Trading vs Investing: What is the difference?
Some might consider “trading” and “investing” interchangeable terms. However there is a big difference between the two, some might associate “investing” with Warren Buffet and “trading” with George Soros. They would be right! Both “investing” and “trading” are financial market approaches to creating wealth. The goal of the two outlets is to generate profits. However, the way in which they are done is very different. In the following article, TRADEPRO Academy takes you through Trading vs Investing. We will go through the
Trading vs Investing: The basics
There is one core difference everyone should be aware of when differentiating between investing and trading. That is time frame. The time frame used in trading is very different from that in investing. The time frame is how long either will hold onto their position.
An investor would typically enter into a buy and hold
A trader, on the other hand, is someone who looks for a shorter term “investment”. A trader enters the market looking for quick profits, and within the world of trading, there are different lengths of trading time frames. Just as there is a difference between investing time frames and trading time frames. A trader can take a position for any time under a year. The very key principal is capital gains. An investor may look for dividends and other luxuries. A trader can fall into two broad categories. Swing trading or day trader. For more information on those topics, check out a recent post here.
Trading vs Investing: Capital
When comparing the two financial market approaches to wealth one must consider capital. The distinction between a trading and investing can lie heavily in the capital used to take market positions. Along with capital growth.
Typically, an investor can be associated with a higher starting capital. An investor will have larger positions in long-term stocks which require a large amount of capital if they want to take on a larger position for years ahead.
Another aspect to note is an investors capital growth. They are less concerned with capital gains, but rather the company they have invested in and its potential growth and future earnings. This way they generate dividends and compounded interest from years of holding the companies stock.
A trader can either start with little capital or a lot of capital but they are not restricted by a small amount of capital. Such as an investor may be. Trading can be described as looking for capital gains on a short-term basis. Trading is profit based, with little to no intention in the companies operations or future earnings. Meaning trading rarely involves interest and dividend accumulation.
Trading vs Investing: Risk parameters
Trading and investing involves a very different outlook on risk management and that is due to the time frame in which the position is held in the market.
Investing allows for a larger risk tolerance. This is because the market position is held for years on end. Meaning the investment is held through many different market swings and rotations. The investor will most likely not get out of a position if the stock is down 10% but they still believe in the company and its future growth. This means an investor is willing to take more risk on if they believe in a company future fundamental success.
The chart below represents Warren Buffets investment in Coca-Cola. He bought $1 billion worth of the company in 1988 when the stock was trading near $2.00. This is a value investment, he believed in the potential and the future earning of the company and that is why he held the company for the long run. The massive red box in the middle represents a 4-year period in which the stock fell nearly 60% to start, then consolidated before breaking even and moving higher.
Buffet held through that move, for one because his investment had grown substantially from the $2.00/share he
Trading involves tighter risk per trade, that does not mean however that you automatically
The chart below represents a swing position on Coca-Cola which would be more of a “trade”. This is a long position from the $40.50 level to the $45.85 level. The time frame represents about a three months of holding the position. The entry was on a retest of a support level off pure technicals after it failed at that level just a few months before. Risk was capped at just beneath previous support, while the target was placed at previous resistance. The second target at previous highs. This represents a 2:1 risk/reward. The sole purpose of this trade is capital gains. If the stock price dropped to the max risk calculated, the position would have been closed out.
Perhaps a trader might have taken his position out earlier, on the first retrace before the full move higher. Or even have move his stop loss higher to capture as much of the upside as possible.
Trading vs Investing: The Individuals
Traders and investors are different entities as well, a trader can partake in investing activities and an investor can partake in investing activities. However their core styles are different.
A trader looks for financial assets for a short term return. The short term can be anything within a years time. Swing positions can last longer than day trading positions but the premise is the same. They do not stick around for longer term growth and gains.
Trading involves live analysis and precision entries/exits. The trader looks for trends in the security they trade and try to jump on that trend for short term gains. Missing the trend train can lead to a loss or a break even outcome.
An investor is concerned with the value of their investment in relation to financial health of the company and long-term goals, or the companies future earnings. That does not mean that an investor puts his or her money into a stock they believe in and forget about it. An investor still checks on his or her position, just not as frequently as a trader might. The investor also looks at different criteria, compared to the trader. The investor looks at the companies operations any changes in leadership that may effect futures growth and innovation. Based on these fundamentals the investor will choose to keep a position or get rid of it. The investor watches the company and its potential very closely. Once they believe the potential is maximized, the investor will exit his or her position.
Trading and investing are two different paths to generating wealth from financial markets. Although the two are different in approach the end goal is the same. In terms of profitability, they are very evenly weighed and there are many criteria one must consider when weighing out potential gains from either approach. Capital and risk tolerance being the main two.
The success of a trader and an investor lies in the consistency of their actions. The path to success for either is the same, involving discipline and risk management.
An investment can be defined as an action that weighs the value vs the cost of the assets. While trading involves a quicker exchange to generate capital gains.
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The information contained in this post is solely for educational purposes, and does not constitute investment advice. The risk of trading in securities markets can be substantial. You should carefully consider if engaging in such activity is suitable to your own financial situation. TRADEPRO Academy is not responsible for any liabilities arising as a result of your market involvement or individual trade activities.