This was the question I received a few weeks ago from Derrick. Since I thought this might be of interest to our readers I'm publishing the answer here:
I already hold FWY in my Sipp, and have no cash in the Sipp left to increase my FWY stake. I cannot invest through my ISA, and as a 18% tax payer have used or already allocated this and next years CGT and income tax allowances.
So I am interested in a spread bet as an alternative to a straight purchase which would attract 18% CGT and income tax on dividends. Effectively an alternative form of purchase (with available funds to cover) rather than an opportunity to leverage my position. I am new to this and feeling my way - the attraction here, which also applies to AMN, is solid downside cover with decent upside potential. I have today registered with IG index.
My question is this. I understand the basics, but not how the dividends are covered. Let's say I buy FWY at £1. A special dividend is paid of 50p - do I get this? Let's now say that following the dividend the price falls to 60p - where does this leave my bet - down 40p or up 10p?
I assume that there are others here who hold such positions and would be very grateful for a layman's guide to the issue. And if you think I am wrong in my analysis of this as a newbie spreadbetting opportunity please say so!
First, a quick explanation of ex-dividend - If a share price is marked ex-dividend, it means you've just missed the dividend and will have to wait another six months before you get one from the particular company. Often shares prices fall once a stock goes ex-dividend, but not always. It's best to know when ex-dividend day is, before you decide whether or not to sell. Keep a record of when your dividends are paid. So Aphid's theory... pay attention class... is that there is often a build up in buying of a share, just prior to it going ex-dividend, because then as a shareholder you obviously get the dividend paid with that share. The day after the dividend is issued, the share no longer has an immediate known dividend value, you have to wait another 6 months or year for next dividend, consequently it will tend to drop by around the value of the dividend paid. This drop is usually marked down over-night for the morning opening.
I have an IG Index account I don't hold FWY as a spreadbet but have had other shares that have pay dividends while I hold e.g. LLOY.
I'm pretty sure what happens is a "corporate action" is applied to the bet. So basically if you opened FWY at say £5/point at 100p and FWY paid a dividend of 50p on the day the bet goes ex-dividend your effectively get the 50 * £5 = £250 added to your account but your bet "winnings" will probably decrease by 50 * £5 = £250 as the share goes ex-dividend because all things being equal the share price will drop by the dividend. You don't therefore loose out but you don't make anymore either.
One of the slight-downsides to spreadbets is because you only pay margin you end up financing the bet which is often 2% over libor so about 7%. Suppose therefore you hold a position of £10,000 over a year you'll end up paying £700 in financing costs. These are not really that transparent since they are built into the bet but they are there. You can of course offset these to some extent by putting the £10,000 if you have it in a deposit account and get say 5%. You'll get normal dividends too so this helps offset financing costs.
The upside is the saving of 18% on tax which is more likely than not will offset the extra funding costs you pay. That said don't forget if everything goes pair shaped and your holding goes down in value you can't offset this loss against other gains in your portfolio. Some say the reason the government don't clamp down on tax free spread betting is because if they taxed gains they would also have to give tax relief on losses. Given that a lot of people get a bit carried away with margin and more often than not loose money with spread bets this is probably the reason they are tax free.
Another upside is that because you don't pay commission on a per trade basis you can average down into a position in relatively small chunks.
I think if used with discretion they are a very fine way to invest. I normally keep the same value as my spread bets in a high yield deposit account so that I am effectively not margined and the interest earned goes quite a lot way towards paying financing costs.
I strongly recommend, however, that you study the terms and conditions your spreadbetting company provides. These spell out what happens in such situations (and many others, including how interest is applied) it is important that you are aware of and understand them. They vary from company to company.
This is a vital part of DO YOUR OWN RESEARCH if you use spreadbetting or any other financial derivative.
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