There are a multitude of names given to the currency markets; forex, foreign exchange and FX to name a few. Whatever you call it there is a good chance that you have dabbled in the currency markets before as you change your home currency into your holiday currency. But we're not here to talk about small scale exchange transfers, we're going to talk about how you make money on spread betting foreign currency.
Spread betting on foreign currency can take a few forms:
- Spot rate betting – these are for short term bets predominantly and settle at the spot rates at the close of markets
- Forward foreign exchange contracts – the underlying forwards contract is often used by a company to hedge the risk of their assets or liabilities held in a foreign currency, in other words it allows the company to set an exchange rate today for settlement in the future. This is for longer term spread betting
In any case, the trader will be betting that one currency will either strengthen (increase in value) or weaken (decrease in value) relative to another currency e.g. Sterling vs. US dollar and Euro vs. US dollar are two of the most popular markets.
Why Spread Bet on Currencies?
Reasons for spread betting on Currencies include:
Highly liquid market – there are huge volumes traded on the foreign currency market daily. According to The Bank for International Settlements average daily turnover is estimated at $5 trillion. Highly liquid markets means tighter spreads.
Open all hours – The wonders of betting on foreign currencies is there will always be a market open at some point of the day
Volatility – Currency swings can be dramatic, think 200+ points on an exceptional day. This can lead to big profits/big losses. Always consider limiting your risks through the use of stops and guaranteed stops
As with other markets such as commodities and equities, there are advantages of spread betting on currencies rather than normal currency trading such as tax regime
Example of Spread Betting on Currencies
Your Spread Betting broker will provide trading options on all the major global currency pairs. They will usually offer daily and quarterly contracts. As currency trading is one of the most competitive markets for spread betting companies they will typically have tight competitive spreads.
If you wanted to trade the Euro/Dollar spread, in this hypothetical scenario, the spread trading price on January 30th is 1.185-1.1856.
In your opinion the Euro looks cheap relative to the US dollar and therefore you decide to buy the Euro at the offer price. You stake £1 a point, a point (pip) being 0.0001, i.e. you are going to make £1 for each 0.01 the closing bid price is above 1.1856 and you are going to lose £1 for each $0.0001 the closing price is below 1.1856.
So in this instance it will be £11,856 (1.1856/0.0001 multiplied by £1). The maximum exposure is then multiplied by the margin requirement to get the initial cash amount you will need to invest to open the position. The margin on currencies is normally lower than most markets as it is more liquid, if the margin is 2%, the initial deposit required will be £237 in this example (£11,856 * 2%).
What happens if the Euro strengthens relative to the dollar and the Euro/Dollar spread increases to 1.2156-1.2162:
Opening price (offer) - $1.1856
Closing price (bid) - $1.2156
Difference - $0.03 or 300 points
Profit – 300 points * £1 = £300
What happens if the euro weakens against the dollar and the spread moves to 1.1556-1.1562
Opening price (offer) - $1.1856
Closing price (bid) - $1.1562
Difference - $0.03 or 300 points
Loss – You have not placed a stop on this trade, therefore your loss is 300 points * £1 = £300