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Spread betting, CFDs, warrants and fixed-odds

Created:

16 June 2008

Updated:

22 June 2009

Written by:

Dominic Picarda

While holding shares, bonds and other assets for the long-term will be the main way you build your wealth, there's a strong case some short-term speculation too. Short-term trading is exciting and potentially very profitable, and a great way to make use of any spare funds left over after you've put into your mainstream investments.

For the private investor, there has never been more choice when it comes to taking short-term. Through financial betting, CFDs and other derivatives, it's easy to exploit market movements over a few seconds up to a few weeks.

Spread betting is the most the popular type of financial betting. Our introduction to the subject covers everything you need to know, from which is the best trading platform to using charts and technical indicators to time your trades. We've even got an interview with Sally Nicol, author of Bets & the City!

Click here to go to our Investment Guide to spread betting!

Contracts for difference (CFD) work identically to spread betting but gains are not exempt from tax. On the plus side, CFDs are normally offered by stockbrokers rather than spread-betting firms, so you should be able to find tighter bid-offer spreads. Brokers normally offer CFDs based on the same spread as an underlying share and then charge a dealing commission on the CFD (both to open or close the position), whereas spread- betters normally widen the spread to make their profit.

See our introduction to contracts for difference.

Fixed-odds and binary bets:

With fixed-odds financial betting, you can bet on movements in an ever-widening range of assets. These include individual shares, equity indices, commodities and exchange rates. This gives you the opportunity to go where the action is hottest. Perhaps you've no strong views about where stock markets are going just now, but you think gold is heading for the stars. From your one fixed-odds account you can as easily bet on one as the other.

See our introduction to fixed-odds betting.

Covered warrants

Covered warrants are essentially options targeted at retail investors. They are traded on the London Stock Exchange, so all brokers will offer them, provided you sign a risk disclaimer. You cannot write covered warrants.

Like options, warrants have strike prices and expiry dates, so pricing can be a little difficult to work out. However, downside risk is limited to the premium paid, so they are suitable for either hedging or speculation. Again, buy calls to go long or puts to go short.

For more on covered warrants, see the IC guide to trading covered warrants.

Accelerated trackers

These offer a combination of leverage, which magnifies your gains or losses, and capital protection, so your maximum potential loss can be quantified at the outset. They have fixed lifespans, but unlike many structured products, they are freely traded so you don't have to buy into them at the start of their lives, or hold them until the end.

For more information and examples, see our guide to accelerated trackers

Options

Options have tended to be the domain of expert or institutional investors and can only be dealt through specialist brokers. They can be harder to value than CFDs, spread bets and futures. Whereas the latter three's returns are clearly based on movements in the underlying price, option prices do not move in such a clear way, making it harder to predict returns. On the other hand, options are only subject to limited risk (while allowing enhanced gains).

For more on how options work, see Options to protect your portfolio.

Turbos

These leveraged instruments have been designed to combine some of the best features of other short-term trading products. Like spread bets and CFDs, they are free of stamp duty. And like covered warrants, your losses are limited to your initial stake. Leverage means that you can still make big profits.

For more on turbos, see The IC guide to turbos, produced in association with SG.

Comparing short-term trading instruments:

The articles below compare the merits of spread bets, CFDs, options and warrants, and provide examples of trading strategies using each:

• Spread bets vs CFDs vs covered warrants

• Real trades 1 - Sterling/US dollar intraday

• Real trades 2 - FTSE100 over two days

• Real trades 3 - Voddafone over a week

Futures

Futures have traditionally been used by institutions and professional investors and are traded on Euronext (www.euronext.com/derivatives). Many budget stockbrokers do not allow futures trading but you can use one of the UK's specialist brokers. Fixed contract sizes means that futures can be cumbersome, in terms of choosing the right amount of hedging to suit your underlying position (especially for small investors). They can also be expensive, as you need to pay for the future itself, as well as depositing a margin with your broker.