Futures and Spread Bets

Futures

Gold is one of the precious metals traded on the commodity market, as are agricultural products including corn, and energy products such as oil. If you have looked into it, you will realize that the commodities market, or futures, is big business and highly risky if you do not know what you’re doing. Fortunes are won and lost on the futures market. Although you can trade in “mini” or “micro” lots, the standard commodity trader needs a good amount of money just to play.

Just to emphasize the risk, with the futures market you are essentially taking the other side of a contract that another trader is making, and therefore wagering that your intuition or knowledge is better than his. To all intents and purposes, it is a zero-sum exploit, and successful traders who you may come up against have been doing it for a long time.

The advantages of trading on gold in the commodities market include being able to play on short-term movements in the price, and never incurring physical costs for storage or security. The greatest advantage of futures contracts is that you can leverage your account, putting down say £500 to control £10,000 of the commodity, and this is one key to making a fortune.

Against this, you need to understand how the futures markets work as well as have an insight into the price direction of gold, and the leverage that allows you to make a fortune will also permit you to lose more than the amount of money in your account. Trading on the commodities markets is usually not regarded as investing, as it is not a one-time move from which you watch your money grow, but an exercise where you trade in and out of the market trying to anticipate price moves.

Spread Betting

The concept behind spread betting is simple, and with financial spread trading your betting is no more a gamble than trading on the financial markets. There are some clear benefits to spread betting in many countries, such as the UK, but it is not a means to make a long-term investment.

When you spread bet, you wager on what the price of the underlying goods will be, staking an amount that you choose per unit of price movement. This means that you can leverage your funds, and stand to make a significant amount if the price moves in your favour; however it also means that you can lose substantial sums of money if you are not careful, and the price runs against you.

Part of the definition of betting in the UK is that there is a set time or date when the bet will be closed. It cannot be considered a bet if it is open-ended. There are two ways that spread betting companies satisfy this requirement. Firstly, they offer “futures-style” bets that have expiration dates several months in the future. This does not prevent you from closing a bet early if you want to, as technically this is simply taking out the equivalent opposite bet, which cancels any future liability.

Secondly, spread betting dealers offer “rolling daily” bets. These are daily bets that expire each evening, but the spread betting provider automatically “rolls over” the bet to a new one for the following day. This may sometimes result in a charge to your account.

In return for this technical complication, which is transparent in practice, your trade is treated as a bet, with the following benefits. Firstly, gambling is a leisure activity, and any profits or losses are not taxable transactions in most countries. Even if you make a substantial profit spread betting, it will not be subject to capital gains tax. And as you have never bought the underlying substance on which the bet is based, whether physical gold or stocks and shares, there can be also no question of paying stamp duty or of storage and security.  Your bet can be for the price to go up or to go down, allowing you to profit from a bull or a bear market.

Spread Betting Example

There is no direct commission with a spread bet, instead there is the “spread” which is the difference between the price your bet is placed at if it is a “buy bet” (betting that the price will rise) or a “sell bet” (betting that the price will fall). An example will make this clearer.

Here is the current quote from spread betting provider IG Index: –

Betting on Gold

“Spot Gold” is for the current price, and “Gold” is a futures bet expiring in June 2013. If you wanted to bet that the price would go up, you could place a buy bet at a gold price of 1388.94 in the above picture.

Here is a deal ticket that you would use to place the bet: –

Spread Betting on Gold

Note the prices have changed slightly from the previous picture. Your bet would be a minimum of £5 per point, as noted on the ticket, and be placed at 1388.43.

When you close your buy bet, it will be at the then current selling or lower price. If say the quote went up 20 points to 1407.93 – 1408.43, then the bet would close at 1407.93, meaning that you had gained 1407.93 minus 1388.43 points, or 19.50 points. Even though the buy price has gone up 20 points, you only gain 19.50 because of the “spread” between buying and selling prices. If you had staked £5 per point, you would win 19.50 x £5, which is £97.50.

Before you say that this is unfair, you should realize that this is all your spread betting provider gets for providing the facility to you – but it shows you why you must find a provider who offers a small spread, in order to maximise your gains. If you bet on the price going down, your bet is placed on the selling price and closes on the buying price.

If you are interested in spread betting on gold, you should make sure that you learn about these mechanics, as well as perform research on gold prices.

Contracts for Difference

Contracts for Difference have become very popular in the UK and Australia as well as other markets, but along with spread betting are not yet allowed in the United States due to the Securities and Exchange Commission rules. One reason for their popularity is that they are very easy to understand.

A contract for difference is an agreement to exchange the difference between the entry and the exit price of a contract. The entry and the exit price is that of a share, an index, or other financial underlying matter. There is no time limit on how long a CFD can be held, and you are allowed to buy first or sell first which means you can profit when a price falls, as well as when the price goes up.

This idea immediately makes it possible for an individual trader to exercise substantial leverage on his account. The account needs to have enough money for a “margin requirement”, essentially sufficient money to cover a short-term adverse price movement, and protect the CFD provider from the trader not paying his losses. As the price of the underlying share goes up and down each day, the amount of margin required in the account will vary.

The system allows you to leverage the funds you have to make substantial profits if the trades work out. Because you never take ownership of any shares, you are not required to pay stamp duty. As you are in effect borrowing money, controlling a greater value of shares than the funds you have available, your account is charged interest for any positions that are held open overnight.

However, with poor money management and failing trades it is quite possible for the trader to lose more than is in the account, and end up owing additional funds to the CFD provider. For this reason, you should make sure that you fully understand the CFD system before committing any funds, and have learned about managing your risk.

 

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