What is trading?

Trading involves the process of buying and selling assets on financial markets, such as stocks, currencies, bonds, and commodities, as opposed to buying and holding which would fall into the investing category. Achieving success in this field requires a trader to consistently generate profits over longer periods. Below we break down more about trading. 

What is trading?

Trading is the practice of buying and selling financial instruments with the intention to make a profit. These instruments come in many forms, from stocks and bonds to cryptocurrencies, with each asset having its own unique value that can rise or fall at any given time. Trading revolves around capitalizing on the price fluctuations of financial markets to sell at a higher price.

These financial assets will trade within certain markets, for example, currencies are traded on the forex market while stock trading involves buying stock on the stock market. The stock market is made up of plenty of stock exchanges around the world, from the Hong Kong Stock Exchange to the New York Stock Exchange. There are over 17,000 financial assets that one can trade across various markets, which we'll touch on below. 

With soaring inflation rates across the globe, many have turned to investing as a means to more effectively reach their financial goals. 

How does trading work?

Trading involves entering a market by buying an asset. When the market prices increase, you can sell the asset for a profit, while if the market prices decline, you can either sell your asset and make a loss, or hold onto it until the market improves. 

Market prices are typically influenced by supply and demand. Demand will drive prices up as more people are looking to buy the asset and are willing to pay higher prices. When there are more sellers than buyers the demand decreases and the prices will go down. 

The two most popular options for trading involve buying and selling assets through an exchange or OTC (over the counter). OTC trading involves two parties (traders and brokers) agreeing on a price to buy and sell the asset.

An exchange on the other hand will determine the prices for you and sell them in a more structured sense. Some investors will use a brokerage account to manage their investments through an exchange. 

Whether you are trading stocks or dabbling in forex trading, the process of buying and selling remains consistent.

Types of assets one can trade

As mentioned above there are plenty of financial assets available to trade. Below we break down the most popular options, with a brief explanation of what they are.

Stock trading

Stock, also referred to as equity, is a share in a company that provides the holder with factual ownership in the company it represents. Trading stocks is a popular online trading option that involves the process of buying and selling stocks.

Forex

Forex stands for foreign exchange and involves the trade of two different fiat currencies. Currency trading is done in pairs, where buying one indicates that you expect it to increase. 

Bonds

A bond is a form of security in which the issuer (typically a company or government) owes money to the holder and has an obligation, according to its conditions, to repay both the interest as well as principal at the agreed-upon date.

ETFs

ETFs or exchange-traded funds are investment instruments that track the price of underlying assets. These are baskets of shares, bonds, or commodities, potentially lowering one's risk and exposure. 

Cryptocurrencies

Cryptocurrencies are digital assets that can be traded on exchanges or peer-to-peer marketplaces. Cryptocurrencies are decentralized meaning that they are not controlled by financial institutions or governments. They are known to have short-term price fluctuations.

Index Funds

Indices measure the performance of a group of stocks as opposed to trading individual stocks. Different indices track different groups of shares which can be categorized by location, industry, sector, or entire stock exchange. 

Commodities

Commodities are raw goods typically broken down into four categories: metal, energy, livestock and meat, and agricultural. These are traded on various markets, typically through futures contracts. A trader will generally not get involved with the physical purchasing of the goods.

Stock market vs forex market

Investing in stock trading and investing in the foreign exchange (forex) market are two distinct forms of trading. Both provide investors with profit opportunities, but there are key differences between the two markets.

The stock market is a collection of exchanges where publicly traded company stocks, bonds, and other securities are bought and sold. On the stock exchange, buyers and sellers come together to negotiate prices. The foreign currency market, or Forex trading, is an electronic over-the-counter financial trading market made up of banks, brokers, institutions, and individual traders. It trades in currency pairs, such as US Dollar/Euro or Japanese Yen/US Dollar.

Though both investing channels offer potential profit, there are differences between the two. Stock trading requires a large sum of capital to start trading, while Forex often requires much less. In addition, stock trading deals in smaller amounts than Forex trading and has higher commissions and fees associated with it.

The stock price is also subject to strong volatility and can change quickly. On the other hand, Forex trading is a 24-hour market and trades in large amounts with much less volatility.

It's important to understand the differences between the two markets before deciding which one is right for you. If you're looking for long-term investments that require less capital, then stocks may be the best choice. But if you're looking for a more liquid market with a higher profit potential, then Forex trading might be the better option.

4 different ways to trade

Trading isn't a "one size fits all" solution; there are various methods of trading the markets that you can adopt, with some being simpler than others. If you want to identify which approach is right for you, take some time to read these guides on the major types of trading and build trading strategies that make financial sense to you and your personal finance goals.

1. Day Trading

Those familiar with the stock market are likely acquainted with day trading, a term used to define active trading. Day traders buy and sell assets within one business day– hence its name – in an effort to capitalize on short-term fluctuations for profit. When stock trading no positions are held overnight. 

Day trading allows traders to immediately take advantage of market volatility, offering a fast-paced method of trading. The downside, however, is that it requires more time, knowledge, and attention and will likely incur more transaction fees for each trade executed.

2. Position Trading

For some, position trading is merely a buy-and-hold tactic and not considered active trading. Position traders rely upon long-term charts (from daily to monthly) in tandem with additional methods to recognize the market's current direction. This kind of endeavor usually lasts anywhere from several days up to weeks or even months depending on the trend's duration.

These traders aim to capitalize on the ups and downs of market fluctuation by seeking out successive higher or lower highs. Instead of attempting to accurately predict prices, they aim to identify which direction the trend is headed to ride it as an opportunity for growth. Thus, trend traders look at trends rather than levels when making their decisions.

Traders that follow current trends usually enter the market after it has been established and quickly exit when a trend breaks. During times of high volatility, this trading strategy can be difficult to execute properly.

To successfully engage in position trading, one will need a strong understanding of technical analysis as well as patience. 

3. Swing Trading

When the trend shifts, swing traders tend to jump into action. Often when one trend ends there is an inherent level of price movement as a new pattern starts to emerge. During this period, swing traders will take advantage and buy or sell depending on which direction they anticipate the market may go in next.

Typically these swings are held for longer than just a day but are still shorter-term compared with trend trading that can last weeks or even months at a time. Swing traders typically use technical analysis or fundamental calculations.

Swing-trading algorithms are created to determine when it is opportune for investors to purchase or sell an asset. Without needing to precisely predict the peak or fall of various price movements, swing trading aims to rather identify whether the market is moving either up or down.

Range bound or sideways markets can pose a great danger as they provide no potential gains for swing traders. Requiring less time and attention to day trading, swing trading has a higher potential for larger returns, as well as larger losses. 

4. Scalping

Active traders frequently use scalping as a speedy method to capitalize on bid-ask spreads that differ from the norm. These discrepancies arise due to temporary differences in supply and demand, enabling savvy investors to benefit from them swiftly.

Scalpers don't look for big profits from large price movements or execute high volumes of trades. Instead, they strive to benefit from small moves that happen frequently and at manageable trading amounts. As the level of gain per trade is limited, scalpers search for liquid markets so their transactions can be made more often.

In contrast with swing traders who favor volatile markets where there are quick shifts in values, scalpers lean towards quiet trading conditions that aren't susceptible to abrupt changes in prices.

Scalping does not require strong technical understanding and generally holds less risk due to using less volatile assets. This style of trading does however require high upfront capital and can be very time-consuming. 

Trading vs investing 

Trading and investing are two distinct strategies with different objectives. Trading involves buying low and selling high or selling high and then buying low, usually in a short to medium-term timeframe. This strategy allows traders to make money without taking ownership of the assets they buy or sell. 

On the other hand, investors take possession of their assets for an extended period so that they can benefit from their long-term growth potential, which may result in higher returns than trading activity does over time.

Investors can also receive dividends from trading shares if granted by the company as well as having shareholder voting rights. 

In conclusion

Trading is the buying and selling of financial instruments such as stocks, bonds, mutual funds, currencies, commodities, derivatives, and other assets in order to benefit from price movements. It involves analyzing markets and making decisions based on fundamental and technical analysis.