I still remember making my first spread bet; nervously watching the value of the UK 100 tick up and down as I calculated my winnings and losses with each minute movement. For beginners, and even experienced traders, it can be a little nerve wracking, as well as exhilarating, as you await the outcome of your bet.
In my experience, it is all too easy to panic when your losses start to accumulate and leave a losing position open for far longer than you should in the hope it will turn around, or to get over excited when you make a profit and cash-in when you could have stood to gain much bigger rewards.
As such - and this will come with practice and experience - it is vital to know how to make the most of your winnings - as well as what to do if you find yourself making a loss on a position if you ever hope to make a profit from spread betting on forex, stock market indices, or any other financial instrument.
The most fundamental aspect of this is betting the right amount in the first place. No one should be betting more than they can afford to lose, but at the same time, there is little point on risking large sums for little reward. As a starting point, I would advise against ever risking more money than you have the potential to make on a trade (known as a risk/reward ratio). So, if you are risking an exposure of £100, you should be hoping for a return of £200 minimum.
There is a saying among traders: 'let your profits run and your cut losses short'. There is no point in risking £100 to make a £10 gain and equally there is little reason in sitting on a £500 loss if you could be investing money in a more profitable trade elsewhere - you must try to stick rigidly to acceptable risk/reward ratios as much as possible remove all emotion from the decision. I know this is easier said than done, and I have fallen victim to closing a winning position too early, or closing a losing one too late, on several occasions. But if you try to bet based on rational calculations as much as possible, you stand a much better chance of making a decent return.
If you find yourself up on position, and you're thinking about closing it, stop and take a few moments to ask yourself why you should cash-in now. Is there evidence to suggest that the value of the instrument is about to change? Is there a new support level in sight that could break the fall of its value if you're short-selling?
One option if you're torn between closing a winning position to protect your gains or leaving it open in the hope of milking it further, is to take some money off the table to bet elsewhere, say 50 per cent, and letting the other half run. It can be frustrating if you sell and a share keeps moving in your favour, but at least you've still made a profit.
You've probably already come across spread betting terms such as stop orders, guaranteed stops and limit orders. These form part of a range of risk management tools used by spread bettors and I will address them in more detail in a future post, but basically they can be used to place limits on the maximum loss you can make on a bet, as well as close out a winning position if the value hits a certain level.
Again, when placing stops you should be realistic about what is an acceptable gain or loss based on the size of the risk. You must be realistic about how much you think you could gain on a bet or how much you are prepared to lose before cutting your losses - there is no point in putting a stop at 700 points if you only take away 20. Discipline is also key here - if you put in a stop loss, stick to it. Don't move it further and further away in the hope a position will turn around as this defeats the whole purpose.
All this can seem a little overwhelming at first. That's why I can't recommend enough taking out a spread betting demo account to see how risk management strategies can work in practice before trying the real thing.
Above, I mentioned the importance of using stop loss orders to help minimise any losses you could make while spread betting. Here I want to elaborate on this topic a bit more because stop loss orders really are essential, repeat: essential! to successful spread betting.
So, starting with the very basics, a stop loss order is a way of placing a limit on the amount it is possible to lose on any single bet. It's a safety net against losing more than you can afford and allows you to get out of a losing bet early so that you have greater funds to invest in a more successful position. Stop loss orders are also a good way of managing your positions without needing to be constantly monitoring the movement of whatever it is you're betting on. You can use them to either close out a position at a certain point, or to enter into a new one.
There are two basic types of stop loss orders - stop sells and stop buys. A stop sell order allows you to either close out a buy order or open a sell position once the bid price of a market hits or goes past the level you have selected. A stop buy order is, fairly obviously, the same but in reverse - that is, it allows you to close a short position or open a long one once an offer price rises to a certain point.
Got that? Good. Because that's just the fundamentals.
Next we need to talk about what's known in the industry as 'slippage'. This is when the price of a market moves through and past the limit you've specified as your stop. This can happen either because the market moves so quickly that a single fluctuation is greater than one point, or because it moves in between trading sessions. Let's run through a quick example just to make this clear...
You think that the share price of a mining company is undervalued at 466p, so you buy at the offer price (i.e. betting it will rise) and then use a stop order at 456p to limit your losses in case you're wrong. But, after the day's session's closed, news breaks of an major accident at one of the company's mines. By the time trading opens again the next day, the stock opens down at 427p, completely jumping over your stop loss order. This is the slippage, and means your stop loss order is activated at 427p, not 456p.
In a case as extreme as this, slippage can be a disaster for those spread betting on indices, stocks and shares, commodities and other fast-moving markets. Luckily, there is a tool you can use to stop this happening - guaranteed stops. This means that, for a price, the spread betting company will guarantee that your stop order will be filled at the exact level you specify.
Whether using a guaranteed stop is the right thing for your position will depend on factors such as the volatility of the market, how closely you can monitor the situation and the length of your bet. I should point out that guaranteed stops are a number of ticks away from your opening position, typically 50-100 points.
Finally, most spread betting companies offer what are called trailing stops, which, if a bet moves in your direction, allows the stop limit to move in proportion. This means you can maximise profits while still having an adequate safety net in place. For example, if you opt to buy at 5,200 on the UK100 with a 20 point trailing stop, and select that stop to rise in steps of 10 points, if the price of the UK 100 moves up to 5,210, your stop order will also move up ten points to 5,190; if it moves up to 5,230, your stop would rise to 5,200 and so on.
If spread bettors do not use use these vital spread betting risk management tools then they are exposing themselves to more risk and are a common reason for getting margin calls.
Let's say you ignore stop loss orders and open a position on any market, the UK100, for example. You go long and bet on that market to go up but, while you're busy at work there's breaking news which causes the price to go through the floor. You come home, log onto your trading account and suddenly realise that the UK100 is down 300 points and you're out thousands of pounds, all because you didn't take a couple of minutes to learn about stop loss orders. These tools are here to help make you more successful at spread betting and manage risk.
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