Gearing and Leverage
Spread bets are ‘geared’ or ‘levered’
This means they give you the opportunity to make a big profit from a small outlay.
Let’s take a look at an example.
Gearing and Leverage
Ryanair is trading around the €6.00 level. You can:
| a) | buy 500 shares from a stockbroker at €6.00 |
| Money required in stock broking account = 500 * €6.00 = €3,000 | |
| b) | buy a spread bet at €5 a cent at €6.00 |
| Money required in paddypowertrader account = €150 |
- Both positions will have the same result:
If the price goes up and you sell at €7.00 each position gives a profit of €500 - However the spread bet requires a much smaller outlay (€150 vs €3,000).
- This effect is known as ‘gearing’ or ‘leverage’
However this means losses can quickly mount up too so it is important that you understand how
spread betting works and how to manage your risks.
Opening A Position ...
When we buy a new bet we ‘open a position’.
When that bet is then sold we ‘close the position’.
Ryanair is trading at around €6.00 and we are thinking about buying a bet at €5 per cent.
Before opening a position we need to consider:
- The duration of the bet
- How much money is needed to buy the bet
- Where to put our stop loss order
Duration Of A Bet
There are several types of bet available: Daily, Rolling Daily, Monthly and Quarterly bets
- Each bet has a different market expiry date.
- Expiry refers to the ‘length’ or duration of a bet.
Traders often close their bet before its market expiry date. If a bet does reach its market expiry date it will automatically be closed. You then take the profit or loss from that closing price.
- Daily bets expires at the end of the day on which they are opened - unless you close it first.
- Rolling daily bets never expire; as long as you have sufficient funds in your account they will remain open. However you pay a small fee each night the bet remains open.
- Monthly and quarterly bets allow you to hold a position for several weeks or months.
- Monthly bets expire around the middle of the month.
- Quarterly bets often expire in March, June, September and December.
Duration Of A Bet
Rolling daily bets never expire; as long as you have sufficient funds in your account they will remain open.
However you pay a small fee, called a rollover charge, each night the bet remains open:
- - Spread bets are ‘geared’: you only put down a small amount of money, but you get the benefit of a much larger investment
- - In effect you are borrowing the money to make up the balance of the investment.
- - The rollover charge is the interest you are paying on the borrowed money to keep the position open an extra day.
For more details on how rollover charges are calculated see our Guide To Rollover Bets
Duration Of A Bet
Don’t forget that you can close your bet at any time before the bet expires during paddypowertrader market hours. Market hours vary from one instrument to another but for shares they would be similar to the exchange’s opening hours.
Initial Margin
- When buying shares we need to pay the full purchase price of those shares.
- However with spread betting we only need a fraction of the value of the shares available in our account. This amount is called the Initial Margin.
- Each bet has a value, called an ‘Initial Margin Requirement’ or IMR. To calculate our Initial Margin we simply multiply our stake by the IMR.
Initial Margin
- We want to buy the Ryanair June bet at €5 per cent
- The IMR is 30
- The formula:
Bet stake x IMR = Initial Margin - We need an Initial Margin of
€5 * 30 = €150
in our account to buy this bet
Making More Bets
When we place a bet a certain amount of money becomes ‘tied up’. That money will be used to cover the potential losses our bet might incur - so it cannot be used for trading until that bet is closed.
The funds in our account, less the money ‘tied up’ by our bet, is called our Trading Resources.
We can make more bets. However the Inital Margin of each new bet must be less than our Trading Resources.
Stop Loss Orders
An order is simply an instruction you send to paddypowertrader to buy or sell a bet.
However stop loss orders are really important so we’ll discuss them here.
Stop Loss Orders
- An order is simply an instruction you send to paddypowertrader to buy or sell a bet if certain conditions are met.
- A Stop Loss Order is a particular type of order that closes your trade if your losses reach a specific level.
- Stop Loss Orders are important because they act as a safety net and can prevent you from making big losses.
- Every time you place a new bet paddypowertrader will automatically place a stop loss on for you.
- However you can change the level of this stop loss as often you like.
- At paddypowertrader we always do our best to execute your stop loss orders at the price you want - but as markets can gap stop loss orders are not guaranteed. Click here for more information.
An Example Trade...
Previously we said that Ryanair is trading at around €6.00 and we are thinking about buying a bet at €5 per cent
Before opening a position we need to consider:
- The duration of the bet
- How much money is needed to buy the bet
- How to use stop loss orders
To Sum Up
- Spread bets are available in various durations: Daily, Rolling Daily, Monthly and Quarterly.
- Spread Bets are ‘geared’: they give you the opportunity to make a big profit (or a big loss) for a relatively small outlay.
- As spread bets are geared, losses can mount up. So it is important to use stop losses to manage your risk.
- Every time you place a new bet paddypowertrader will automatically place a stop loss on for you. However you can change the level of this stop loss as often as you like.
- We always do our best to execute your stop loss orders at the price you want - but as markets can gap stop loss orders are not guaranteed. Click here for more information.
Congratulations!
You have now completed tutorial two.
In tutorial three we’ll look at one of the tricks the professionals use - going short.
