Spread Trading Leverage

Leverage is a common component of the trading mix with spread betting, and is in some ways built in to the concept of spread betting. In your favour, leverage can jack up your earnings on a given position, and by hiking your leverage on sure-fire winners, you can increase the prize manifold. Having said that, leverage also carries with it an equal problem on the downside, and one which can completely obliterate your trading account if you're not careful.

Whether you're a first time investor just getting started with spread trading, or you're a massive hedge fund managing billions in assets, the risks with leverage remains the same, and it is imperative to ensure you're in command of your risk profile at all times to avoid the ultimate trading disaster.

Unlike trading shares, which requires the trader to pay the market rate for the share and thereby acquire the asset, spread betting works on staking against the movements of the market, usually over a maximum period of one trading day. Crucially, stakes are placed on a per point basis, which means the stake is applied and multiplied per point of market movement – both up and down.

As an example, assume you bet £50 per point on the movement of a market upwards. For every single point the market moves in your favour, you win another £50. Likewise, on the downside, every point movement beyond your starting point costs £50. So, a five point positive movement brings a return of £250 – a 500% return on investment.

Contrast this with the following example as a regular trader. You buy £50 worth of a share, which is forecast to move in a positive direction. If that share increases in value by the same 5 points, you're left with shares valued at £50.05 – a 0.1% return on investment. As is apparent, spread trading with leverage creates the capacity for vast positive results, but also introduces much more significant elements of risk to the equation.

Leverage is undoubtedly one of the main advantages of spread betting, but it is also one of the main downsides if you don't effectively manage your exposure to risk. Regardless of your trading experience or ability, keeping a constant eye on the degree to which you are leveraged is of critical importance in ensuring sensible trading without too much unnecessary risk.