Trading is very different to investing. Most personal finance blogs, and even many well-known, reputable financial information and news organisations, glamourise and encourage trading. But at To the pound we believe that it is investing which will help you to build wealth and become financially independent in the future.
Trading is the exercise of buying and selling an asset frequently, attempting to buy low and sell high, pocketing the difference in profits, and doing this many times over. Investing is buying an asset and holding on to it for a long period of time while it appreciates in value and/or provides you with income.
Your trading is profitable for your broker, for trading and investment platforms, and for banks that facilitate the trades. That’s because they charge transaction fees; the more you trade, the more fees you pay. Your investing is less profitable for those companies – you trade once, and then let your assets grow in value over time. If you’ve invested in a fund, the fund manager will charge an annual management fee, typically in the realm of 0.1%-1.5% per annum, depending on the asset class and whether the fund is active or passive. If you’re investing in an individual stock, then you just pay the transaction fee twice: when you buy it, and then many years later when you sell it. So, you can see why trading gets pushed by the brokers, platforms, and banks.
Trading is also sexier; stories of people retiring early because they traded on their computer at home for an hour a day are an easy sell, because they appeal to our desire for instant gratification. Search engine algorithms, online advertising, and now even TV, print and billboard advertisements all push the allure of quick riches from trading.
But although some self-employed traders make a lot of money, the vast majority lose money. Trading platforms have been forced, in the UK at least, to state prominently in their adverts and on their website the percentage of investor accounts that lose money. IG, one of the biggest trading platforms in the UK, states that “76% of retail investor accounts lose money when trading with this provider”. Unless you have a robust risk management framework in place, it is very easy to fall into the majority who lose money.
Trading is also susceptible to advice and recommendations. But at To the pound we think trading advice is meaningless at best and dangerous at worst. All a ‘professional’ investment advice website needs to do is send half of its subscribers advice to buy Stock A, while sending the other half of its subscribers advice to sell stock A. At least half of the firm’s subscribers will be happy with the advice they’re getting and come back for more. It’s the extreme example, but that’s how easy it is to successfully give investment ‘advice’. At the other end of the spectrum are the giant investment banks. They often put out their ‘top 10 trade ideas for the year ahead’ and similar articles. We’ve looked at these in the past, and rarely are more than half of the ideas correct when the results come in. They’re all just guesses, but as long as you follow the banks and make the trade, they’ll make money, whether the idea was right or not. You, on the other hand, will only make money if the idea was right (assuming, even then, that you implemented it properly).
Professional traders can make money, but they do a few things differently to normal DIY traders, for example: they are often tasked with a specific ‘vector’ or market to trade, and so they become very specialised in a small number of markets; they are often not trading on market direction, i.e. they may use exotic instruments like options to harvest profits regardless of which way the market moves; their time horizon could feasibly be seconds or even milliseconds per trade, as opposed to a few hours or days for the normal DIY trader; and, most importantly, they have rock-solid (most of the time) risk management systems which can, in some cases, literally disconnect a trader from their computer in order to control their risk.
Longer term professional investors, such as those managing the funds that you should be investing in, often think they can ‘trade’ and do a lot of activity to this effect, but it is mostly value-destroying. They tend to make more money when they do less trading, and at To the pound we wish they would stop pretending to be something they’re not, because we rely on them to be sensible with our money.
And we wish you would do that too: less. Invest regularly, for the long term, and avoid trading in and out of markets unnecessarily. Avoid trying to buy low and sell high and avoid trying to predict what the market will do next. Yes, if an opportunity comes up to buy a good company that has just fallen drastically in price, do it. But, if you’re investing in individual stocks, you should only be buying companies that you expect to still own at the end of your time horizon. Do your initial due diligence – which this blog can help with – then invest and be patient.
That’s true investment, and that’s the tried and tested way to build wealth over the long term.
We refer to lots of linked posts in this post. We hope that by following the links you can answer any questions you might have, but if anything is unclear in this post, or you have any questions relating to anything investment-related, please submit comments or questions in the section below and we’ll do our best to answer them.
Thanks for reading. Sign up to receive some or all of our new posts by registering your email address
To the pound 