As a result of the ever growing demand for financial spread betting, a wealth of alternative bases for trading have sprung up aside from straightforward market bets. One of the most heavily traded of these alternatives has been the options spread bet, which allows traders to access options on underlying assets, trading on the pricing of these instruments rather than the assets to which they relate.
Of course, options (as a derivative instrument) are directly correlative in pricing terms to the relevant underlying asset, but behave in slightly different ways to reflect their value to the holder, thus providing an often more volatile environment for financial spread betting.
Options markets, in the same way as underlying markets, represent the mark price for options of a particular nature. In spread betting on options, traders take a position to the north or south of the current options market, in the hope that prices for options will rise or fall according to investor projections of the future.
What Are Options?
Options are, as the name suggests, options to trade in an underlying asset at a future date. They are distinct from obligations in that traders can choose whether or not to execute their options, thus the option itself is basically a right to acquire some end asset. Options are everlasting and so can be exercised at any future point at the set price stipulated at the time of purchase, giving traders who invest in options the potential to significantly leverage their gains.
For those on a more limited budget or concerned about the potential for hefty capital gains liability in buying and selling their options, taking spread positions in the options market can be a more cost-effective alternative. Whilst spread betting still allows the trader access to the relevant options market as a basis for their investment, they also benefit from all the positives spread betting as a trading medium has to offer.
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Why Spread Bet On Options?
The main benefit of spread trading options is that it allows traders to capitalise on the inherent characteristics of options whilst also cashing in on the significant advantages of spread betting as a trading style.
Foremostly, spread betting is popular because it delivers incredible built-in leverage that is simply unachievable with other forms of trading. Because spread betting is, strictly speaking, a bet rather than a trade, investors are able to see returns of multiple thousands of percent within the realms of conceivability.
Because the stake is multiplied by every single point movement in a favourable direction, spread betting allows traders to win big in proportional terms to their stake, while also avoiding the headache of financial barriers to entry. A spread bet can be from less than £1 a point, whereas a single option may be a considerably more expensive purchase, depending on the value and nature of the asset to which it relates.
In addition, spread betting is inherently tax friendly in the UK, saving traders around 20% on the cost of each profitable transaction. Spread betting income is not taxed under the capital gains tax regime because there are no assets changing hands – traders are merely ‘wagering’ on the price movements of an asset, rather than actually owning the asset. This is often just a legal and notional distinction rather than one of any practical difference, but with significant savings to be had through the spread betting channel, it’s a distinction that proves itself to be profitable time and time again.
Options are also a good bellwether for wider market movements, and tend to move first ahead of the markets in correcting for the impact of any factors affecting asset value. When price volatility in a market seems as if it could be set to shake things up, traders can act quickly by jumping in on a spread position for options to capitalise on the forthcoming price swings. With the relevant stops tightly in place to guard against unexpected price movements, this can be a particularly effective strategy for trading options in a CGT-free, highly-leveraged way.
Options and Spread Betting
Options are a derivative instrument that gives traders the ability to buy an underlying asset in the future at a price specific today. In the event that the asset rises in value beyond the option price, the trader can choose to exercise the option and sell the option assets for the difference, providing an additional layer of leverage to a straightforward underlying transaction. If the price of the asset falls, traders can lose the value of their options but are not compelled to exercise them at a loss. An alternative to trading options directly is to spread bet on options markets, which can provide a more cost effective, manageable way of profiting from options price movements.
Advantages
Options cast a future projection of market value, and as a result may be unduly influenced by transient factors today that aren’t present tomorrow. This effectively means that option prices move independently of underlying prices, which enables traders to capitalise on any obvious discrepancies that may arise. Where the options market reflects over-optimism or too pessimistic an outlook of the future, the trader can take a position on either side in a leveraged way to capitalise on market movements.
Spread betting is also a highly cost effective way of trading in options, preventing the same transactional stages that give rise to tax liability for traders investing in markets directly. This can be a significant advantage in trading where every penny counts, and the savings mean traders need to find less substantial opportunities in spread betting as compared to trading in options directly.
Disadvantages
A key disadvantage of spread betting on options is that traders can’t capitalise on the options themselves, even when this would yield a greater profit. Because spread betting doesn’t involve any transacting, and therefore no actual ownership of options, traders are limited to taking the profits presented by spread betting (which in themselves can still be considerable).
Spread betting is always highly risky, and with volatile options thrown into the mix the potential for heavy losses is real. As a result, traders should always ensure they thoroughly research positions in options markets, and indeed their relation to the underlying market trend. This will help offset potential leveraged losses pre-trade, while caution and a mindful attitude to risk management in position sizing and managing the trade should also help dull the threats posed.