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December 10, 2007

Spread betting made simple…

It was an American gentleman named Charles K. McNeil that first incepted the concept of Spread Betting in the late 1930’s. This form of betting has gradually phased into the UK in the 1980’s.

Financial spread betting has accepted a lot of criticism but it’s definitely here to stay. Opponents of spread betting argue that it is a gamble and not an investment and that it robs the stock market of liquidity. Supporters on the other hand, point to the flexibility it offers to investors and traders to back their own judgment on the movement of individual shares and markets such as stock indices, currencies and commodities.

The best way to understand how a spread bet works is to look at an example.

Ordinary Share Spread Bet

Silverjet is currently trading within 86.5 – 87

Investor A believes that Vodafone is going to rise and places a buy bet at 87 for £10 a point.

Investor B has the opposite view and believes that Vodafone is going to fall and places a sell bet at 83 for £10 a point.

Scenario 1

Silverjet rises to 91.5 – 92

Investor’s A prediction is correct: Vodafone has risen and he closes his position with a sell bet at 91.5 and subsequently makes a £45 profit (4.5 points x £10)

Investor B decided to cut her losses and closes her position at 91.5 and makes a £50 loss (5 points x £10)

Scenario 2

Silverjet falls to 82.5 – 83

Investor’s A prediction is incorrect and he decides to close his position by placing a sell bet at 82.5 making a loss of £40 (4 points x £10)

Investor B’s position has moved in her anticipated direction and she decides to close her position by placing a buy bet at 83 making a profit of £35 (3.5 points x £10)

The theory of spread betting is exactly the same whatever instrument you wish to trade on. However the most popular type of spread betting is on world indices such as the FTSE 100 or the Dow Jones and that’s because it offers a very simple mechanism for individuals to bet on the movement of the markets. Historically, the only way an individual investor could benefit from a falling market was by selling shares “short” or maybe by investing in hedge funds.

The process of opening a spread betting account is straightforward, whether it is an online or a telephone account. Investors can hold a ‘credit’ account, where funds are deposited with your chosen spread betting firm, in your own designated account, and winnings or losses are added to or taken out of this account. A ‘debit’ account is where the investor provides credit or debit card details. The maximum agreed potential loss is taken out, up front, and winnings then credited back to the investor. Accounts may be closed at any time.

Interest will be added (usually monthly) on all funds held on deposit, and every account holder will be sent regular statements (usually daily) in an effort by the industry not only to meet but to surpass FSA regulatory requirements. The spread betting industry is fully regulated and supervised, and all client accounts are segregated from those of the firm with which you are undertaking transactions. And perhaps more importantly, there is no stamp duty to pay and no tax on capital gains.

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