309Write - Investing Vs Trading What S The Difference


There is a question that entrants to the financial markets often pose, and which is sometimes discussed by seasoned market participants. That is, how do you say the difference between trading and investing? Trading and investing are sometimes confused as synonymous activities because they are carried out in somewhat similar ways when seen through the lens of the financial markets. In my book, The Basics of Trading, I expanded on this basic theme by mentioning that scope concept is what separates the two. After all, both trading and investing are, at their most fundamental forms, the application of capital in the pursuit of income. If I buy XYZ stock, I expect it to appreciate in value or pay dividends – or both. What distinguishes trading from investing, however, is that in trading, one usually has an assumption of exit. This may be conveyed as a price target or the amount of time the position would be held. In any case, the trade is thought to have a limited lifespan. Investing, on the other hand, has a much broader scope. An investor will make a purchase. To illustrate the difference, we can use examples. Warren Buffet is a businessman and an investor. He invests in businesses that he believes are undervalued, and he keeps his positions for as long as he believes in their prospects. He doesn't consider the price at which he'll sell the stock. George Soros is (or was) a trader (at least while he was still operating his hedge fund). His most well-known trade was shorting the British Pound as he believed it was overvalued and about to be removed from the European Exchange Rate Mechanism. He took a particular approach because of a specific situation. The Pound was able to float freely and easily devalued in the economy until it was allowed to do so. I was able to walk away with a tidy benefit. This satisfies the requirement of getting a predetermined exit, making it a trade rather than an investment. However, there is another way to describe trading as opposed to investing. It has to do with the manner in which the invested capital is supposed to yield a profit. The aim of trading is to increase your wealth. You purchase XZY stock at ten dollars with the hope that it will grow to fifteen dollars, resulting in a capital gain. If dividends or interest are paid out along the way, that's great, but they'll probably just make up a small part of the projected income. Investing, on the other hand, is more concerned with long-term profits. As a result, income generation, such as dividends and bond interest payments, becomes the primary focus. Is there any capital appreciation for investors? Sure, but it isn't the primary motive in this case, unlike in trading. Consider what many people refer to as their single greatest expenditure – their home – in view of these meanings. However, according to our second concept of investing, a home is rarely an investment because it does not generate any revenue. Indeed, it creates substantial costs in the form of mortgage interest, utility bills, and maintenance. A house is, in many ways, a trade. We purchase it in the hopes that its value will increase over time, thus increasing our equity. And the fact that many people want to relocate in a few years and then sell makes it much more of a transaction than an investment. (Of course, owning rental property can be considered an investment if done correctly.) As previously mentioned, many people mistake trading and investing for the same thing. Buying and selling have essentially the same mechanics. Often the analysis used to arrive at those conclusions is the same. However, the purpose and concept of goals are what separates trading from investing.

Enjoyed this article? Stay informed by joining our newsletter!


You must be logged in to post a comment.

Related Articles
About Author