Trading and investing are two terms that, if you’re unfamiliar with the investment world, might sound the same—but they're far from synonymous.
The goal of investing is to build wealth over the long haul – years to decades – by building a well-diversified portfolio. They may divide their portfolio into goals, with each section carrying a varying degree of risk, such as:
And, unlike trading, investors don’t sell off positions in their portfolio at the first sign of trouble – even if their portfolio takes a significant hit. Instead, they ride out the downtrends (and maybe even increase their holdings to “buy the dip”) on the expectation that prices will rebound even higher on the other side.
At the end of the day, investors, unlike traders, stick to the mantra, “The market will always perform.”
The goal of trading, on the other hand, is to “beat the market” – and the returns seen in buy-and-hold investing. Instead of buying long positions to hold in their portfolio, traders get in and out of positions as quickly as they can turn a profit.
For example, the S&P 500 has generated roughly 10% returns annually over the last few decades, which is the standard for many investors. Traders aim to outperform this figure..
To do this, traders take advantage of small, short-term price fluctuations – either up or down – and jump on opportunities as they arise. For instance, if political uncertainty in Europe were to raise the price of U.S.-based mining companies for three hours, traders would snap up the stock in minutes – and sell again when it showed signs of trending downward.
And instead of waiting out downturns in the market, they may initiate a stop-loss order to automatically sell their assets if the price falls below a predetermined point.
While neither investing nor trading has a standardized set amount to begin, laws do regulate the amount of capital you need to have for trading. Traders use a broker to facilitate their transactions; and typically, brokers require you to maintain a daily account balance, or margin. The Securities and Exchange Commission (SEC) requires traders who trade four or more times in five days to maintain $25,000 in their margin account in order to trade.
Additionally, many brokers charge flat rate or percentage-based fees on every transaction. As such, traders can rack up charges quickly.
Depending on the broker, investors usually pay fees on their AUM (assets under management) ranging from free to 1% or more. Some investments, such as mutual funds, may also charge sales load, redemption, account and/or purchase fees.
Regardless of how much it costs you, however, the associated risk and reward will also affect your earnings.
The shorter your hold time, the better chance you have of losing your investment. While investors do face some risk, holding positions for years also gives their investments a chance to regain their losses when – not if – the market fluctuates.
Moreover, investors take advantage of compounding, reinvesting profits and dividends, and gradual, long-term appreciation to grow their wealth over time. By contrast, traders try to profit by buying and selling assets quickly. They may wait for a particular stock to start rising, or they might open a short position to capitalize on falling stock prices.
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