Financial Spread Trading
Financial spread trading is a method of profiting from the movements of shares, currencies, stock markets, commodities or just about any financial instrument you can think of. The way you do this is by making an agreement with a stockbroker or spread betting company that if a share price moves a certain amount they will pay you, but if it moves in the opposite direction, you pay them. For simplicity's sake we will concentrate on trading shares but it is just as easy to trade any of the other financial instruments already mentioned.
What is a financial spread?
Put simply a spread is the amount a share price moves in a certain time period. Looking at the London Stock Market at the time of writing the Lloyds Group rose from 66p per share to 69p per share; thus the spread was +3p. The spread is also sometimes referred to as 'the change' and is often quoted as a percentage; so for Lloyds the change was +4.8%. For long term investors these small changes are neither here nor there. They are instead more interested in the actual price (i.e. 69p), because multiplied by the number of shares they hold this tells them how rich they are, and the ups and downs will iron themselves out over time. For the financial spread trader however, it's a different picture. The size of these small movements is crucial because that's where they make their money.
Financial spread trading example
Lets stick with our example of Lloyds Group and imagine that you previously had good reason to believe the share price would go up today; so you made an agreement that for every penny the share rose you would receive £100. This is your stake. As it turned out you got it right and you pocketed £300. If the share had gone up further you would have gained more but if the share had dropped you would have ended up owing a similar amount. So what are the advantages in making this kind of contract rather than just buying the shares?
Advantages of financial spread trading:
- Large profits from small movements
- Larger gains from a smaller outlay.
- Quicker profits - often daily.
- No lump sum of money required - just enough to cover any losses.
- It's tax free - hard to believe but there is no tax on spread betting wins.
- Little or no broker's commission.
Just to clarify one frequent confusion: when trading shares you are offered a slightly different price depending on whether you are buying or selling. This difference is also sometimes referred to as the spread. It's a similar concept but it is not what we are referring to when we talk about spread trading.
Get started with financial spread trading
There are two ways to trade financial spreads: CFDs and financial spread betting.
CFDs
CFD stands for contract for difference. A CFD is a contract you make with a CFD provider to pay or receive the difference between a share's starting and finishing price. So with our above example you might decide to buy a CFD for say 200 Lloyds shares and at a later point, say tomorrow, next week or next month you decide to close the contract. Your payout is decided by how much Lloyds rose in the period you were holding.
Financial spread betting
With spread betting you make a bet on the share price in much the same way you would bet on a sporting event: i.e. you bet the number of £s per point you wish to collect should it go up and likewise this is what you lose should it go down. Spread bets generally expire at the end of the day so if you dont call the bet off before the end of the day the winnings are calculated when the markets close.
To find out more read our financial spread betting guide for beginners.