The Difference Between Long-term Investing and Trading
If you’re looking to grow your money in the financial markets, then you’ve almost certainly come across the terms ‘investing’ and ‘trading’ as methods of profiting from market participation.
However, since both money-growing strategies can involve the same markets and similarly involve buying and selling stocks, it can be difficult to tell what these methods are and how they are different.
What is long term investing?
Typically, investing involves buying and holding (keeping) assets – such as stocks, bonds and funds – to reward their appreciation over an extended period, which can be years or even decades.
This is usually despite short-term depreciation in these investments’ value. In general, they are likely to recover in line with the market over time and return to – or improve upon – their original value.
What is trading?
Trading involves buying and selling stocks in the short term – which can be seconds, minutes, days, weeks or months – to make a profit by taking advantage of the fluctuating discrepancies in stock value.
For example, if a trader buys a stock for $100 and the stock’s value increases to $120, then the trader selling the stock will make $20 in profit (minus the broker’s commission).
On the other hand, traders can ‘sell short’ and sell securities at a higher price. This is based on the evidenced assumption that there will be a depreciation in the value of that stock and that the trader will be able to repurchase it later at a lower price – though this is a technique that requires the skill of a seasoned trader.
There are many different types of traders, each of which is categorised by the holding period they employ when trading, a.k.a. the period that the trader keeps their stocks for before selling.
Day traders who trade stocks throughout the day – or just once per day – never hold overnight positions. In other words, stocks are bought and sold on the same day.
Swing traders who trade stocks daily or weekly, sometimes keeping their bought stocks overnight, resultantly holding overnight positions.
Scalp traders who buy and sell stocks rapidly hold their positions for seconds or minutes and never hold overnight positions.
Position traders hold their positions and retain the securities they’ve bought without selling for months or years.
What are the key differences between investing and trading?
There are many differences between investing long term and trading in growing money in the financial markets.
The most significant defining difference between investing and trading is the difference in time that stocks are held. With investing, stocks are typically held for years or even decades to see monetary growth. At the same time, trading aims to make smaller profits more regularly – though outperforming long-term investments overall – by buying and selling stocks daily, weekly or monthly.
Likewise, the time involved in these money-growing strategies is usually massively different. Day traders are recommended to spend at least two hours a day trading, but many trade 40 or more hours a week.
In contrast, investors can choose to research, invest, then leave their investments alone to (hopefully) grow. However, many investors choose to put more time into their investment portfolio than this, carefully researching and readjusting their portfolio while implementing a carefully thought-out investment strategy to maximise reward in the long term.
Another difference between investing and trading is that to be successful when investing; an investor needs to research the market and the companies associated with the securities to determine whether they’re likely to achieve long-term growth if invested.
On the other hand, traders don’t focus on whether the company they’re buying stocks from will achieve long-term growth. Instead, they search for and take advantage of mispricings of stocks. The stock is sold and purchased at a price that differs from the fundamental value of the stock. Traders typically use algorithms and technical analysis tools to detect and trade based on inefficiencies in the market.
Additionally, the budget required to invest versus trade looks very different. Most people with a few hundred – or even less – will be able to invest long-term in various stocks, bonds or funds, though they’re able to invest much more if they have more disposable income.
In contrast, traders typically need at least $1000 to make any money within a reasonable period. More than this, some financial markets have regulations prohibiting traders with fewer than tens of thousands in their ‘margin account’ – a.k.a. the account traders keep their designated trading funds in – to trade, limiting those with a lower income from entering the trading game.