Spread betting is a common way to trade financial markets in the United Kingdom. It allows traders to speculate on how an asset will move without owning the underlying asset. One of the attractive features of spread betting is that any money made is free from income taxes, as opposed to CFD trading, which is taxable. Yet, spread bettors can and do make mistakes that may leave them unprofitable.
How Spread Betting Works
Financial instruments such as stocks, commodities, forex, cryptocurrencies, and fixed-income assets usually require investors to purchase or sell them in units when they trade. However, traders can choose spread betting to bet on whether the instrument rises or falls from when their bet is taken until they close it. As a tax-free, commission-free, and leveraged activity, spread betting is a better way to trade financial markets.
The opportunity to make profits from betting on spreads is increased by leverage, which allows traders to deposit a small percentage of the position’s value. For instance, a leveraged long(buy) with a value of £5000 and a 10% margin requirement will require a deposit of £500. Since most spread bets focus on short-term price changes, traders can take advantage of quick price movement to potentially make profits.
Yet, there is always the risk of entering a drawdown, and in most cases, drawdowns are due to mistakes that traders make, either in analysis, planning, or execution. Here are the most common errors in spread betting and how to avoid them.
Trading Without a Plan
Successful traders start their trading with highly structured plans. Trading without a plan is your first mistake and could be a major disaster if you keep making it. A trading plan sets detailed rules and conditions for entering and exiting trades. Your plan should identify your strengths and limit errors to factors that you don’t control. Create a trading plan defining your risk, targets, and actions when specific conditions occur.
Emotional trading
Although humans may never achieve machines’ cold, emotionless state, making emotional decisions when trading is always a bad idea. Emotional trading disregards data, market charts, and logic, allowing fear or greed to drive your trading decisions. This is typical with traders who close positions early, use tight stops, and lose profits because they are scared to hold to target levels.
As a trader, your objective should rely solely on your technical analysis for predicting price movements. When you check market news, for example, you should not immediately long or short any asset based on your “gut feeling” but analyse other fundamentals and technical levels.
Betting Without Research/Analysis
Technical and fundamental analysis are the basic trading skills you should not skip. Betting on financial markets involves meticulous analysis of different factors, including economic indicators, company fundamentals, important news, historical key levels, liquidity flows, and spread data.
Betting without due research is a foolish risk that you must avoid. Never become complacent with the market or ignore analysis for any reason. As a trader, your daily routine should involve at least 30 minutes of studying charts and marking important points where prices could react.
Chasing Losses
Trading is generally considered a zero-sum game, and spread betting is no exception. As a spread bettor, your win is another trader’s loss, while your loss is another trader’s win. Your objective should be to keep losses minimal and maximise wins to stay profitable. However, many traders make the mistake of chasing losses.
This is a typical emotional response to a loss driven by the inability to accept statistical outcomes and the desire to recover drawdowns quickly. Chasing losses will cause you to abandon your strategy and trading plan, increase your risks, and eventually enter a loss cycle. You can avoid this by planning for losses, taking breaks, keeping your risks small, and sticking to your trading plan.
Overleveraging
Leverage is an important feature that allows traders to open larger positions with less capital, typically in fixed ratios. Since 2019, the Financial Conduct Authority (FCA) has set a permanent limit on trading leverages, fixing an upper and lower limit of 30:1 and 2:1 for spread bets and CFDs. Leverage amplifies profits and drawdowns, but traders risk liquidation when they are overleveraged.
Poor Risk Management
Risk management is integral to staying profitable despite dynamic market conditions. Poor risk management puts traders under more pressure and could cause an irrecoverable drawdown. Another mistake is failing to set stop losses or take profits, which could worsen drawdowns or allow your bets to reverse from profitable to losing positions. Trading daily is another indicator of poor risk management and may cause heavy losses.
Good risk management involves specific entry rules, such as only using 2% of trading capital per trade and having a fixed target, e.g., a 1:3 risk-to-reward (RR). You can also define when you trade to avoid overtrading or chasing losses.
Errors When Diversifying
Many traders make the mistake of not diversifying and over-diversifying when building a portfolio. Diversification is a strategy to spread risks and maximise profits, but it may severely affect your portfolio if not done correctly. A better idea is to diversify your spread bets across one or two markets and only focus on a few trading instruments with different volatility. Take care not to use too many instruments, though, as that can heighten liquidation risk.
Trading With Unregulated Brokers
Spread betting in the UK is regulated by the FCA. Financial services companies (brokers) offering spread betting must be registered with the FCA and comply with its regulations. Yet, some traders make the mistake of trading with unregulated brokers, risking their funds with companies that are outside regulatory oversight.
Unregulated brokers can manipulate spreads, set poor trading conditions, and even freeze funds, and their traders will have no recourse. You should only trade with regulated brokers that comply with the FCA’s leverage and margin requirements, which are FCA-regulated credit institutions and the UK’s Financial Services Compensation Scheme (FSCS).
Avoid Mistakes and Win at Spread Betting
Betting on spreads is an efficient way to explore financial instruments without owning them as assets. With the tax-free benefits that traders enjoy, the opportunity to keep more profits than day or CFD traders means that spread betting can help you achieve your financial goals faster. Whether you are experienced or just starting your trading journey, be aware of the mistakes mentioned here and do your best to avoid them.
