If you explore the world of the share market for more than two minutes you’re bound to come across the words “investing” and “trading”. But what is the difference between the two of them and how do you decide which is right for you? Let’s start with the basics.
What is trading?
Trading involves frequent transactions with the aim of generating quick profits that outperform that of buy-and-hold investing. Traders seek to make profits within a certain amount of time.
There are four subcategories of trading:
- Position Trading: positions are held from months to years
- Swing Trading: positions are held from days to weeks
- Day Trading: positions are held throughout the day only
- Scalp Trading: positions are held for seconds to minutes
What is investing?
Investing is more of a long term strategy and seeks steady returns through buying and holding stocks. The goal of investing is to gradually build up wealth over time from a diverse portfolio of stocks. Investments are often held for longer periods and can generate income from the payment of dividends. Investors will hold their stocks without plans to sell in the near future and ride out downtrends in the market with the expectation that their stocks will recover and perform in the long term.
What are the main differences between the two?
Traders and investors differ in three key ways: time frame, activity and risk tolerance.
Traders are highly active on their trading platforms, watch their portfolios and buy and sell almost daily.
They see the market as a place to realise quick, short term gains. Investors will check the market infrequently in comparison and only make a handful of trades each year.
Investors are usually more risk averse, and aim to have diversified portfolios to mitigate losses.
With higher returns comes more risk so trading is by nature, riskier than investing.
Traders manage this risk by setting rules for themselves on when to buy and sell. They will often empoy stop loss orders to get out of a trade when a stock’s value hits a certain level.
How do traders and investors choose to buy stocks?
Investors rely on fundamental analysis while traders rely on technical analysis.
Fundamental analysis is concerned with the stock’s intrinsic value and analyses the value of the company and the industry as well as patterns in the company’s financial performance. This type of analysis is both quantitative and qualitative and will take into account a broad range of factors from the current economy to the company’s individual management.
Technical analysis is the study of market action and is based around patterns in a company’s share price. This type of analysis uses historical price charts and market volumes to predict what might happen next.
How do I know which type of strategy is right for me?
The choice between trading or investing is a personal one that must take into account the level of risk you’re comfortable with, the amount of time you have to spend and your lifestyle. The split between trading and investing isn’t always black and white. Traders might buy and hold a particular stock, and investors might sell a stock shortly after buying if they perceive the stock to be overvalued.
Ultimately, investing and trading aren’t mutually exclusive. The most important thing when deciding on your primary strategy is to educate yourself on the difference and requirements of both investing and trading.
Watch the video below for more information on the difference between trading and investing.
Samantha Freidin is a business journalist at Emerald Financial whilst also completing a Masters of Marketing and Digital Communications at Monash University.
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