Implementing Spread Bets on Short-term Interest Rates

Spread Betting on Interest Rates

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You can use spread bets to speculate on short-term interests rates which has become very popular with a large number of traders in recent times. This relatively new market to exploit spread betting has added to an extensive range enabling investors to exploit numerous sources for extra income.

You will find that short-term interest rates (STIRs) are linked with bonds because they are highly correlated since they both tend to move in unison with each other. For instance, if STIRs rise then bonds do as well. You may initially consider interest rates as a strange asset to speculate on, but you should dismiss your first impressions as they present many advantages.

The first major point to realize that opening a spread bet based on an interest rate follows the exact same procedure and concepts as for all other types of assets. For example, if you have evaluated that an interest rate with climb in value before expiration then you should activate a long spread bet. Conversely, if you expect one to fall then you should execute a short spread bet. Your profits and losses will be determined using the standard method as they will equal the difference in points between your opening and closing prices multiplied by the amount that you stake per point.

Short-Term Interest Rates

STIRs are interest rate values constructed on the benchmark interest rates controlled by the central bank of countries, e.g. the Federal Reserve in the USA and the Bank of England in the UK, etc. You should initiate a spread bet based on a STIR if you want to speculate on which direction a nation’s benchmark interest rate will move in the future. For example, a sterling spread bet tracks the UK interest rate.

Values for STIRs are deduced by using the market’s anticipated price for the three-month London Interbank Offer Rate (Libor), which is controlled by major lending banks. You then need to subtract the Libor value from 100. So, if Libor is currently quoted at 91.00, then this figure infers that the STIR is presently 9%, i.e. 100.00 – 91.00.

Short-Term Interest Rates are considered valuable assets by experts because their directional movements are closely correlated to those of bonds. As such, when central banks hike their interest rates higher; both the bonds and STIRs of the associated country will normally decline in value. Alternatively, you should consider buying long spreads using both bonds and STIRs if you determined that benchmark interest rates are about to drop.

If you intend to speculate on Interest Rates, then experts advise that you should begin by trading your national one. This is because you will then be able to readily receive all the news and current developments about your this rate. For example, most daily newspapers and TV news channel regularly present and update the national interest rate of the country in which they are located. However, you must always seek confirmation of the numbers quoted as the financial markets can move rapidly, especially under volatile conditions.

As explained above, the price of spread betting contract based on a STIR would have an opening value that equals the number 100 minus the current interest rate figure. For instance, a value of 94 indicates that the interest rate is 6%; a price of 97 would signify 3% while 100 would imply that the current interest is 0%.

If you evaluate that the Nation interest rates will decline, then you should open a long STIR spread bet. In contrast, if you consider that interest rates will climb then implement a short STIR spread bet. The process is relatively quite simple really!

Example of a Spread Bet on Short-Term Interest Rates:

Consider the UK interest rates as an example. Envisage that you have deduced that UK inflation is beginning to rise and that the Bank of England will have to step it to counter this development by increasing its benchmark interest rate. Consequently, you decide to execute a short spread bet based on the September Short Sterling after your broker offers you a spread of 95.00/95.02. As such, your opening price is 95.00 and your wager £10 per point.

At expiration, you analysis proves to be correct and the price of your STIR has, indeed plunged. Your broker is now presenting an updated spread of 93.98/95.00. Your trade is closed by buying back your bet at 95.00. Your profit is therefore 100 points times £10 equaling £1,000. When trading the UK short-term interest rate using spread betting, you must not forget that the spreads your broker will provide you will not be based on the interest rate itself but on the Short Sterling UK.

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