Q. How do providers calculate the bid-offer spread for shares?
A: To price shares a spread betting provider will typically take the underlying bid price and the underlying ask price and then add their spread around this. This means that the provider’s bid price will be slightly lower than the underlying bid price and their ask price slightly higher than the underlying ask price. As the underlying market spread widens or narrows the provider’s spread will widen and narrow with it.
Let’s talk about the different spread bets that are available. Years ago the bets had quarterly expiry so we had March, June, September and December spread bets. If we want to, we can still do a BP December spread bet, for example.
The FTSE 100 index is just a number. People refer to trading the FTSE itself but you can’t actually do this – you can only trade the futures. So the way that we make a daily price is by looking at the futures first and then bringing it back, removing the interest rates and adding the dividends. With shares we can’t do that. There is a futures market but it’s incredibly illiquid and it only covers a small range of shares, so we take the share price as it is, plus the interest and minus the dividends. It’s simply a spreadsheet that is calculating this – it’s not as if someone at IG has hung over a screen working out what they think will happen. If we felt that we knew which way the market was going better than anyone else we’d be the world’s greatest fund managers. We’re simply producing a price based on the mechanics of dealing this as a futures trade rather than a trade here and now.
Q. Why does the spread in individual shares vary?
A: Individual share futures mirror the underlying price of the share in the market. These spreads vary according to the liquidity in that share. At the beginning of a trading session, these spreads may be wider as there are fewer orders in the market. The spread betting provider will reflect this scenario in its future price as its spreads are quoted around the actual market price.
Q. Do the bid/offer spreads offered by spread betting companies vary from company to company?
A: Spreads do vary, but which company is cheapest depends on the particular market you want to take a position on.
The difference in spreads is more significant if you are trading actively, e.g., intra-day betting on indices and share prices, where spreads could form a significant proportion of gross gains. In this situation, it might be worthwhile open several accounts with different companies and for each bet choosing the one with the cheapest spread.
If you are taking longer term positions, which in the context of spread betting I would personally define as a month or longer, the cost of the spread becomes less significant and it probably wouldn’t be worth the hassle of opening multiple accounts. This is how I spread bet, and personally I currently use mostly Trade Nation.
A spread bet generally has a time-frame attached to it, so when we make a price we have to factor this in. If you are looking at the FTSE or commodities, it’s easily done as we can follow the futures market, but
for shares it’s somewhat different. For share futures we have to make the price synthetically by using what’s referred to as ‘cost of carry’. This is simply a calculation of the interest that borrowing at 505p, say, would incur over the period of the bet minus the dividends that the company may pay out, and then we put our spread round it. That is how we make a price. It’s not a judgement on where the market is going, it’s not a view or anything like that – just a simple replication of the share price plus interest minus dividends. – Spread Betting Insider
