Trading Vs. Investing: Which Approach Is Right For You?

Trading Vs. Investing: Which Approach Is Right For You?

WEALTH speaks with Adam Reynolds, CEO of Asia Pacific for Saxo Capital Markets, to get his expert insights on how to discern the difference between trading and investing and how to determine which approach is right for you.

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If you are looking to make money in financial markets, one of the first and most fundamental questions you must ask yourself is whether you want to adopt a “trading” or “investing” strategy.

The aim of both strategies is the same: to earn a profit. But the philosophies and practices of traders and investors differ profoundly. Simply put, investors seek to build wealth over a protracted period of time by buying and holding a portfolio of securities, while traders aim to make money by continuously buying and selling stocks, commodities, currencies, and other instruments, and taking advantage of daily price fluctuations – the age-old “buy low, sell high” method.

Having a firm understanding of the distinction between trading and investing and being able to determine which strategy is right for you is of paramount importance. Here we speak with Adam Reynolds, CEO of Asia Pacific for Saxo Capital Markets, who illuminates the difference between trading and investing, and offers expert advice for practitioners of both approaches.

Adam ReynoldsCEO of Asia Pacific for Saxo Capital Markets

WEALTH (W): How would you define and describe the difference between trading and investing?

Adam Reynolds (AR): The difference between trading and investment is very significant. The skill set required to do both also varies greatly.

For trading, the main idea is to understand short- to medium-term trends in very specific sectors and asset classes of the market and try to anticipate moves. This involves having a very specialist knowledge of the underlying instruments or indexes and the micro- and macro-economic influences on those instruments. Additionally, having a strong understanding of market dynamics for that particular instrument is a strong skill set. Many traders use technical analysis to help visualise the market dynamics and price action and help predict direction and market positioning.

For investing, the time frame is longer and creating a portfolio with a balance of risk and reward is essential for long-term success. This requires significant asset class diversification and usually geographical diversification as well. Investment success is most impacted by macro-economic factors and as such, returns vary from country to country quite significantly. Having a diversified portfolio that can benefit and protect the investments from different parts of the macro-economic cycle ensures the best trade off between risk and reward.

W: How do traders and investors typically differ in areas such as risk tolerance, time horizon, return expectations, and financial goals?

AR: Traders usually have a much higher risk short-term horizon and are willing to have far more concentrated portfolios. The return expectations from traders are higher, but the risk is significantly higher as well.

Investors usually have a much longer time horizon, yet their risk tolerance can range from conservative to aggressive depending on their multi-asset diversification as well as overall portfolio concentration. For example, you have hedge funds like Viking, that tend to have very concentrated portfolios with 50% of assets under management (AUM) in their top 10 positions and are happy to sit with investment themes for years in an equity long/short mandate. And then you have Global Macro investors like Ray Dalio’s Bridgewater, that really focus primarily on asset class diversification, secular trends, current regime, etc.

Financials goals are symmetrical across both trading and investing approaches, yet typically there is a skew towards capital preservation and yield in investing vs. capital appreciation in trading.

Our Saxo Select offering allows our clients to pick portfolio managers that could be geared to either the trading or investing camp.

W: How can individuals determine if they should be more geared towards a trading or investing approach? What are they key factors they need to consider?

AR: The number of investors in the market is significantly higher than the number of traders. This is due to the skills required to be a trader. Traders need a lot more discipline to be successful, and knowing yourself, and your ability to remain disciplined is a key determinant of potential success.

As an individual who starts out trading, the most important factor is to determine their own risk-tolerance and start out with small positioning that is not going to significantly impact their wealth, while learning how to trade. A knowledge of the market is a pre-requisite, but no guarantee of success. What we tend to find, on the flip side, is a lot of successful and experienced traders tend to probably trade too small.

One can be successful in either (Warren Buffet vs. Paul Tudor Jones) – the most important thing is to stick to one’s temperament. If you fall asleep at the thought of reading an annual report or research piece, then perhaps being an investor is not the mould for you.

If you are more inclined towards a fast-paced environment, with daily to weekly close monitoring of market movements and events, then perhaps you are a trader.

Even perhaps more importantly, if you understand the importance of wealth creation, yet are not particularly interested in either being an investor or trader yourself, then find someone with a track record and approach that resonates with you. In other words, investors should not allocate their monies to traders, nor vice versa – as you’ll most likely withdraw your money at the worst possible time – this has been a big driver in Saxo developing the Saxo Select offering.

W: What are the main advantages and disadvantages of the trading approach?

AR: The main advantages of trading are that you can generate an income and a significantly higher return on your assets. Be prepared, as the downside is more acute, and the likelihood of losing the money invested is also significantly higher. This is why discipline is the number one determinant of success in the world of trading.

Also, generally speaking, trading is more stressful than investing, and this is because the leverage tends to be significantly higher in trading. So while an unlevered investor can take a recession pullback of say -20% to -40% in stocks, a levered trader could never take such a move. Yet leverage cuts both ways, investors will rarely have years where they make +100% returns on their capital, traders can do that in a month or even a week through successful use of leverage.

W: What are the main advantages and disadvantages of the investing approach?

AR: For investors, the main aim is income generation and wealth preservation on an inflation adjusted basis. The advantages of this is that there are a lot of tools, like ETFs, which an investor can use to diversify risk across geographies and asset classes at a very low cost.

The other huge advantage that investors have over traders is time – in the long-term, fundamentals and facts tend to come to fruition. In the short-term, there is a lot of noise, that can lead one to be shaken out of a position or view that later plays out. So while an unlevered investor can take a recession pullback of say -20 to -40% in stocks, a levered trader could never take such a move. Yet leverage cuts both ways, investors will rarely have years where they make +100% returns on their capital, traders can do that in a month or even a week through successful use of leverage.

W: What are the most important tools, techniques, and strategies for investors to use?

AR: For investors, understanding asset allocation and the benefits of diversification is key. So tools that screen investments and the components of different portfolios, and can aggregate the asset classes and geographies of portfolios are important in assessing the risk-reward trade off of their portfolio.

At Saxo Bank Group, we are currently introducing significant enhancements to our tools for investors through “My Account” a new portfolio analysis tool which investors can use to analyse their performance and portfolios in far greater depth than any other competing platforms in the market. We envisage rolling this out across Asia during Q4 of 2017 to all of our existing clients. Our Global Macro Strategist KVP always says to our clients: “The best trade/investment you can ever make, is to keep a trading/investing journal. What gets measured gets done and more importantly improved upon. A journal allows one to clearly see one’s wins, losses, trends, things one is getting right and things one is getting wrong.”

W: What are the most important tools, techniques, and strategies for traders to use?

AR: For traders, the most important tools they can use in analysing individual instruments are the charts, and for understanding their individual trading performance, they need a strong database of how their trades across different instruments have performed. The price action of a security contains a huge amount of information about supply and demand for that security which is driven by all of the factors a trader needs to consider.

On SaxoTraderGo, and SaxoTrader Pro (which is currently on beta release) the charting tools are extremely strong with excellent portability. Traders can create their annotations and studies on one device and they will carry over from device to device. This feature is very hard to achieve and means that technical analysts can carry their charts with them when on the move, with all of their own intellectual property and analysis in their mobile device. For understanding individual performance, once again the new my-account section of SaxoTraderGo and Pro gives extensive analysis of trading performance.

W: What are the different types of traders? How can individuals determine which of these trading styles suits them best?

AR: Traders can usually be characterised as algorithmic, technical analysts, macro traders and sector/instrument specialists. Most successful traders are a blend of those things and usually stick to those instruments that they specialise in – whether it be currencies, equity indexes, commodities, etc. Algorithmic traders use advanced computer analysis to predict moves, sometimes in very short time frames, and typically generate trades over an API directly to their broker. Algorithmic trading is a style of automated technical analysis. As a new trader, learning the different skills is essential and studying the macro-economic environment, and technical analysis techniques is definitely a prerequisite to success along with a disciplined approach to trading.

W: What advice would you give to traders?

AR: There is no greater determinant of success for a trader than discipline. Successful traders do not make money through luck over the long term. The market price action will give you strong hints as to whether you are right or wrong, and very often the price action in the market will come before news hits that can move the market and often only confirms what specialists have deduced by studying the market and being ahead of the trend. When putting on a trade, have a plan for the trade, a strong expectation that you are risking significantly less than you are targeting to make, and when things go wrong, exit the trade and reassess. Getting stuck with a bad position and hoping for a recovery is not a sustainable trading strategy.

W: What advice would you give to investors?

AR: For investors, having a well diversified portfolio across asset classes that can perform in different macro-economic environments is essential. Using a multi-asset trading platform line Saxo Trader Go and Pro is a great way to be able to visualise and assess the different components of your portfolio and benchmark your portfolio against well defined benchmarks. Using ETFs to access broad sectors at a very low cost is a very sensible way to control the costs of running your portfolio.

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