There are several steps that can be taken to minimize the spread you have to pay on a deal.
Firstly, recognize that fact that the bookmakers' margins are not fixed. There are wider spreads on certain types of bets than others. Unless there is a compelling reason to do otherwise, you should always structure your trades in such a way to take advantage of the lowest spreads available.
In practical terms, for one thing this means doing something as basic as always trading during market hours. If you choose to deal late in the evening, expect to pay about 20 per cent more for the privilege.
Also, favour leading markets over more obscure ones. In percentage terms, the spreads on the minor markets are always higher than in mainstream areas, where there's more liquidity. This is because the spread firms hedge much of their exposure. It costs them more to deal in the minor markets and they pass this on. The result is that, to put it in simple terms, you have to be more right to make money betting on the Dax than the FTSE.
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By all means if you have a strong view about the Australian dollar go ahead and trade, but appreciate that the hurdles to be overcome are that much higher. So always be hyper-selective when considering positions outside the mainstream market sectors.
As mentioned previously, money management is one of the cornerstones of success. It's vital to maintain a bank and to risk only a portion of it on any one trade.
However, the spread firms find it cheaper to handle one large transaction than a dozen smaller ones, so preferential terms are sometimes offered to higher-staking client, as is the case throughout the financial markets. So without compromising your staking policy, bear in mind that higher-unit stakes are usually more cost-effective.
Just to hammer home the point though, sensible staking features that much higher up the list of trading priorities than trying to slice a couple of points here and there off the spread. If common sense and available funds dictate that you have to deal at minimum stakes for the time being, then so be it. Eventually, if you trade sensibly, make some money and build up your bank, at that point you can start to take advantage of those economies of scale.
The choice of contract month also has a bearing on the size of the spread. The longer the contract has to run to expiry, the more expensive it is to trade. Given that the overwhelming majority of spread bets are closed within a couple of weeks of opening, it makes absolutely no sense whatsoever to pay a premium for the privilege of trading a distant month. The standard spread for a 9 month FTSE contract could be 10 points, which is excellent value for a 9-month trade. It is however, appalling value for a 12-day trade, which could cost as little as 2 points.
There is one further important reason to focus on short-term contracts. In some cases, if you allow a bet to run to expiry, then no spread is charged on the close. This effectively halves the dealing costs associated with the trade. Taken by itself, this is not enough to make you run a position that you would otherwise choose to close, but it's an often neglected consideration worth taking into account if a contract is getting near to expiration. The rules in this area vary from first to firm and from market to market, so consult a dealer if you are in any doubt.
Finally, be a good consumer and shop around. The spreads firms all use the same data to frame their prices, taking up-to-the-minute quotes from Reuters and so on, so their prices will always be identical to within a few points.
The dealers, though, do enjoy some latitude. Business ebbs and flows, and if one firm has seen more buyers than sellers, for instance, they might edge their prices upwards slightly in an attempt to balance things out, encouraging sellers and discouraging further buyers. If you have more than one account, it's always worth making an extra call just to ensure that you are dealing with the best terms possible. As always, though, remember that the different firms have different rules and you need to be certain when comparing prices from separate sources that the comparisons are valid.
Whilst minimizing the size of the spread on each individual bet is important, it's only half the story so far as total dealing costs are concerned. The frequency of trading is even more critical.
Thing of it like this: an investor opening and closing a GBP10 spread bet on the FTSE once a week for a year, paying the minimum 3-point spread each time, would run up total annual dealing cost of GBP1560. In other words, he or she would need a 156 point move on the FTSE, correctly called, just to cover the spread.
Now imagine, for instance if instead of trading the FTSE for GBP10 a week at a three-point spread, the same investor were to trade for just GBP2 a week but with a 6-point spread. Over the course of the year, he or she would need to correctly call a market move of - wait for it - 312 points just to break even. That, frankly, is very hard if not impossible.
For investors speculating directly with future and options, which slightly lower dealing costs, over-trading is folly. But for anyone using spread betting, because of the higher costs involved, over-trading is suicide.
If you trade too frequently, you will lose money. It may not happen over a week or a month, but in the end of the percentages are just too great to be beaten. Like a mathematical black hole, they will such in and crush any spread better daft enough to tray to slip by.
The implications are pretty obvious. Spread betting had to be used not just with judgement but also with considerable restraint. The times you don't bet become every bit as important as the times you do.
Having the discipline to spot potential trades and to resist them is not easy. We live in a world where everyday we are being bombarded with information and opinions from newspapers, from friends and colleagues, and from analysts and other commentators. Much of this might tempt you to change your arm in the market. Indeed the primary task of many analysts is less to analyze and more to stimulate turnover. The brokers, after all, are the super-dense material at the centre of that black hole sucking to unwary investors.
So be selective. Wait. Trade not just when you think there's a good change to profit, but also when the downside risk is attractive. Screen out possibilities. Sometimes it may mean missing out deals that would have made money, possibly a lot of it. You have to resign yourself to such disappointments. Just keep reminding yourself that, if you over-trade, the numbers will beat you down in the end.
On the best ways to cut down the frequency of trades is to reduce stakes and to start looking for slightly longer-term moves in the market.
Spread traders tend to have very short-term horizons and nothing is more conductive to over-trading.
One of the reasons why the typical spread bet has the life-span of fruitfly, is, I suspect, because people tend to stake a little more than they should and as a result they get bounced out of positions too easily. With lower stakes, it becomes possible to set looser stop-losses, to tolerate bigger moves, and not to get whip lashed out of positions on the back of nothing more substantial than a day's or two's fluctuations.
To illustrate the point, suppose you feel the FTSE will fall over the next three months. Rather than jobbing in and out and trying to ride the tides up and down each day, if you simply go short, but perhaps for a smaller stake than usual, and let the position run, your dealing costs collapse to nothing. A 10-point spread over 3 months is negligible, and if you get the market's direction right, you can make very significant gains - gains that are not eroded by heavy dealing charges.
Hopefully, the move by the spread betting industry towards lower minimum stakes will encourage more spread betters to start trading with smaller unit stakes and to take positions that reflect a slightly longer-term view of the market's direction.
I am always very keen to get a sense of how the best spread traders operate. After all, you can theorize all day, but what really matters is what works in practice.
The spreads firms are always very discrete about client details, but IG did reveal to me how, one customer achieved what most of us can only dream about.
This unnamed client started with GBP10 bets on the FTSE in August 2000. He called a few moves accurately and gradually built up some profits. Using controlled risk bets, so that those profits are protected, he steadily increased his stakes and started spread betting on the US equity markets as well as the FTSE.
As August progressed, he continued to trade very actively and backed more winners than losers. In the space of about three weeks his stakes rose from the minimum, to GBP100, GBP200, even GBP300 a point.
Then, at the end of the month, he started selling Wall Street heavily - just before it plummeted over 500 points . One bet alone, and there were several, netted over GBP100,000.
In the space of four weeks trading, this guy dealt more than 150 times and made a clear profit, free of tax, free of expenses, free of everything slightly in excess of GBP460,000.
However, let me point out that this is not a typical experience. What's more, anyone who trades that frequently has no right to make any money at all. Sometimes, though, that's how it works out. Analysis and judgement are important when spread betting financial markets. But a little bit of luck goes a long way too...
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