper that a reduction in luxury goods import tax in China will be announced soon, which is news of particular interest as the company has a large following in the Far East. You believe that this could lead to a spike in the daily price of Burberry, so you opt to go high on the spread offered of 1524-1527 at £5 per point. It turns out that the rumour-mongers were right and the share price rockets up. You opt to close the trade whilst you are ahead and the spread offered is 1549-1552. The lower price (the selling price) is the one now applicable and you earn yourself a healthy £110 (final selling price 1549 – initial buying price 1527 = 22 multiplied by £5 stake = £110). If, however, you had clung on and the market took a nosedive, with a spread of 1510-1513 offered, you would be £85 worse off (final selling price 1510 – initial buying price 1527 = -17 points multiplied by £5 stake = £85).
Although spread betting on the stock market offers more opportunity for profits than the simple buying of stocks and shares, there is an equal chance of hefty losses, as seen from the example above. Opting to spread bet on stocks and shares does not mean that an investor has to put in any less research about a company’s performance, but it does provide individuals with the chance to make money even when the general trend is downwards. That is the very thing that makes spread betting seriously worth considering, especially in the current financial climate.
How does spread betting on shares works?
This is best explained by an example. Let’s take the case of Tesco PLC (TSCO) – the UK supermarket chain that has been facing some tough times lately. Let’s assume you have a medium term view on Tesco PLC and believe that Tesco’s share price will rise in the next two months or so. It is October and you choose the spread bet contract which expires in December. The spread betting provider is quoting you 192p/193p. This is a just a little wider than the current stock price of Tesco PLC to adjust for the cost of financing.
You have decided that the price is likely to rise so take a ‘buy’ position at the higher spread 193p in this case and buy at £10 per point. £10 per point is the equivalent exposure as if you had bought 1,000 Tesco shares. Likewise, if you had bet £1 per point this equates to 100 shares while £100 per point would have been the equivalent of 10,000 shares.
You have bought at £10 per point at 193p. As we have noted above this is the same exposure as 1,000 Tesco shares. So buying at £10 per point at 193p gives an exposure of £10 x 193 = £1,930. Unlike traditional shares dealing you don’t need to put in the full £1,930 to enter into this transaction. Spread betting works on margin so you only need to tie up a fraction of the overall market exposure. For Tesco the margin could be, say, 10% so £193 would be tied against this trade. This money would be freed up when the trade is closed, with any profits or loss adjusted to the balance.
A few weeks later Tesco’s share price has risen by 40p. The spread betting provider is now quoting Tesco as 232p/233p. You could sell at 232p here netting you 39 points from where the position was opened translating into a profit of £390 (39 points profit x £10 per point). We examine shares spread betting in more detail here.