See: Foreign Exchange.
If a horse named "Forex Spread" ever runs in the Kentucky Derby, this would be an easy one to define. For now, it relates to currency trading...and gets a little complex.
First, the "spread" in "forex spread betting." The term refers to the price difference between the bid and ask for an asset. A financial market works like an auction. Most of the action is run by computers on the backend, so casual investors might not notice the auction part. But for every stock price quoted on Google, there's a bid/ask system going on in the background.
Spread betting uses the gap between the bid and ask at any given time.
The "forex" part of "forex spread betting" refers to currency trading ("forex" standing for "foreign exchange"). The strategy uses the bid/ask spread in the price for a currency pair (Euro/U.S. Dollar, U.S. Dollar/Canadian Dollar, Euro/Pound, etc.).
Spread betting exists in a grey area between gambling and investing. The trader doesn't take a position in an asset (in this case a currency pair). They are simply betting whether the price will go higher or lower.
It's a lot closer to choosing red or black on a roulette wheel than it is to actual investing, as exemplified by, say, buying shares in Apple because you think its earnings prospects look good over the next 10 years.
A better parallel to spread betting might be a sports book, but one where you can make micro in-game wagers. Like betting whether the next pitch in a baseball game will be a ball or a strike, or betting on whether the next play in football will be a run or a pass.
The forex spread betting only takes into account the very near-term, and it only involves choosing a direction and an amount. Moreover, spread betting involves leverage, meaning a trader doesn't have to commit the full capital needed for the transaction. The broker loans the bulk of the amount.
Instead, the trader puts up what's called a stake. That stake is like the bet in blackjack or in the strike/ball bet in baseball. However, the outcome in spread betting isn't just a simple win/lose proposition. The gains or losses in spread betting are decided by the number of points the market moves while the bet is in place.
In forex trading, the smallest movement in the price of a currency pair is called a pip. The number of pips moved in either direction determines the loss or gain on the bet. Multiply the number of pips by the stake and you get the gain or loss for that spread bet.
So...you're spread betting in the euro/yen currency pair. You bet the pair will go up in price. Your stake for the bet is $1,000. The price goes up three pips before you close the position. You made $3,000.
You make another spread bet. Again, you're betting the price will go up. However, this time, it falls five pips before you give up and close the position. You lost $5,000.
Lather. Spread bet. Repeat. And pray.
Related or Semi-related Video
Finance: What is a Derivative?23 Views
finance a la shmoop what is a derivative? well it's derived it's a something taken
from something else like a derivative of hot weather is thirst a derivative of [Girl takes sip of glass of water on a beach]
hunger is well you know crankiness that's diva thing you get there...
derivative of a 1/32 quarterback rating in the NFL is like serious wealth yeah
yeah discount double shmoop yeah look for it be on there with aaron
and a derivative of a stock or bond or other security is a something which
derives its value based on the performance of that underlying security
there are basically two flavors of derivative put options ie the right to [Ice cream flavors appear]
sell a security at a given price over a given time period and a call option, ie
right to buy a security at a given price over a given time period
well the price of that option is derived from the price of the security and a few
other factors like strike prices and duration and all that stuff
colonel electric the downgraded new version of General Electric is trading [Colonel Electric appears in a suit]
for 25 bucks a share a derivative of its share price is sold in the form of a
call option with a $30 strike price expiring about 90 days from now on the
third Friday of the end of that month well investors pay a price albeit
probably a small one for the right to then pay 30 bucks a share for colonel [Call option appears for colonel electric]
electric at any time in the next 90 ish days until that option expires making the bet
that the stock will go well above 30 bucks a share in that time period that
call option is thus a derivative of the colonel electric primary stock price got
it if you really want to get personal well here's the ultimate form of
derivative [Baby laying down]
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