Spread Betting for Dividends Guide

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1 Spread Betting for Dividends Guide INTRODUCTION The purpose of this ebook is to provide a guide to spread betting for dividends with hedge strategies in place. It is based upon tools provided by DividendMax where users can find a comprehensive spread betting tool developed for use on the DividendMax website at BACKGROUND The markets are a tumultuous environment where low interest rates continue to be pervasive and long lasting. Income from traditional sources has dried up and the search for yield is on. One virtually unknown source of high income comes from spread betting. DividendMax which is owned and operated by Investment Tools Limited has developed bespoke software to make the spread betting process easier BENEFITS OF SPREAD BETTING 1) Spread betting carries no stamp duty. 2) Trades are commission free. NOTE: In spite of the two advantages above, spread betting companies are making money on the spread. For example, if the cash market spread is 91/92, a spread betting company will charge additional spread on top of that, so you effectively buy for more and sell for less. In the above example, the spread betting company may well make a price of 90.5 / 92.7, thereby deducting 0.5 from the price you sell at and adding 0.7 to the price you pay.

2 3) Spread betting trade sizes are small (can be as low as 50 shares) allowing gradual build-up of positions. This is helped by the fact that there is no stamp duty or commission. 4) Spread betting is highly leveraged meaning that only a fraction of the principal needed to take a position is required. 5) Dividends from spread bets are paid in full rather than at the leveraged amount. For example if you buy the equivalent of 10,000 and it only requires 500 to take this position, the dividend paid is on the 10,000 worth of stock. 6) Spread betting dividends are paid on the ex-dividend date rather than the pay date. Normally, dividends on shares are paid on the pay date, which is typically about one month after the ex-dividend date. 7) Spread betting carries no capital gains tax. If the government were to tax the profits made from spread betting, there would need to be a corresponding tax credit where losses were made. Given that the spread betting companies make money, then the government would lose out by taxing spread betting. The government gets its cut by taxing the corporate profits of the spread betting company. 8) Spread betting carries no income tax. Because of the mechanics of spread betting, the only way to handle dividends going ex, is to pay the dividend. In theory, the underlying price will fall by the amount of the dividend. The dividend is never actually paid in the real world. Many people go short in the expectation of the price falling more than the dividend. In this case the spread betting company will deduct the dividend, so it is not possible to go short in the expectation of a big drop due to the dividend going ex as you will pay the dividend to the spread betting company. USING THE DIVIDENDMAX SPREAD BETTING TOOL The spread betting software can be found on the DividendMax website and can be accessed through a DividendMax account. All information in the website is meant for reference only, and is not intended as investment advice. Please read the Terms and Conditions for more information. Two important things to keep in mind include: For investors the stock selection process does not change. Companies must be carefully researched. The use of discipline in the trading strategy is absolutely crucial. The strategy is sound and must be followed through. KEY INFORMATION BEFORE STARTING 1) Firstly, a good source of future dividend information is essential. The dividends need to be split down into interim / final or quarterly as the case may be. A fairly long view out is required.

3 2) Select one or two dividend paying stocks per week over a six to ten week period. The purpose of this is to build up a portfolio in the initial stages to ensure that your hedge will be effective. 3) Open up at least one spread betting account. We recommend City Index and IG index which are both substantial companies. This is important because they operate differently and so certain important components of the trade will differ from firm to firm. The Series The Series refers to the period of time that the market is being made. The year is split into 4 series; March, June, September and December. If the series expires (usually around the 18th of the month) then your position will be closed and any profit or loss credited or debited to your account. If you wish to retain the position, you can select auto rollover. The profit or loss will still be enforced, but the position will automatically be opened again. This will result in a cost of a proportion or whole of the spread. When attempting to collect the dividend, the longer that you have to recover the dividend before the series ends can be very important. Spread betting firms open up the longer dated series at different times so this could be an important consideration for your trade. The Margin Factor Another important component that can differ from firm to firm is the margin factor. The margin factor refers to the percentage of the principal that the spread betting company requires you to have in your account in order to make a bet. For example, at the time of writing City Index margin factors range from 5% to 7.5% for large companies, through 10% / 15% / 20% / 25% / 30% / 35% and 40% for the smallest companies. This can vary from spread betting firm to firm and when considering your trade, with all other things being equal you should trade with the firm that has the lowest margin factor for that particular trade. NOTE: The key is to use leverage to acquire very high payouts, secure the dividends and then build a trailing portfolio that can be exited in periods of strong market gains. To cover this eventuality not happening, DividendMax sets a hedge so that if the market falls, there is a gain on the hedge as well as the dividends being collected. The hedge helps you to mitigate for market risk. Each trade is designed to take a single dividend. It may be that one of the spread betting firms allows you to trade in a series that is far enough out, that it is possible to factor in 2 dividends. USING THE SPREAD BETTING TOOL After you have set up a DividendMax account with login details and have selected a particular stock that you like the look of with an ex-dividend date in the near future, you can perform the following steps through the online tool. Please note that the process is not indicative and it is strongly suggested that users have pertinent information from their spread betting company of choice (see point 3 above) readily available during this process.

4 STEPS Once logged into DividendMax.co.uk, select spread betting in the top menu and select your series dates. Click the More button to increase the number of listings on the page. 1) Get the price. This should be obtained by reference to the price currently being quoted by the spread betting company you have opened your account with. 2) Get the dividend. This is the next dividend payable by the company in question. 3) Set a level (this is an editable field in the online tool). The level is the amount of the spread bet that you are placing. If you select 10 a point, this is the equivalent of buying 1,000 shares in the company. 1 / point = 100 shares, 10 / point = 1,000 shares, 100 / point = 10,000 shares and so on. 4) Get the margin factor. The margin factor refers to the percentage of the principal that the spread betting company requires you to have in your account in order to make a bet. NOTE: City Index margin factors range from 5% or 7.5% for large companies, through 10% / 15% / 20% / 25% / 30% / 35% and 40% for the smallest companies. 5) Calculate the margin requirement. The margin requirement is the underlying principal multiplied by the margin factor. For example if you want to trade BP at 10 / point and the price quoted by the spread betting firm is 450p this is the equivalent of 1000 shares at 450p, which equates to The margin factor is 5% for B.P, so in order to make this bet, you must have 5% of 4500 in your account which equates to ) Get the dividend to be paid. Dividend to be paid is the next dividend that will be paid by that company. For BP, this is expected to be approximately 5p / share. The system automatically populates this for you. 7) Calculate the yield. The yield is the dividend paid divided by the margin requirement. So, BP are expected to pay a dividend of 5p / share, which totals 1000 x 5p. This is 50, so the yield is 50/225, which comes out at approximately 22%. Repeat Steps 1-7 to build up a portfolio of Stocks.

5 Calculate your total exposure To calculate your total exposure: o Multiply your level (editable field in the tool) in each case by 100, to determine the number of shares that you effectively hold. o Then multiply this by the average price that you have paid for your holding. Repeat this for all of the stocks that you have selected. Add all of the sums together to get the total exposure. STEPS This step can be achieved in the spread betting tool by clicking on view exposure at the bottom of the screen to reveal the spread betting positions screen.

6 Once you click on View Exposure the screen below will appear. The screen above shows the level of exposure to the market for each of the stocks that have been selected. It also shows the outlay required for each stock when the plus sign (+) button has been clicked. The exposure and required outlay is then summed. In the example screen above, the total exposure to the market ( i.e. the amount that you would have to lay out in the cash market) is 3, 271. The required outlay is You can then hedge against the 3,271 by clicking the Hedge This button.

7 Create the hedge It can be overwhelming to realise the scale of exposure to the market that you can create by spread betting. This is why it is wise to use hedging to mitigate market risk. Market risk is distinct from the risk that you are running by selecting a single stock. That is why, before embarking on a hedging strategy you should ensure a reasonably diversified portfolio of stocks is in place or you run the risk of being long a particular stock and short the market. This could lead to the nightmare scenario of your stock falling whilst the market is rising, resulting in losses on both sides of the trade. If you have decent coverage of the market, it is unlikely that this would happen over a large number of stocks in a rising market. Decide on the level of hedge that you want. If your exposure is 100,000 and you want roughly a 50% hedge, then you are looking to take a down bet on the FTSE 100 index or other index approximately equating to 50,000 of exposure. At today s FTSE level of 5800, that would be: 50,000 / 5800 = Therefore to put in an effective and approximate 50% hedge, you would buy a down bet (or sell the FTSE) against the FTSE of 8.50 per point. NOTE: Please note that when you are short of the FTSE 100, on the Wednesday that your dividends are paid out, you will be expected to pay a dividend for being short of the FTSE. This dividend is calculated by the spread betting company as a basket of the companies in the FTSE that are going ex-dividend that week. Generally, when you are spread betting for dividends, this amount would very rarely exceed the amount that you pick up in dividends in that particular week. STEPS Creating the hedge can easily be achieved by clicking on the Hedge this button in the Spread betting positions screen to reveal:

8 Enter the Hedge percentage and the level of the FTSE and the system will reveal to you the level of downbet that you should take to create the hedge. Then click View trading strategy to reveal your trade. TRADING STRATEGY The trading strategy summary screen shows your exposure to the market, the required outlay for that exposure and any dividends that you can expect to pick up for the trading strategy. It also shows the level that you have decided to hedge at, the effective size of the hedge against your exposure and the hedge amount needed to fulfil the hedge percentage that you have chosen. The key is to pick up dividends in positions that are highly leveraged resulting in an unusually high income compared to the capital that needed to invest in order to acquire that income. The strategy is to run a portfolio of these positions and close out the positions when the stock recovers to the level immediately before going ex-dividend. Because this process can take time, the user is effectively running a trailing portfolio. To do this you need to ensure that your capital is sufficient to hold the trailing positions, whilst continuing to take further positions going forward. It is important to pick up a dividend every week to ensure that that hedging costs are easily covered. Sometimes it is prudent to close the position before the underlying price is recovered. You may want to do this if on the day that the stock trades ex-dividend, it falls by significantly less than the amount of the dividend, thereby allowing a profit on the overall transaction. The price may fall more than the amount of the dividend. This is a clear buying signal if there is no justifiable explanation for it as well, this kind of market imperfection can lead to an early exit from the trailing portfolio if the price reaction is overly severe. This is because the user can lower their average price and more likely exit the trade early as the stock recovers. Visit the DividendMax.co.uk for more information.