Risk disclaimer: 76% of retail investor accounts lose money when trading CFDs and Spreadbets with this provider. You should consider whether you understand how CFDs and Spreadbets work and whether you can afford to take the high risk of losing your money.
Spread Betting Strategies and Technical Tools for Better Trades
BY Janne Muta
|September 4, 2024Understanding key spread betting strategies is essential for all traders looking to trade the markets with this instrument. Spread betting allows participants to speculate on the direction of various markets without owning the underlying assets. By employing effective spread betting strategies, such as trend following and breakout methods, traders can enhance their ability to identify and potentially capitalise on market movements. However, these strategies are risky and require effective risk management.
Technical tools like moving averages and market formations help traders in recognising trends and potential reversals. This article delves into various spread betting strategies, highlighting their strengths, weaknesses, and the importance of disciplined risk management. Understanding these elements is vital for anyone looking to improve their decision-making process in spread betting, ultimately helping traders navigate the financial markets with greater precision and confidence.
Opening trades in spread betting
In spread betting, traders initiate their positions by deciding whether to place a buy bet, expecting the market to rise, or a sell bet if they predict a decline. Once the market direction is determined, they choose the bet size, representing the amount staked per point of market movement. For instance, a stake of £10 per point means that each point movement in the market will influence the trader's outcome by £10. To manage risk, traders frequently set stop-loss orders, which automatically close trades if the market moves beyond a predetermined threshold.
Trend following with spread betting strategies
The trend-following is one of the most common spread betting strategies, focusing on the sustained direction of market movements. It is essential to recognise that this strategy involves risks, necessitating effective risk management. The primary objective is to identify and follow trends, remaining with them until signs of a reversal become apparent. This approach is generally applied over longer timeframes, such as daily to weekly charts, with trades often spanning several days to weeks. The typical hit rate can vary, with around 40% being common, where larger gains from successful trades compensate for losses.
Strengths and weaknesses
The strengths of trend following include its systematic nature and alignment with market momentum, making it particularly effective in strongly trending markets. However, the strategy has risks: it is less effective in sideways or choppy markets, where clear trends are lacking, and applying a trend following strategy in such conditions could lead to losses. This approach is favoured by institutional traders and experienced retail traders who possess the patience to maintain positions over extended periods.
Technical Tools for Spread Betting Strategies
Technical tools play a critical role in the effective implementation of spread betting strategies, particularly in recognising trends. Identifying trend reversals and market bottoming or topping processes requires careful observation of patterns, such as higher reactionary lows and higher reactionary highs.
Market Reversals
Trend followers monitor market trends by tracking patterns like lower highs and lower lows. A key indicator of a potential market reversal is when a lower high is surpassed, suggesting a shift in the balance between demand and supply, potentially favouring buyers. If the market then forms a higher high and begins creating higher lows, the probability of a market reversal increases. Some traders start scaling into long positions once they confirm a market reversal.
Uptrend: A series of higher lows and higher highs
When demand exceeds supply over time, market prices generally rise, but this movement is not linear. Typically, the market forms a series of higher highs and higher lows. Conversely, if the market begins to form lower highs and lower lows, it indicates insufficient demand relative to supply, hindering price increases. Trend-following traders analyse these reactionary highs and lows to assess trend development. Since every trend eventually ends, traders must be prepared to exit when reversal signals emerge. However, markets can sometimes form lower highs and lower lows within an ongoing trend, making this approach imperfect.
Some traders using trend-following spread betting strategies employ various methods to enter positions. While some prefer to buy during dips within a trend, others opt to buy on breakouts, anticipating continued movement in the trend’s direction. Institutional traders often scale into positions gradually, increasing exposure as they gather more information and build confidence in the prevailing market trend. This measured approach is common among experienced traders seeking to optimise their positioning in trending markets.
Moving averages
Moving averages, including the 20 and 50-period averages, are typical components of spread betting strategies for smoothing price data and identifying trends. When the 20-period simple moving average (SMA) is positioned above the 50-period SMA, and the market trades above these averages, it typically indicates an uptrend. Conversely, when the market trades below these moving averages and the 20-period SMA is below the 50-period SMA, it usually signals a downtrend. These indicators assist traders in assessing the overall market direction and making informed decisions.
Factors influencing spread betting strategies
While trend-following traders may rely on indicators like moving averages, actual trade execution often depends on additional factors beyond technical analysis. Some traders consider favourable economic news that aligns with their technical outlook, while others focus on specific price patterns that validate signals from indicators. Many traders integrate these elements, combining technical indicators, economic data, and price patterns to ensure a more comprehensive approach. This strategy allows traders to initiate positions only when all conditions support the trade, leading to more informed and strategic entries.
Spread Betting Strategies: Breakout Methods
A breakout occurs when the price surpasses a defined support or resistance level. Such breakouts can indicate the start of a new trend, especially if the market has been forming a bottoming or topping pattern. Breakouts can also take place within ongoing uptrends or downtrends, making them important for traders focused on directional movements.
A breakout strategy tends to be more effective when the breakout aligns with the prevailing trend. In uptrends, demand typically exceeds supply, increasing the likelihood of continued market rises following a breakout. Conversely, in downtrends, supply usually outweighs demand, causing the market to decline further after breaking below a support level. Note however, that these trades are risky and sufficient risk management methods are a must.
Breakout trade example
Recently, the Dow Jones Industrial Average CFD reversed its downtrend by forming higher lows and breaking above a significant resistance level at 39,647. Before this breakout, the market started trading above the 50-period simple moving average, which had begun to slope upwards, indicating potential upward movement. As more traders identified the formation of higher reactionary lows, they positioned themselves to align with the emerging trend. When the market eventually broke above the key resistance level, additional traders entered the market, supported by buy-stop orders placed by those who had previously been shorting the market.
The 15-minute chart demonstrates how the market draws in buyers near the moving average before rallying past the key resistance level at 39,647. Once the market trades above this resistance level, the level often reverses its role, becoming a support level. While some traders opt to buy immediately after the market closes above the resistance, others prefer to wait for a pullback, referred to as a retest, which gives the strategy its name, "breakout and retest." Some traders believe that a successful retest enhances the likelihood of continued upward movement.
Following a successful retest of the breakout level, a trader might decide to place a buy bet, anticipating further upward movement. The trader would then determine the bet size, e.g. £5 per point, and set a stop-loss order below the new support level to manage risk. It is crucial to acknowledge that spread betting involves substantial risk, and losses can exceed deposits due to leverage. Therefore, traders should only risk capital they can afford to lose and consider seeking independent financial advice.
Indicator assisted spread betting strategies
Traders frequently utilise various indicators to assess market direction and establish trade signals that align with the prevailing trend. In this scenario, we explore the combination of the 9-period Exponential Moving Average (EMA) and the 14-period Relative Strength Index (RSI) with a 14-period Simple Moving Average (SMA). This strategy seeks to benefit from declining prices by generating sell signals when the RSI crosses below its 14-period SMA. For a short signal to be valid, the market should be in a downtrend, indicated by a declining 9-period EMA with the price trading below it.
The strategy’s core principle is to identify instances where the downward movement intensifies during a downtrend. Markets seldom move in a straight line; they typically oscillate within trends. In this USD/JPY example, the market attempts to rally against the prevailing downtrend but eventually, supply outweighs demand, causing prices to decline further. Red arrows mark points where the RSI crosses below its 14-period SMA, indicating potential short trades. However, not all signals occur at optimal points, and significant retracements may lead to stopped trades depending on the trader’s strategy. This underscores the importance of acknowledging that no strategy is risk-free, and diligent risk management is crucial to mitigate potential losses.
Risk Management
Risk management is a fundamental aspect of trading, particularly in volatile markets like those involved in spread betting strategies and trend following. Traders typically manage risk by determining the maximum percentage of their trading capital they are willing to risk on a single trade. It is common practice to risk no more than 0.5 to 2% of capital per trade, with beginners often using the lower end of this range. This conservative approach helps reduce the impact of potential losses, which is especially important when a trader’s strategy has yet to establish long-term viability.
Stop-loss orders
A crucial aspect of risk management in spread betting strategies is the strategic placement of stop-loss orders. These orders automatically close a position at a predetermined price level, limiting further losses in the event of an adverse market movement. However, placing stop-loss orders too close to the entry price can result in premature exits due to normal market fluctuations. To avoid this, it is advisable to set stop-loss orders at a distance that allows the trade to endure minor volatility, thereby leveraging a statistical edge for the trader.
Consistent risk management
Experienced traders often maintain a consistent risk level across all trades by adjusting their position size based on market volatility and conditions. This approach ensures that the risk percentage remains stable (e.g., 1%) regardless of varying distances between entry points and stop-loss orders. Such adaptability in position sizing allows traders to manage their market exposure effectively, increasing or decreasing it based on the calculated risk and potential reward of each trade.
Adjusting trade sizes
Traders may also adjust their trade size according to their confidence in a particular position. For instance, a trader with high confidence in a trade may choose to risk more, while uncertainty about a position might lead to a reduced trade size. This flexibility enables traders to actively manage their psychological comfort with risk.
Conclusion
Spread betting strategies require a disciplined approach, combining technical analysis, risk management, and a thorough understanding of market dynamics. Trend following and breakout strategies are among the most widely used methods, enabling traders to track and capitalise on sustained market movements. By employing tools such as moving averages, traders can identify trends and potential reversals, allowing for more precise entry and exit points. The integration of these tools within spread betting strategies is crucial, particularly when markets exhibit volatility.
Risk management remains a central element of these strategies, ensuring that traders maintain control over their positions even during adverse market conditions. Effective use of stop-loss orders, careful adjustment of trade sizes, and maintaining a consistent risk level are all vital aspects of preserving trading capital over the long term. Understanding the strengths and weaknesses of various strategies, along with the appropriate application of technical tools, allows traders to navigate the complexities of spread betting with greater precision.
For those seeking to explore spread betting strategies with confidence, trading with a reputable and FCA-regulated broker is essential. Consider opening a trading account with TIOmarkets.uk, where you can apply these strategies within a secure and regulated environment.
While research has been undertaken to compile the above content, it remains an informational and educational piece only. None of the content provided constitutes any form of investment advice.
TIO Markets UK Limited is a company registered in England and Wales under company number 06592025 and is authorised and regulated by the Financial Conduct Authority FRN: 488900
Risk warning: CFDs and Spreadbets are complex instruments and come with a high risk of losing money rapidly due to leverage. 76% of retail investor accounts lose money when trading CFDs and Spreadbets with this provider. You should consider whether you understand how CFDs and Spreadbets work and whether you can afford to take the high risk of losing your money
DISCLAIMER: TIO Markets offers an exclusively execution-only service. The views expressed are for information purposes only. None of the content provided constitutes any form of investment advice. The comments are made available purely for educational and marketing purposes and do NOT constitute advice or investment recommendation (and should not be considered as such) and do not in any way constitute an invitation to acquire any financial instrument or product. TIOmarkets and its affiliates and consultants are not liable for any damages that may be caused by individual comments or statements by TIOmarkets analysis and assumes no liability with respect to the completeness and correctness of the content presented. The investor is solely responsible for the risk of his/her investment decisions. The analyses and comments presented do not include any consideration of your personal investment objectives, financial circumstances, or needs. The content has not been prepared in accordance with any legal requirements for financial analysis and must, therefore, be viewed by the reader as marketing information. TIOmarkets prohibits duplication or publication without explicit approval.
Janne Muta holds an M.Sc in finance and has over 20 years experience in analysing and trading the financial markets.
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