Trading vs. Investing …
Which one is Right for You?
If you are comfortable with your present online trading investing skills, go straight to the low risk option trading strategies page of our web site. If you would like to learn more, just follow along.
Before you can dive into the ocean of options investing, you are going to have to learn how to swim in the basic trading and investing pool.
First of all, we are going to make some assumptions. You probably would not be here if you did not at least know what a stock or a mutual fund were. While you cannot invest in mutual funds using options directly, you can effectively do this by trading options on Exchange Traded Funds (ETFs) or with Index Option Trading. In all likelihood, you already know that you can trade options on stocks and commodity futures contracts on assets like corn, gold, and oil.
While most market participants consider themselves to be "investors", those who regard themselves as "traders" make the biggest profits in the financial markets. With the advent of the Internet, you can now compete with the "professional traders" at financial institutions. For most people, it is best to learn a little from both the greatest investors and the best traders.
Investors
"Investors" place their money into stocks, bonds, mutual funds, real estate, and other assets under the assumption that their investments will increase in value over time. If everything goes according to plan, the investment will be profitable.Most investors do not have a plan for what to do if their investment decreases in value. They hold onto the investment in hopes it will bounce back and eventually become a winner. We believed this before we realized how risky buy-and-hold investing could be to our investment portfolio. If you did not know this, it is not your fault. Over the years, the financial media has told us that "Investing" is the best way to keep our savings out of harm's way, while "Trading" is the fastest way to financial ruin. Tell that to all the people that "Invested" in technology companies going into the turn of the century. Between 2000 and 2002, the S&P 500 declined 50% and the Nasdaq Composite declined 80%. It is not easy to make up for losses this big. It took 7 years and a 100% gain for the S&P 500 to finally break even with its loss. As we begin 2008, it will take another 100% gain for the Nasdaq Composite to reach its 2000 peak. Don't hold your breath waiting for that to happen.
Instead of anticipating declining markets with fear and anxiety, plan ahead of time how you will respond to them. When faced with a declining (bear) market, do not hold you positions and continue to lose. Learn something from the traders, and you can become a better investor.
Traders
Good "traders" take a proactive approach to investing in the financial markets. This is true for both long-term investors that apply what they have learned about trading to their investing, as well as active day traders that do not care about the fundamentals of the stock they are trading today.The goal of a trader is to invest their capital in the financial markets and make a "profit." The trading plan tells the trader what to do in any situation, including, when to enter and when to exit a position. It never allows large losses.
Being a trader does not mean you must move in and out of the markets frequently. It means you have a plan for entering and exiting a market. You know what to do if your trade (investment) goes against you, and you know what to do when your trade (investment) is profitable. You do not have to go short (take bearish positions) as well as take long (bullish) positions to be a trader. If you had cut your losses back in 2000, you would have been in a much better position to profit in the bull market that began in 2003.
Yes, traders are different than investors. They have a plan. That makes all the difference in the long run.
What investors can learn from Traders:
1. Spend time learning about the financial markets, investing, stocks, bonds, mutual funds, and exchange traded funds (ETFs) before using real money.2. Adopt a disciplined investment approach with investment rules that reflect your philosophy on investing.
3. Learn from your mistakes. Consistently use sell rules that keep your emotions and ego out of your investing.
4. Set exit levels for both profits and losses. Use stop-loss orders to minimize losses and trailing stops to protect your profits.
5. Gain enough knowledge about technical analysis to at least use stock charts to watch levels of support and resistance.
6. Pay attention to economic indicators and earnings reports and warnings.
7. Avoid trading at the open, lunch, or close of the market.
8. The easiest action you can take is to diversify your investments. Simply put, do not put all of your eggs in one basket, but you have probably heard that one before. The question is: has it sunk in yet?
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