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May 9, 2022

3 key differences between investing and trading

As markets continue to be volatile in 2022, Schroders provided us with some educational content to help you see why investing is for the long term.

In a blog post we wrote back at the beginning 2022, we noted that during January, Markets were volatile - when the moves up and down are sharper and more frequent than normal. Well, this has continued throughout the year and many investors continue to experience more frequent and significant ups and downs than usual. We spoke to Schroders who, having been investing since the 19th Century, know a thing or too about the ups and downs of Markets. Liza Sizeland writes in her Money Lens article here on how timing the market is not for investors.

Schroders have provided this content to The Big Exchange to share with our customers and subscribers.

Trading and investing: what’s the difference?

Soaring stocks and cryptocurrencies have drawn the attention of many who’re new to the world of finance. But are they traders or investors? And which are you? 

The terms “trading” and “investing” are used as if they’re interchangeable. Yes, the aim of both is to make a financial gain. But are they really the same thing?

Many companies’ shares have soared during the pandemic. This market volatility – and the prospects of making big money – have highlighted the differences between trading and investing.

The first point to note is that the difference between trading and investing isn’t really down to what you buy or sell. Investors and traders tend to buy and sell the same assets (stocks, shares, currencies, commodities). It’s really all about how and when you buy and sell.

Key difference #1: Time

One key difference is the length of time the asset is held. 

Traders take advantage of both rising and falling markets and they tend to “enter and exit” positions (that’s the fancy way of saying “buy and sell”) over a shorter period of time. This means they are likely to make smaller but more frequent gains or losses. As mentioned above, traders often like volatile markets because the more movement there is, the more chance there is of riding the market up (or down).

By contrast investors’ longer horizons make them interested in years or even decades rather than traders’ weeks, days, hours or even minutes.

Traders tend to have their eyes glued to their screens, constantly monitoring price movements. Investors don’t typically track short-term price movements, and for long periods may not even know what their holdings are worth.

Veteran investor and billionaire Warren Buffett puts the case for long-term investors like this: 

“Only buy something that you'd be perfectly happy to hold if the market shut down for 10 years. Buy a stock the way you would buy a house. Understand and like it such that you’d be content to own it in the absence of any market.”

Key difference #2: Strategy

Traders might have a strategy, but it’s likely to be linked to short-term fluctuations in price and may be unrelated either to the intrinsic value of the investment itself, or to any of the traders’ personal goals.

That’s very different from the investor. Most investors – because they’re looking long-term – are going to study factors such as the future growth potential of a company. That is just one example of how they might choose which companies’ shares to buy and hold.

Investors are also more likely to be following a personal plan. What’s the investment for? Is it to pay for a house in a few years’ time? Or is it for retirement? If it’s either of those things, for example, the investor can build a plan around when they’re likely to need the cash. And that’ll influence what they choose to invest in.

Key difference #3: Risk

Whether you’re a trader or investor you face inherent risk. You could lose some or all of your money.

But the risks differ. An investor who buys and holds will typically over time make fewer decisions and transactions than the trader, who is moving frequently in and out of stocks. So while the investor’s gains may be less spectacular than the trader’s in certain periods, it is also possible that there will be fewer spectacular losses.

Historic stock market data shows that the longer the period for which you own company shares, the less likely you are to register a loss. Traders, by comparison, don’t have this reassurance, because they don’t hold their assets for long.

Schroders’ Head of Research Duncan Lamont has analysed past returns of the S&P500 and uses them to show how longer periods of investing result in lower risks of loss. He crunched the data from 148 years of returns. “We found that, if you invested for a month, you would have lost money roughly 40% of the time,” he says.

“However, if you had invested for longer, the odds would shift dramatically in your favour. On a 12-month basis, you would have lost money slightly more than 20% of the time. On a five-year horizon, that figure falls to 20%. At 10 years it is approaching 10%. At 20 years it is negligible.”

This article was originally published here and The Big Exchange has written permission from our friends at Schroders to re-use this article for our audience.

Please remember that when investing, making money is not guaranteed and your capital is at risk. The value of your fund can go down as well as up. Tax treatment depends on an individual’s circumstances and may be subject to change.

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