The idiot's guide to spread betting

Spread betting on financial markets by the general public will be more tightly regulated by the financial watchdog.

The Financial Conduct Authority (FCA) wants to put limits on how much individuals can risk, external when they open accounts with spread betting firms.

The regulator also wants to see stronger risk warnings given by firms to their customers.

And it wants to restrict marketing gimmicks, such as offering bonuses to customers for opening an account.

The aim is to protect individual customers from making excessively risky bets on financial markets they do not properly understand.

It is a way of betting on the movement of a financial market without having to buy the underlying investment itself.

That means if you open an account with a spread betting firm, you can bet on things like the rise or fall of a share index such as the FTSE 100, individual shares, currencies, commodities, bonds and even bitcoins.

Some firms offer thousands of individual bets from which clients can chose.

The vital point to understand is that the loss or gain on these bets can rise or fall rapidly, depending on just how far the price of the underlying investment moves.

And the loss can far exceed the initial stake.

The attraction, however, is large, tax-free profits - if you get the bet right.

If you believed all the adverts published by spread betting firms you would imagine that everyone was doing it, all day long.

In reality it is a specialist minority taste.

The FCA estimates that only about 125,000 people in the UK have active spread betting accounts and a further 400,000 are based overseas.

About 40% are regarded as inexperienced. That means 60% are experienced and likely to be investment professionals of one sort or another.

It would appear not.

The FCA has estimated that 82% of clients have made overall losses on their spread betting accounts.

So a lot of the firms' customers are not as clever as they think.

And the FCA thinks they need a bit of extra protection.

In its modern form it started in the City in the 1970s when a firm called IG Index started offering bets by telephone on the daily movement of the gold price.

Other firms entered the business and the idea of spread betting became especially well known to the general public in the 1990s with the advent of spread betting on sports results.

As far as betting on financial markets is concerned the industry has grown strongly in the past few years thanks to the internet.

The FCA now licenses nearly 100 such firms.

Bluntly: an individual can lose far more than his or her initial stake.

Although firms will typically limit those losses, they can still be very large.

And although there can be automatic "stop-loss" limits on an account to restrict losses, these don't offer enough protection for inexperienced customers.

They should do.

Take a look at the websites of of the big spread betting firms like IG Index, external, City Index, external and CMC Markets, external.

They carry clear warnings with good guides to the mechanics of spread betting and the risks involved.

But the FCA thinks these warnings are not good enough.

It says: "Firms often failed to clearly set out the high-risk, leveraged and OTC (over the counter) nature of these products. In particular, risk disclosures and warnings often did not clearly explain the potential for rapid losses that could exceed deposited funds."

The FCA is also concerned that the firms are increasingly targeting more naive customers with their adverting, such as with sports team sponsorships.

That business is regulated too by the FCA but it is not the focus of the regulator's concerns.

However the proposals are now out to consultation and if that process shows a need for sports spread betting to come under the proposed new rules, then those businesses will be affected too.