How to trade indices?
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Whenever you spread bet on something, you're presented with two numbers: the buy price and the sell price.
So if you wanted to bet on the price of a stock index like the FTSE 100, for example, you might see prices like this on your spread betting platform:
If you thought the value of the FTSE was likely to rise, you could 'buy' at the higher price -also known as the offer price - of 6500.5.
If you expected the FTSE to fall, you could 'sell' at the lower price - known as the bid price - of 6499.5.
The gap between these two prices is called the spread, and this is what gives spread betting its name.
What is the spread?
Neither the buy price nor the sell price represents the exact value of the financial asset you're betting on (also known as the underlying asset). Instead, the buy price is slightly higher than this value, and the sell price is slightly lower.
In the above example, the real-world value of the FTSE would be halfway between the two prices, at 6500. The difference between the buy and sell prices is just 1.0 in this instance, which is a spread of one point.
How does the spread affect me?
The spread is essentially a fee that your spread betting provider charges to place your bet, and the narrower the spread, the better it is for you. Let's look at why.
To close a bet, you need to take the opposite action to when you opened it. So if you open a bet by 'buying', you close by 'selling' and vice versa.
In our FTSE example above, if you 'buy' at 6500.5, you'll need to 'sell' at the same price or higher when you close the bet, or you'll make a loss. This means the underlying FTSE price will have to rise by one point before you break even.
So the size of the spread determines how far the market will have to move for your bet to become profitable.
When you spread bet, you stake a certain amount of money on each point of movement in an asset's price.
CFD indices trading v Spread betting indices trading
CFD trading closely resembles spread betting. However, although these two derivatives products are very similar in many ways, there are some key differences to be aware of.
When spread betting, you bet an amount of money per point on whether a market will go up or down. For instance, you might bet £5 per point that the price of the FTSE 100 will fall. With CFDs you buy and sell contracts that represent a specified amount in the underlying market. For example one standard FTSE 100 contract might be worth £10 per point.
Capital gains tax
Spread betting profits are currently free from capital gains tax, but CFDs are liable because they are classed as a financial instrument. This may seem a major drawback, but any losses can be offset against future profits for tax purposes. Note that stamp duty on share trades doesn't apply to either spread betting or CFDs, as you never own the underlying shares in either case. (Tax laws are subject to change and depend on individual circumstances. Tax law may differ in a jurisdiction other than the UK.)
Spread bets tend to have fixed time limits - anything from minutes to several years - when they'll naturally expire if you haven't already closed them. Most CFD trades, on the other hand, will stay open indefinitely (although there are a few exceptions, such as futures and forwards). When you want to close out a position you simply place a trade in the opposite direction to which you opened it.
How do dividend adjustments affect my spread betting or CFD position in an Index?
Constituent stocks of an index will periodically pay dividends to shareholders. When they do, this impacts the overall value of the index causing it to drop by a certain amount.
It’s important to remember that leveraged index traders can neither profit nor lose from these price movements, as they’re scheduled public events. Whilst a long position will receive a payment equivalent to the ex-dividend points paid out, the index will subsequently fall by the equivalent number of ex-dividend points paid out by the index you are trading (see below example). Were a trader able to profit from these movements, they’d simply place a large short position just before the adjustment and close out just after, locking in the drop in the value, but in this event a short position pays out the dividend.
If you have an open position through a dividend adjustment, we’ll ensure that there is no material impact on you by either crediting or debiting your ledger with the exact amount you have incurred as additional running loss/profit due to the dividend adjustment.
Let’s look at some examples:
You are long £10 a point of the FTSE 100 DFB at 4:30pm when there is a dividend adjustment that takes 7.8 points off the index. Our FTSE 100 DFB price drops by 7.8 points, so your running profit and loss (P&L) is reduced by 7.8 x £10 = £78. We therefore credit your ledger with £78, to negate this drop in P&L.
Now, let’s say you’re short two standard lots of Wall Street Cash at 9pm when there is a dividend adjustment of 2.9 points. Our Wall Street Cash price drops by 2.9 points, so your running P&L is increased by 2.9 x 2 x $10 = $58. We therefore debit your ledger with $58, to negate this rise in P&L.