Spread betting: the pros and cons

Spread betting advantages: so what's all the fuss about?

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Tax free (no CGT): as regulation in the UK currently stands, financial bets are not treated as an investment activity. As such unlike conventional share trading, there is no capital gains tax (CGT) or stamp duty to pay on transactions.

Low initial capital required: one of the key features of using spreadbets is leverage. You can trade with a lot more than you deposit. However, leverage is a double-edged sword and should be used with caution as you stand to lose a lot morethan your deposit if you are not careful. In order to mitigate this possibility, many brokers offer the opportunity to protect yourself by placing stops when you trade. This is discussed further below.

Loss control: since a spreadbet is a margined product (employing leverage), there is always a risk that if things go wrong, you could lose a lot more than your stake and the amount that you deposited in the first place. However, most companies now offer loss control facilities such as stop losses.

Using a guaranteed stop loss for instance, you can control the risk of loss (and overall value of your account that is at risk) quite specifically so that you know the maximum amount of money that you could lose at the outset. This feature changes the overall risk profile of the trade by letting you set a pre-determined maximum risk exposure while leaving you with unlimited upside and potential profit.

Guaranteed stop-losses are beneficial features which give financial spread bets one of the crucial advantages of traded options, where your initial stake (premium) is you maximum exposure.

Multiple markets from single account: the beauty of spread-betting on financial markets as it is currently structured is that you can trade numerous markets from one single account. You can trade various markets such as the FTSE 100, Dow, S&P 500, Crude Oil, Gold, Bonds, Nikkei, and a wide range of currencies from your one account.

Ability to sell short: Virtually all companies offer the opportunity to profit from both rising and falling markets.

You can profit from falling markets by selling short. 'Selling short' is different from ordinary selling that most share traders and investors are used to. When the shares that you bought have risen to a sufficient level for instance, you realise your gain by selling the shares and taking your profit. So, you buy first then sell later. Consider a situation where this order of transactions is reversed, so that you sell first and then buy back later.

Take for example that you came to the conclusion that the price of a share of ABC company was going to decline by 50 pence over the course of the next few trading days, if you owned the share in the first place, you may want to sell your holdings in order to avoid the price drop. This ensures loss prevention and preservation of capital. [By the way, you can also retain your share holdings and simply take a counterbalancing hedge position using financial spreads]. But what if you did not own the shares in the first place? Well, if you were interested in making money from your views, then you could go 'short'. Using financial spread betting, you simply open your position with a sale. You sell the shares and then buy back when they are 50p cheaper. That way, you make the difference between the sale price and the purchase price. So, you sell first and then buy later - practically no different from buying first and then selling, just a reversal of the order of transactions.

As all traders know, in spread betting, timing is everything!

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What are the disadvantages of financial spread betting?

Spread betting has its downsides too. Some of these include:

• tax rules are subject to change
• potential for substantial losses in excess of initial stake
• no rights to dividends or other shareholder benefits

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