Do you want to get into the stock market? Maybe because you saw your friend make quite a bit of money betting on some trendy things like Ethereum or GameStop. Or maybe you think mutual funds could help you raise funds for your child’s education plans.
Different financial goals require different strategies and approaches. If you are new to the stock market, it is important for you to know the basics, like the difference between investing and trading.
Everything looks too complicated as a rookie investor and we get it. Let us try and simplify some things for you.
What is Investing?
An investment is when you allocate money somewhere with the intention of compounding it in the future. Investment is a tool of wealth generation. Basically when you invest money into something, like stocks and bonds, mutual funds, or real estate, you do it with the idea of making a profit in the long term.
This profit usually comes from the value or price of your asset increasing over time. If you have invested money into a stock, for example, you get a profit when the price of the stock increases over time.
Investment is an excellent, mostly passive way of wealth generation. For the long term, especially when you have goals for child investment like education plans, sending your child to study abroad, etc.
What is Trading?
Trading in the stock market is exactly what it sounds like, you trade stocks. When you trade in stocks, you buy stocks like any other goods or commodities and sell them for a profit. Traders deal in stock with the intention of short term profit generation. They don’t hold their assets for a long time unlike investors who can stay invested in the same asset for years.
Traders can sell their stock within months, weeks, days or even minutes. As such traders have to have a really good understanding of the pulse of the market and where a stock will go in the short term future.
Trading takes a little more active effort than investing because you need to be on top of the situation in the market at all times and buy and sell at the right time. As such trading is ideal for making fast money in the short term.
Difference in Timelines
Trading depends on changes in the market that happen over the course of a short period. This means that they cannot plan for the long term. A stock that is predicted to shoot up within the coming month, likely will not continue to shoot up over the next few years.
Rather it is more likely to fall or plateau. A trader tries to predict the optimal timeline to buy and then sell the stock within this period of time. But they cannot stay invested in the stock for the long term as it would cause losses.
This means that the timeline of holding a stock for a trader is much shorter. Trading depends on buying low and selling high in the short term.
In contrast, investors tend to buy and hold. Investment relies on the price of the asset slowly and stably appreciating over time. Trendy and unpredictable stocks or other assets do not make good investments. One cannot guarantee the value of these stocks over a long term period. This is why investors usually choose relatively stable and reliable securities or invest in mutual funds and ETFs that are managed by professionals.
Investment requires having patience and confidence in your stock and holding it for a long time. Investors don’t let short term changes in the market bother them and focus on increasing value over the long term.
Difference in Risk
Putting money in the stock markets always carries risk. You are at the mercy of a myriad different and unpredictable factors that may affect the price of your investments.
Trading typically carries more risk than investment. When you want to generate wealth or make a profit over a relatively short timescale, you need to take more risks. This means investing in stocks that may behave unpredictably. Making quick, short term financial decisions on limited information is intrinsic to trading. This is another factor that makes trading more risky.
Investment also carries risk, however this risk is typically lower than with trading. When you are an investor, it is important for you to lower risk. You can do this by diversifying your portfolio to include both higher risk, more lucrative securities as well as safe, low risk investments. This is called balancing your portfolio.
Another way of becoming an investor, especially when you don’t have a lot of capital or expertise is to invest with an AMC (Asset Management Company). AMCs let you invest in mutual funds and ETFs which are structured, diversified and professionally managed basket securities. These funds let you have a balanced, secure portfolio which is ideal for investments.
Difference in Goals
Investors and traders tend to have different goals. Since traders are looking to make money fast rather than over the course of years, their goals tend to be more short term. Additionally, trading is risky.
To ensure high profit margins in relatively quick time, traders must invest in unpredictable stocks. This does not mean that traders don’t have long term goals. However, they usually don’t plan to achieve their long term goals through trading alone.
Sometimes you have high stakes goals. You cannot leave your child’s education plans or study abroad dreams to the mercy of unpredictable stocks on the market. For a goal like this, a long term, reliable strategy for wealth generation is required. For goals like these, you need to be an investor.
While trading and investing both involve buying and selling securities on the stock market, they carry entirely different risks and involve different approaches and strategies. Keep in mind that there is no reason for you to choose. You can dabble in trading while also keeping safe investments on hand. It all depends on your financial goals and long term future plans.
In this day and age, with rising inflation, a little extra cash never hurts. But at the same time, be careful while taking risks on the stock market, especially if you are a parent. Secure your and your children’s future and education plans through solid investments. Keep the risks in mind when you are trading and try to start slow instead of taking big risks with large amounts of money.
A good financial advisor can be a good investment. You should also put in the effort to try and understand the basics of investment and financial planning. Educating yourself is always a good investment. Expertise and knowledge are one investment you will never lose.