Spread betting has the potential to generate healthy profits; however, because it is a leveraged product and you are speculating on the financial markets, it has its risks to look out for. In this article, I’ll highlight what these risks are and how you can calculate them so you can better judge whether a spread bet is worth the risk.
What Are the Risks of Spread Betting?
Volatile markets lead to significant spread betting risks leading a trader’s balance to change rapidly. This can lead to an account close-out risk where the broker forces a trader to exit traders to avoid a negative balance. Due to the nature of spread betting, there are certain risks you must be aware of before trading.
1. High Leverage
A major risk of spread betting is that leveraged trading can easily wipe you out if you are not managing your risk correctly. Leverage is a double-edged sword that can amplify your wins or accelerate your losses, so it’s something you should manage actively. If you bet without a stop loss, you are exposing your entire account to the markets – if the markets suddenly drop 100 pips, this single move could potentially wipe out your account.
When you spread bet, you place a stake per point, which is how much you will win (or lose) for every point the financial market moves in your favour. To do this, you must use leverage to enter a bet with a small margin but control a larger trade size. Leverage is displayed as a ratio in financial spread betting, which you will see as 1:33. This means for every £1 you deposit in the margin, the broker will loan you £33.
For example, if you want to open a £1 per point position on EUR/USD, the broker may want you to have a margin of £330 to open the bet. This is a 1:33 ratio leverage to control 10,000 units of EURUSD or 3.33% margin required. A £1 stake is essentially the same as opening a 0.10 lot trade with the EUR/USD CFD and therefore has a similar margin.
Most brokers allow you to place stake sizes as low as 25p per point, meaning if the financial market goes up 10 points you will make £2.50. Equally, if the market drops 10 points you will lose £2.50. This may not look like a lot of money but bear in mind the EUR/USD can move up and down 20 pips or so in minutes of trading, multiple times throughout the day.
2. Market Volatility
Spread betting companies provide access to an extensive range of spread betting markets, allowing you to trade more liquid, lower volatility assets like EUR/USD or FTSE 100. Or you can spread bet more volatile and less liquid assets like forex majors that are more susceptible to market news and events. It makes sense to specialise in the lower volatility markets as they are cheaper to trade, easier to monitor, and more predictable when it comes to events that impact the price.
With the financial markets being available 24 hours a day during the working week, news and economic data can impact your positions, causing volatility while you are asleep, so implementing risk management is essential.
Technology allows brokers to execute your spread bets in milliseconds, making it faster than ever to bet on the markets. Unfortunately, if you have had a bad trading day, this makes it easier to chase losses and start to overtrade the markets.
Although, overtrading isn’t necessarily only done by bettors chasing losses. Bettors who are performing well or bored because they can’t find an attractive opportunity can also find themselves overtrading – either out of boredom or to test their luck.
4. 24-hour markets
Because financial spread betting tracks the underlying asset price in the future markets, it allows you to spread bet 24 hours a day. This is a temptation if you find yourself addicted to spread betting or having a bad day and need to turn a profit by chasing losses.
For example, you could find yourself betting on markets during the Asian session that you have no idea about, with wide spreads and are very volatile to trade. These types of errors in an attempt to recover from a loss-making day can easily wipe your account out.
Can Risk Be Calculated?
Risk can be calculated to a certain extent through a risk-reward ratio, which allows you to gauge whether a bet is worth the risk. Most bettors like to go for a risk-reward ratio of 1:2, meaning if they risked 10 pips, they’d like to have a profit potential of at least 20 pips. For example, if the bet has a poor risk-reward ratio (1:0.1), you may avoid it altogether, while a high ratio (1:10) would make it worthwhile.
There are different risk-reward profiles for each bettor and strategy. For example, if you are a swing trader who may not enter many trades throughout the week, your risk-reward may be 1:10. While scalpers may have a different risk-reward profile of 1:0.5 due to the frequency they trade and the short-term trading window.
To generate a risk-reward ratio is straightforward: you divide the potential profit by the maximum risk you are willing to take. For example, if you find that a bet has the potential to make £100 profit, and you are willing to risk £20, this generates a 1:5 risk-reward. Let’s go through how to create your risk reward using various methods:
1. Determine Potential Loss:
You can do this in many ways, either using technical indicators, price action, or your own risk tolerance. I like to use technical analysis to determine my risk and reward levels, but there is no right or wrong ways to do this.
Example 1 (finding risk):
Alternatively, you could use support and resistance levels to see where the price reacted in the past and use this information to calculate your risk.
In this example, you can see that the resistance level is 18 pips away, so you would use this as your maximum risk potential (or round it to 20 pips to allow some breathing room).
Example 2 (finding risk):
Or you may have a strict risk management in place that allocates your maximum loss for you already, such as 0.5% of your total capital. Let’s say you have £1,000 betting account and based on the 0.5% risk per trade you follow, this allows you only to risk £5 per bet. The advantage of this method is that it is simple to implement and will dynamically alter the risk based on your account size.
Once you have done any of these methods, get the numbers you found from each method and then times it by the stake. This will give you your potential risk value.
Support and Resistance = 20 pips x £10 stake = £200 risk.
Risk Management settings = 10 pips x 0.5p stake = £5 risk. (0.5% of £1,000)
These are just some ways you can calculate risk at a level that would most likely suit your current trading idea. If you just use an arbitrary figure like risking 20 pips, you could fall short of many trading ideas because your risk (stop loss) never allowed you to benefit from the true market movements.
When you are happy with the risk, this would be the ideal place to add a stop-loss order to your bet and monitor the position. Our spread bet example section has more practical scenarios to give you a feel of how this type of trading works.
2. Find Your Potential Take Profit
Example 1 (finding take profit): Using the same example from the resistance bet, you would use the nearest significant support level like below:
When you measure this, it shows a 36 pip move, this would be your target reward from this bet and depending on how you feel, you can round it up to 40 pips or down to 35 pips.
Example 2 (finding take profit): If you use your own risk management metrics, you may want a reward of 1%, which on a £1000 account is £10 profit. Based on the previous risk management example, this would account for 20 pips based on a 50p per point stake size.
3. Generate Your Potential Risk-Reward Ratio
Now you divide the potential profit by the potential loss values you found in steps 1 and 2 to get your risk reward.
Potential Profit / Potential Loss = Risk:Reward.
£200 / £100 = 1:2 risk reward ratio.
So in the examples provided above:
Example 1: Risk: 20 pips / Reward: 40 = 1:2 ratio
Example 2: Risk 10 pips / Reward: 20 pips = 1:2 ratio
Both examples provided a similar risk-reward ratio; however, in example 1, you used the market to help define the potential risk and profits and offers a higher reward value (40 pips). Whereas in Example 2, this method is very strict because you limit your bets to your account size, not what is happening in the market.
You Cannot Calculate Risk For All Events
Some factors influence the risk you cannot account for, which are uncertain events. For example, you cannot calculate the risk of natural disasters or geo-political instability, such as wars starting that could plunge (or spike) the value of your spread bet in seconds.
What Spread Betting Brokers Are Best To Manage Risk?
Pepperstone – Best overall spread betting broker
Pepperstone is our highest-rated spread betting broker that we’ve tested this year, with fast execution speeds, spreads from 1 pips, and an excellent selection of spread betting platforms. In particular, Pepperstone is one of a few brokers offering spread betting on TradingView, so if you want advanced charting tools with low spreads, then Pepperstone is our top pick.
City Index – Great Spread Betting With GSLO
City Index is an excellent forex broker with various tools that help support your performance growth and risk management. We like that the broker offers guaranteed stop loss orders to help maximise your losses and protect against slippage, which is helpful during volatile markets.
The broker offers a Performance Analytics tool that monitors and provides feedback on your trading in real-time, useful for understanding where you perform best and worst so you can avoid it in the future. These tools help make City Index a top choice for risk management tools.
IG Group – best for the widest range of markets
If trading multiple markets is important for you, then IG Group is our best recommendation. You can bet on over 17,000 markets, including forex, indices, commodities, bonds and ETFs. As a bonus, you can also spread bet on options, an excellent product for utilising market volatility with built-in risk management.
FXCM – Good MetaTrader 4 Spread Betting Platform
FXCM offers decent trading services with its competitive spreads and solid choice of trading platforms, including MetaTrader 4, which is ideal if you want to automate your spread bets. We like that FXCM provides access to Capitalise.ai, allowing you to develop an automated spread betting strategy without learning to code through MetaTrader 4.
FxPro – Best Spread Bet Trading App
We rated FxPro the best for spread betting mobile trading app with its excellent range of built-in technical indicators, market sentiment analysis tools, and responsive mobile notifications. These tools are essential if you are a spread bettor who likes to analyse the markets while on the move.
OANDA – best for spread betting beginners
If you are a beginner and want a broker with competitive spreads while having user-friendly features, then OANDA is our top choice. The broker has features ideal for beginners with its low minimum stake sizes (10p stakes) and that you can set up a default trade setting that is used every time you bet. By setting a default trade setting, you save your stake size, stop loss and take profit orders so they are automatically filled in with each new bet. This is helpful for beginners as it prevents mistakes from entering markets by mistyping or forgetting to add a stop loss. The broker also has an easy-to-trade share spread betting range.
CMC Markets – Good Spread Bet Broker For Forex Trading
If you want to spread bet on the forex markets, then CMC Markets is our recommendation with its 330+ different markets to bet on. The broker also has an excellent spread betting platform with advanced tools like the pattern recognition tool that finds trading ideas daily, ideal for betting on the forex markets.
Spreadex – Best Sports And Finance Spread Bets
Spreadex is a top choice if you want to spread bet on sports and financial markets with one account. The broker has a decent spread betting platform with advanced trading tools like the Automated Pro Trend Lines and pattern recognition tools, which are useful to help you with technical analysis throughout the day.
The Risk Of Courses And Seminars
Within the UK there have been advertised free training programs often in the form of nighttime seminars. These will often talk of get rich quick schemes using spread betting. Often they are either a scam or just a way to get them to use a poor broker with high fees or that is a market maker. We have details this on the spread betting course section and should be avoided at all cost!