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What is spread trading & how does it work?

The spread is the difference between the broker's buying and selling prices when trading online. The spreads are effective whether spread trading (also known as spread betting) or CFD trading. The price at which you buy (ask, or offer price) is always greater than the price at which you can sell (bid price), and the underlying market price is usually in the centre of the spread.

Spread trading is another lucrative way for trading forex, commodities, indices, and stocks in the United Kingdom.

Market makers, brokers, and providers use spreads to make money on trading opportunities depending on supply and demand. The spread moves along with an asset's price and trading volume depending on how pricey, volatile, and liquid it is.

Trading enthusiasts looking for an alternative way to trade the financial markets should familiarise themselves with spread trading. One of its benefits is that spread trading is arguably the most straightforward method of speculating on financial markets. If you are used to trading CFDs, spread trading should be an easy transition.

In this article

Key takeaways

Spread trading enables you to speculate on the movements of a derivative of an underlying asset.
A forex spread bet has three components: the direction of the bet, the quantity of the bet, and the spread (difference between bid and ask price) to be traded.
The benefit of forex spread trading is that it enables traders to use leverage.
You may use leverage, which means you don't have to pay for the whole value of your position; instead, you just require a deposit known as your initial margin.
You may go long or short on various markets, including forex, stock indices, individual stocks, commodities, etc.

What is spread?

The term "spread" has several meanings in different finance sectors, but here it is understood as being the clear difference between the selling and buying prices in a trade.

When you open a trade, you will either buy (go long) or sell (go short) the specific instrument based on whether you feel the underlying market price will increase or decrease. This is accomplished by using derivative instruments such as spread bets and CFDs.

The spread is one of the most important fees associated with spread trading. In general, the narrower the spread, the cheaper it is to deal for the trader. We constantly provide competitive fixed and variable spreads.

The bid-ask spread

A bid-ask, or bid-offer spread is another way to present the sell-buy prices we've already discussed. If you think a market is going to decline, you would look at the sell price listed under 'bid'.

The buying price (what you'd pay if you predict a market will increase in value) is always higher than the sell/bid price and will be listed under 'ask'.

Spread trading in action - example trade

Say you want to speculate on the price movements of the UK 100 Cash (aka the FTSE 100), you might get this sell-buy spread:

BID: 7224.8

BUY: 7225.2

SPREAD: 0.4PTS

As you expect the market to rise, you decide to buy £5 per point at 7225.2.

We offer two types of spreads:

Fixed spreads

Fixed spreads are constant regardless of market circumstances at any particular moment. Because spreads don’t fluctuate within their specific time bands, you always know what you'll pay when you start a trade.

You can see all our spreads across all the markets we offer, and how they are fixed within specific time bands by looking at our market information sheet.

Variable spreads

Variable spreads, as the name indicates, are not fixed. The gap between the bid and ask prices of currency pairs, and other financial markets, continually shift. they can be low one minute and then widen suddenly without warning. And spreads will broaden or narrow depending on supply and demand and general market volatility.

Typically, spreads widen when economic data is released or when markets become turbulent on an unexpected news event. This is due to volatility accounting for price variations caused by market circumstances.

Keep in mind that variable spreads aren't good for scalpers. The wider spreads may swiftly eat into any gains made by the scalper.

Which are better, fixed or variable spreads?

The trader's requirements determine the choice between fixed and variable spreads. In general, fixed spread pricing brings a degree of certainty, particularly when markets get volatile. It may be the case that a variable spread proves narrower than a fixed spread when opening a position. But there’s no guarantee that it will remain so when the trader wants to close it.

What is spread trading?

Spread trading or spread trading are both types of financial derivative. They are effectively the same thing. They allow you to speculate on the future direction of financial markets without owning the assets themselves. Both terms refer to the spread, which is the difference between the buy and sell prices, and is the main cost when trading.

There are various advantages to spread trading. You may use leverage, which means you don't have to hold the whole value of your position on your account. Instead, you require a deposit known as your initial margin. You may go long or short (speculating on a fall in the price of a financial instrument) on numerous markets, including Forex, individual equities, stock indices, commodities, etc. Profits on spread trading in the United Kingdom are not subject to Capital Gains Tax.

How does spread trading work?

Spread trading works by placing bets on assets rather than physically purchasing or selling them. For example, in a classic Tesla trade, you would buy Tesla stock in the hope of selling it at a higher price.

The further the price goes in your preferred direction, the more profit you make. But the further the price moves against you, the more you will lose.

Spread trading involves both long and short positions.

Unlike conventional share trading, spread trading allows you to sell, or go short a company’s stock, if you believe its value will decline. You may benefit from the lowering price by doing so.

Two prices are displayed when you open a spread bet: the bid and ask prices. You buy if you believe the value of your selected market will rise. If you believe it will fall, you can sell.

Leverage in spread trading

However, remember that spread trading is a leveraged product. This magnifies both your winnings and losses, necessitating prudent risk management.

Strategies for spread trading in forex

Trend following, hedging, scalping, and news trading are some of the most common tactics. Many technical traders include candlestick patterns, chart patterns, and harmonic patterns in their trading strategies.

What's best for you: CFDs vs. Spread trading

Spread trading is as popular as CFD trading. CFDs allow you to speculate on price fluctuations in a manner similar to spread trading. In both cases, you don’t actually own the underlying asset, rather you trade its derivative.

Both products use leverage to increase their exposure to the market. CFDs are most widely used for share trading and provide access to exchange-traded funds (ETFs).

Final thoughts

Investors often favour spread trading because it allows them to define their risk and hedge it against their other asset of choice, allowing them to reduce their risk as much as possible. Furthermore, spread trading provides returns depending on the difference in the prices, enabling the investor to profit from the difference in buying and selling prices. However, in order to be a potentially profitable trader, you need to do your homework on every spread trade.