You can use spread betting to hedge other investments. Spread betting needn’t just be about betting whether something goes up or down. Once you’re comfortable with how everything works, you can also use it in more advanced ways too – perhaps to support other investment decisions. Let’s take a look.
Spread Hedging
You can make money spread betting for profit. Most people to sign up to a site like Capital Spreads will play the markets like a poker game – dipping in and out when they think they have an edge. But you can also use spread betting as an investment tool to hedge against other investments. It’s called ‘spread hedging’, and you can use it to protect yourself against short term market drops.
Hedging is another strategy that you can employ using spread bets. We’ve all heard about hedge funds, and they’re called that because they are allowed to do most anything that’s legal in the financial markets – but hedging specifically is a way of protecting your financial position by betting against it, and as such is a sophisticated technique. It’s not necessarily going to help you win at spread betting, but it could help you save some money, which after all is similar to winning.
Here’s an example
Shorting BT using Capital Spreads’ iPhone application
You work for BT, and thanks to an employee share scheme, you own shares in the company worth £40,740. You’re planning to use the money in 6 month’s time to pay for major building work to your house. (You’re adding a bedroom to your property, because one of your teenage daughters needs her own bedroom).
However, you believe that BT shares are due to fall, which will leave you with less money for the work.
Normally, you’d sell your shares, wait for them to fall, and then buy them back again. The problem is, you have huge gains on his portfolio, and if you sell now, you’ll have to pay high capital gains taxes.
One thing that you can do is hedge your portfolio by selling the BT shares short. If BT does fall like you believe, any value drop in the value of your shares will be offset by the money you make going short.
Suppose your long-term investments included some shares that you were convinced were a good prospect for the long haul, but would suffer a correction soon. You could just sell the shares, and buy them back when the price dropped, you would think. But then you would be paying stamp duty, commission charges for both transactions, and quite possibly capital gains tax. Suppose there was a way to avoid the loss, but not pay all those things?
Having read this far, you can hopefully see where this is going. You can use your spread trading expertise to hedge against the fall in value. You would simply place a down bet for an equivalent amount to cover your potential losses on the shares. Your cost for this would be the spread, which you would be out if you were wrong and the shares didn’t fall in value, but that’s the cost of your “insurance” bet. Otherwise, you would smile happily as the shares lost value, knowing that what you lost on your shareholding was being compensated by gains on your spread bet.
You should set this bet up in the usual way, setting a stop loss to trigger if you were wrong and the shares went up instead of falling. It would be a pity to let the losses run wild on the bet, even though they would be covered by gains in the share value, as effectively you would have given your gains away (and still have to pay capital gains tax on them when you sold).