One of the most common misconceptions new traders have about trading stocks is that it is similar to investing. Although these two terms are sometimes used interchangeably in casual conversations, they represent two vastly different styles of utilizing your capital. Understanding this difference will help you remain focused on one strategy and excel in it.
How Should I Be Investing Money?
The goal of investing money is really to increase your wealth over a longer period of time. It usually involves putting in an initial sum of money into the stock market in order to purchase stocks which have long term growth potential. Because of this relatively “hands-off” approach, an investor likes to begin by investing money in blue-chip stocks and other financial instruments that are less volatile, or lower risk in nature. An investment is something that you would put aside for retirement and not cash in until some point down the road. A general time frame for an investment is longer than a year.
Trading on the other hand goes down a very different path in terms of investing money. You are directly involved with management of your capital in the market. Contrary to investing, trading is short term, where you hold your position anywhere from 1 day to 6 months. Professional traders develop complex algorithm and charting techniques to try to play the market. It is important to note that your trading capital is not your retirement fund. Holding a stock that you initially wanted to trade can have disastrous consequences if you are inexperienced.
Investing money can be a perilous and intimidating journey. In choosing between trading or investing, you need to assess your appetite for risk, your time available and your goals along with many other factors. As a general rule of thumb, trading will require larger amount of time spent researching stocks recurring daily, have higher risk as well as a potential for higher return over a shorter period of time. Research that is done for the purpose of investing is usually an activity that happens at the end of every quarter after an earnings release or after some major shift in macroeconomic trends. It is also often skewed towards fundamental analysis and relies on things such as balance sheets, earnings per share and projected revenues to find profitable stocks.
Traders on the other hand focus heavily on technical analysis, support/resistance lines, charting patterns etc. The theory behind technical analysis is that because of the vast number of people who believe that it works, it becomes a self-fulfilling prophecy.