Spread Betting Orders: Guaranteed Stop Limit
Part of the beauty and attraction in spread betting is its capacity for unlimited upside gains. If a market rallies heavily in your favour, there’s no reason why a well positioned trade can’t deliver a return hundreds of times in excess of your original stake amount, and many a fortune has been made through shrewd financial spread betting. A corollary of this is that losses are also uncapped and highly unpredictable. While markets can be read and interpreted with some degree of clarity from experience and knowledge of all the relevant factors, that’s never a guarantee of actual performance, and even the brokers are completely in the dark as to whether a position will eventually move up or down.
At the same time, traders have the flexibility to profit from the markets in both directions, which essentially allows brokers to create a mini-market of their own. This means that even in downwards markets, traders can profit from selling a market that is falling away. In this event, the risks are still equally present – should the market rise, the trader will lose. On both sides of the coin, regardless of which camp a trader sits in, a reverse directional movement will accrue liability in the same proportion as always, factoring in the leverage effect.
The guaranteed stop limit performs two key functions in the sense that it helps guard against the losses and cap the profits of positions on the upside, as a ‘limiter’ to what a position can achieve. In many respects it is very similar to the guaranteed stop loss, albeit residing in positive market territory.
How Guaranteed Stop Limits Work
Guaranteed stop limits work in much the same way as guaranteed stop losses, although they are distinct in the sense that they reflect a ceiling price, rather than a floor price, at which a position will be closed. On first reading, this might seem a little counterintuitive – why would you want to cap earnings that are potentially unlimited? The answer is that guaranteed stop limits are a slightly more nuanced issue, and their use is applicable to a number of varied and distinct circumstances.
Firstly, guaranteed stop limits are used as the converse of stop losses in protecting against losses in short positions. When a spread bettor sells a market, a rise in that market is effectively a loss for the trader – even though the market is performing well – because the trader has staked against the market performing badly. So, in the same way in which stop losses guard against runaway liability in buy positions, so too do stop limits guard against risks with sell positions.
Guaranteed stop limits can also be used in the same way as stop losses in banking profits as you go, or can be implemented as a cap in a position’s lifecycle at the point at which traders anticipate a reversal, such that the perceived maximum profit point is defined and the position automatically closed when the market reaches those heights. This can be an effective way to make a satisfactory amount from a trade while also notionally freeing up capital to trade in other markets and on other opportunities. Assuming the stop limit is set at a sufficiently high level, this can be an effective strategy for automating the trade.
When To Use Guaranteed Stop Limits
Like their stop loss counterparts, guaranteed stop limits are a cost centre for traders to take into consideration, and this must be factored in to any equation – whether the stop limit is being used as a safeguard against loss or used to shore up profits. It is advisable to take all possible steps to mitigate your exposure to risk at all times during spread betting, but that’s not to suggest that guaranteed stop limits should be positioned in every single short position you take.
In fact, guaranteed stop limits should be used more readily in markets where the decision to sell is more highly speculative, and where the market could in reality easily turn in either direction. This requires a careful consideration of all the often-complex factors that weigh-in in deciding how a market moves, and an objective analysis of the probabilities of the market moving in a direction that opposes your research and reasoning. If a position relies on some unknown variable and there are suggestions from price data that a market might move outwith its traditional range, its generally a good rule of thumb to make sure you’re guarded with a guaranteed stop limit in place.