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Forex Articles » Fx Articles » Differences between Spread Betting and Share Trading

Differences between Spread Betting and Share Trading

Good Differences - Spread Betting Versus Trading

No taxes

Right now, there are no taxes on spread betting profits. No stamp duty, and no capital gains tax if you are fortunate enough to have a gain. This situation could change. The authorities in a number of jurisdictions are studying spread betting with a view to bringing it under the auspices of the same agencies that regulate mainstream investments. When this happens it is reasonable to expect that there will be some political pressure to impose taxes as well.

Going short is the same as going long

Short selling is when a trader takes the view that the market, or a particular stock, is in a downward trend, or the price is about to collapse for some reason. There are a number of mechanisms to allow this belief to be exploited. The most common are short selling of the share, and the purchase of PUT options. Of course, if you already owned the share it is open to you to simply sell it, or if you wanted to retain the stock you could sell covered CALL options.

Where short selling or the purchase of PUT options is contemplated, the trader will immediately come up against a number of obstacles. In order to sell short, the broker must be able to borrow the required number of shares to sell, until such time as the trader decides to close his or her short position and buy them back. This could prove to be difficult. In addition, certain shares will not be eligible for short selling at all. These will be securities that are already at a low price to begin with. In Europe, in particular, many brokers will not allow anyone to sell short.

As far as options are concerned, things are not always equal with regard to PUTs and CALLs. Very often, the most liquid market exists on the CALL side and, while you will not normally have great difficulty in purchasing your PUTs, there could be a problem in finding a market when you want to sell them. You could, of course, keep them to maturity, but this increases the risk.

In spread betting, all other things being equal, there is no difference between playing the long side and the short side, except that in one case you want the price to go up, while in the other you want it to go down.

Bad differences - Spread Betting Versus Trading

Transaction charges

It is often claimed that one of the advantages of spread betting is that there are no transaction charges like there would be if you were to deal with a normal stockbroker. This is true, but in many cases you would actually be better off financially to pay the broker.s charges, because spread betting effectively disguises the charge within the spread. We deal with the whole idea of the spread below.

Finite lifetime of the contract

This is a difficulty that also exists in regard to options, of course. Both spread betting contracts and option contracts will expire on a certain date. With options you get to choose the date, but for a price (of course). You can buy options with expiry dates that are more than a year away (these are known as LEAPs), or for certain months in between. The more liquid options can be purchased for expiry on almost any month of the year, while the less traded will have expiries in about three month cycles.

With spread betting there is normally only one expiry month available at any one time but, one way or another, the fact that a time will arrive, and in the near future, when your whole position could expire worthless, is something to bear very much in mind.

Limited securities where spread betting can be used

Financial spread betting companies are more interested in taking bets on the various stock market and other indexes than in the value of the shares of individual stocks. This limits the scope for their customers. One of the advantages of trading individual company stocks is that the trader can make quite informed judgments about the potential of the company.s share price performance based on its assets, cash and cash flow position, the markets it sells into and so on. Where indexes are converned, the only meaningful criteria are broad based economic indicators, such as interest rates and consumer sentiment. The individual investor.s potential for standing out from the crowd, so important for success in investing, is largely not present.

The spread betting companies make the rules

If you buy shares with the purpose of holding them for a relatively short period of time and then selling them, you will be engaging in the activity known as trading. The trader is set apart from the type of person who buys shares with the intention of holding them for a long period, perhaps forever, with the expectation of benefiting over a long period by having an income from dividends with a large capital gain in many years time.

As a trader, you will only have to worry about what the market does. There are very clear definitions of what you can expect to get when you decide to open or close your position. True, you will have a spread to contend with (the price at which you can buy from the market maker will not be the same at a given instant in time as the price at which he will buy from you) but this will be, to a large extent, transparent to the normal trader in a market with normal liquidity.

You will, in effect, be pitted against, and find yourself interacting with, the great body of other traders who are interested in the same securities as yourself. The market will dictate the outcome, for better or worse.

When you start dealing in equity or index options, the position changes. The spread then becomes a significant item, and you will be up against option contract expiry dates, as well as the market as a whole, but at least you are still dealing in a real market, unlike in spread betting.

By Andy Richardson
Financial Spread Betting