How to use Leverage Safely and Successfully - Spreadbetting and CFDs Part 5 of 7

How to deal with Nasty Bear Markets
Due to the nature of the Leverage in Spreadbets, when Markets go a bit nasty, the Cash Buffer in your Account can evaporate very fast - it is quite scary and this is why you must control your Exposure at all times. I have found that by building up my Spreadbet Portfolio slowly over time, I have learnt how the ‘Margin’ (Deposit) and ‘Cash Buffer’ tend to move and I now always have a big Cash Buffer sat there ready. This comes with experience but it is vital to start small and learn how the whole thing works before you take larger Positions.

My Spreadbet Exposure is 100% covered by Cash that I have in normal Bank Accounts that I could get to quickly if I needed to  - although if I ever needed the full 100% then we really are in Doomsday. In practice, I would expect even in the worst kind of Bear Markets, the biggest Drawdown on my Virtual Mirrored Portfolio would be maybe 30% of my Exposure - it depends on the type of Stocks in the Portfolio. I try to stick to quality, profitable, low debt, divvy paying stocks at fair prices - if you buy High Risk Junk in a Mirrored Spreadbet Portfolio, it could all get quite horrible quickly.

In the normal course of things, I tend to try to Hedge using FTSE100 Shorts whenever Markets get generally Toppy and Technical Indicators like the RSI (Relative Strength Index) are at elevated levels. I might not Hedge all of my Spreadbet Long Exposure, but would probably do at least 50%. This means that if we do have a Drop in the Markets, then the gains on the FTSE100 Short should offset much of the Drop on my Long Spreadbets - this just makes things easier to manage as it means a Margin Call (they want more Cash from me) from igIndex is far less likely and I won’t have to bother moving Cash around from my Bank Accounts.

In addition, whenever Markets get toppy, I will be looking to Topslice some Long Spreadbets or maybe Close some entirely. This reduces Overall Exposure and at the same time it boosts my Cash as the Margin is freed up - so it is a double win and a “major contribution to Road Safety” (wasn’t that some tyre TV Advert in the 70s?)

One useful aspect of falling Markets is that as your Long Exposures take a hit, the Margin Requirements fall as well - so they go in your favour. This is another aspect of how your Margin, Cash Buffer and Exposure all wiggle around during Trading Hours. As I mentioned earlier, start small and get an understanding of how the various parameters move around.

When Markets start to come off the boil, I find that my Cash Balance starts to reduce - this is to be expected and I mitigate to some extent with Hedging. If we have a period of successive Down Days, then I usually find that my Cash Balance drops by fairly stable amounts. For instance, imagine your Cash Balance was £5000 - you might find that each day it drops by perhaps £500, so you know you can ‘survive’ for 10 days before you need to put new Cash in at that rate. Obviously, you will get better and worse days but you get a feel for how it drops - and it is important to keep on top of this - I tend to monitor twice a Day if things are running a bit ‘tight’ and Markets are bad. At normal times, I only look once a day in the Evening when I do my ‘Numbers’ and I check the Margin and Cash while I am at it.

It’s quite funny though, I nearly always notice that when my Cash Buffer drops to a point where I feel quite nervous and feel a need to pay New Cash in, it nearly always Rallies the next day !! A great Contrarian Indicator maybe? Clearly I am then at a point of Maximum Fear….

When we get into a proper Bear Market (much of the text prior to this really refers to Big Pullbacks in a general uptrend) and things are really nasty - I cut down my Long Spreadbet Positions hugely and go heavy on the FTSE100 Shorts. I might even start Shorting some Individual Stocks. No doubt we will get a Bear Market soon and you can all sit back and enjoy watching me tie myself in knots as I try to manage my Leverage !!

This Section raises a thought that I battle with a lot. I size my overall mirrored Spreadbet Portfolio according to the Cash Pile I have in various Bank Accounts and I am 100% covered. In practice, I think I am a total wimp and I really could take on a lot more exposure. Think of it this way; say I had Long Exposure which was twice as high as my Cash - so I had 50% of the Exposure backed by cash - for the kind of Quality Stocks I play with, this would probably be plenty. However, in practice, I tend to take the Actions outlined above with reducing Longs and banging on Short Hedges - so my Exposure falls very fast in Nasty Markets. Therefore, why do I need 50% Cash even? Maybe I could get away with as little as 25% Cash. This would be suicidal for Beginners but for experienced users of Leverage this might be more sensible than it seems. It also means that in Good Times I could be making 4 times more than I do now !!

Bet that got your attention !! (well, you did put it in Bold, wheelie.)

A Big Advantage from Spreadbet Accounts when compared to Normal Shares
You can take out cash from your Spreadbet Account and positions remain the same size. With normal shares you have to sell some so your positions are reduced in size. This is a huge advantage.

It really is very simple with igIndex. If markets get nasty, I just pay new Cash in really easily in seconds, and when things are going well and I feel that my Cash Balance has got very large (more than I need in the Spreadbet Account as ‘Buffer‘), it is very quick and easy to take cash out - I put in a Request via the App and the cash gets into my Bank Account the next day. I use the app on my 10” tablet but I think I had to set up card details first - I can't remember !!

It really is dead simple. I have often paid in Cash to my Spreadbet Account when markets are in a bad mood and then taken the same cash out within days - I tend to like having a nice big Buffer so I don’t need to worry about Margin Calls.

So, this is a huge Advantage of Spreadbet Long Positions over the equivalent Normal Share Positions. Because of the way it works (basically the Leverage creates this effect), when a Share goes up, it generates loads more Cash in your Balance that you can take out if you need it and you don’t think you require for ‘Buffer’ purposes. So, you just take the Cash out and your Exposure to the Shares remains exactly the same. With Normal Shares, if you want to take Cash out then you have to sell a Chunk of the Shares (incurring Spread and Commission Costs) and you end up with less Exposure.

This is such a great and helpful feature that it makes me wonder a lot why I bother with Normal Shares at all. I think the idea of an ISA Portfolio ‘mirrored’ by Spreadbets is disciplined and logical but maybe it is a little daft and totally inefficient with my Capital. Perhaps I should just go Spreadbets only. Quite a brave thing to do though.

A drawback of Spreadbets is that it probably costs a bit more in terms of Spread costs and stuff if you buy quite large positions on small AIM stocks with wide Spreads - but these are not great for a ‘Virtual’ Spreadbet Portfolio anyway.

There is another way of looking at this. With Normal Shares in a Portfolio, you have to put up the Capital for ALL of the Portfolio Value, and then it goes up and down. With a Spreadbet mirrored Portfolio, you have to stump up the Margin (Deposit) and then you only really fund the Down Movements of the Portfolio - the Up Movements fund themselves in effect. Weird isn’t it? I appreciate that this might take some thinking about, it is quite a difficult concept to grasp, especially if you have not already had experience of Spreadbetting.

Plenty to think about there, the final parts of the Series should appear next week.

Have a wicked weekend, wd