What Is Spread Betting and How Does It Work?

Owning financial assets like stocks, commodities, or property is exciting. But let’s face it: it also comes with its fair share of headaches. There are hefty upfront costs and taxes, as well as complex paperwork and market risks from the onset, the asset might not even be worth it. But even if it works out, most new investors firmly believe that this form of investing is still pretty complicated, and the obligations surrounding it can make it feel out of reach.

However, spread betting offers a different approach to making money from the financial market without the hassle of buying or holding the asset. We explain exactly what it is, how it works, and why you should consider exploring it.

Understanding Spread Betting

When you think about investing, you probably picture buying parts or an entirety of an asset, holding onto them for months or even years, and hoping their value goes up over time so you can sell the asset, hopefully for profit. There is no denying that this works, but it requires a lot of money to get started. You’ll also have to deal with taxes and keep up with market news almost all the time. It can be a long and sometimes complicated process.

Imagine making money from the stock market without buying shares or owning financial assets. That’s precisely what spread betting is. Instead of purchasing assets like company stocks or gold, you predict whether their prices will go up or down. If your prediction is correct, you make a profit. If not, you lose money. That’s it. This form of trading means you can take advantage of market movements without investing in the market or dealing with the stress that owning a physical asset might bring.

In the UK, spread betting is rapidly becoming popular in financial markets like stocks, major stock indices (like the FTSE 100), forex, and commodities. It is very different from the standard form of investing that you might be used to because it focuses only on price movements, not ownership. It’s also different from CFDs (Contracts for Difference) because, in the UK, profits from spread betting are tax-free, unlike CFDs, which might come with capital gains tax. Plus, spread betting often has lower costs, making it an attractive option for traders looking for flexibility and fewer fees.

How Spread Betting Works

The basic idea behind spread betting is speculating where an asset will move next. Essentially, you answer the simple question, “Will it go up or down?” If you’re right, you make money. If you’re wrong, you lose money.

Here’s how it works step by step:

1. The Market Price

Let’s say you’re looking at a company’s stock. A broker will show you two prices: one if you want to buy (called going long) and one if you want to sell (called going short). These prices differ slightly because the broker keeps a small gap between them, called the “spread.”

2. Making Your Move

You choose whether you think the price will rise or fall. If you believe the stock price will increase, you “buy.” If you think it’ll go down, you “sell.”

3. Set Your Stake

You decide how much money to bet on each point of price movement. For example, you might bet £5 for every point the price changes.

4. Tracking the Market

Let’s say the stock price goes up 10 points, and you bet £5 per point. That’s 10 points × £5 = £50 profit. But if the price goes down 10 points, you’d lose £50.

5. Risk and Reward

The amount you win or lose depends on how much the price moves and your stake size. This process is what makes spread betting exciting — but also risky.

Advantages of Spread Betting

1. Tax Benefits: Profits from spread betting are free from Capital Gains Tax and stamp duty. However, always check the latest tax rules for updates and consult with a tax professional.
2. Leverage:  You can control larger positions with less money, meaning your money can go further. However, this also increases potential losses.
3. Market Flexibility: Based on your predictions, you can profit in rising and falling markets by choosing to buy (go long) or sell (go short).
4. Wide Market Access: Spread betting lets you trade across global markets (stocks, forex, commodities) without needing to convert currencies.

Considerations of Spread Betting

1. Potential for Significant Losses: Due to leverage, you could rack up a negative balance by losing more than your initial deposit if the market moves against you.
2. Market Volatility: Prices can swing quickly, making it easy to lose money if you’re not prepared for sudden market changes.
3. Cost and Fees: Brokers charge through the spread and may apply financing fees for holding positions overnight.
4. Risk Management: Using tools like stop-loss orders and small stake sizes can help protect your money in the long term.

Getting Started With Spread Betting

Thinking of giving spread betting a go? Here are a few things for you to consider beforehand:

1. Choosing a Reputable Broker: Picking a proper broker is crucial for your trading experience. Ensure the broker you choose is regulated by the Financial Conduct Authority (FCA).
2. Developing a Trading Strategy: Don’t just jump in headfirst. Take the time to research, learn, and develop a solid trading plan that aligns with your financial goals.
3. Risk Management Tools: Learn how to effectively use stop-loss, limit orders and other risk management tools using demo accounts so you can apply your lessons using active accounts with real money.
4. Demo Accounts: Most brokers offer demo accounts where you can practice with virtual money before risking any real cash. You can test out all your strategies with this without having to lose money or your assets in the process.

Before Getting Into Spreading Betting

Spread betting offers an exciting way to profit from the financial markets without owning assets. You also get tax-free profits if you’re in the UK. You shouldn’t also rule out the market flexibility and lower costs. However, understanding how it works and managing risks is crucial, with the potential for significant losses. Take the time to learn, build a solid strategy, and use risk management tools. And remember, it’s always wise to seek professional financial advice before diving in.