Few months back I talked about forex trading, here is a guest post which compares Forex trading with stock trading. I am personally not a big fan of either. I am better off with index funds and mutual funds. Enjoy the post if you have risk appetite for trading.
Forex trading and stock trading are two different forms of financial trading. They may both represent two different ways to make money from the financial markets, but they have some subtle differences which may or may not work in the trader’s favor.
These points can make the difference between trading success and trading failure. So what are the advantages and disadvantages of forex trading when compared with stock trading? The following points will shed more light on this.
Forex Trading or Stock trading, where should your priority be?
Following pros and cons are in terms of forex trading.
- The forex market is an extremely liquid market and the high liquidity of the market ensures that there trade orders will be fulfilled at the order prices most of the time. The stock markets are not as liquid and instances of orders not being fulfilled at the order prices tend to occur more commonly here.
- In forex, traders can make money in both directions. All that is needed is to accurately predict the direction of the currency asset and enter either long if it is going up, or short if it is going down. The risk profile for a long or short trade is equal in forex. In stocks, the predominant way of making money is when the price of the asset is going up. The only way to make money from falling stock prices is by short selling, a highly risky form of trading which is severely restricted by the regulatory agencies like the Securities and Exchange Commission or (equivalent bodies in other countries).
- In forex, traders have unrestricted access to both long and short positions due to the fact that there is no structural bias. It is therefore possible for a forex trader to open a counter position on a trade which is performing poorly in order to create a simple hedge for the position. This is not the case in stocks, as short selling produces a structural bias causing it to be severely restricted and even banned in certain circumstances, leaving traders exposed with few ways of hedging such positions.
- Forex trading is a 24 hour market, and this presents more trading opportunities for the trader to profit than the stock market. The stock markets are only open at certain hours of the day and this puts a limitation on when the trader can trade for money.
- How about the concept of insider trading? Having privileged, unpublicized knowledge about a stock and using this to profit from the share price is highly frowned on in the stock market; indeed it is even an economic crime. In forex, the concept of insider trading is hardly obtainable as the market is usually too large for any one person or entity to affect a currency’s movement.
- The forex market is more highly leveraged than the stock market. This allows forex traders to hold significantly larger positions with a smaller amount of money, and can potentially allow the trader to make more money than from a corresponding amount in stocks. Leverage for forex in the US is 1:50 while most stock brokers give a maximum stock trading leverage of 1:4.
- Traders can start trading forex with less money than in the stock market. It is possible to start trading forex with as little as $100, but even a discount stock brokerage will require at least $500 for unleveraged stock accounts and $2,000 for margin accounts.
- The cost of trading forex is less than the cost of trading stocks. This is because the only fees that traders pay in forex are the spreads of the currency. There are no commissions (except in an ECN environment). In contrast, traders pay a variety of commissions when trading stocks.
- The forex market is extremely volatile and it is a lot easier to lose money trading forex than when trading stocks.
- There is a wide assortment of factors that affect the movement of a currency and this may make it difficult for traders who have little forex market experience to trade profitably. In contrast, the factors that affect stock price movement are simpler to understand and can be more easily used to pick out profitable trade opportunities.
- The higher leverage that is obtainable in the forex market exposes traders to the real potential of sustaining greater losses than in the stock market.
- No tangible asset is purchased in forex trading. As such, it is possible for a position to become totally worthless. In contrast, a stock bought with unleveraged funds is a tangible asset and hardly becomes worthless (except for bankruptcy). Thus a stock owner can afford to wait for the value of his stock to pick up even after a massive drop in value.
These are some of the pros and cons when a comparative analysis of forex trading and stocks trading is carried out. The essence of such an analysis is for intending traders to look at the positives and negatives of any form of investment they want to engage in before taking the leap. This way, they can be better prepared and won’t encounter any surprises.
Guest post by Joaquin Monfort who is a financial analyst and currently works as a technical and fundamental analyst for Forex4you. He could be found blogging about forex tips, research and trading strategy on blog Inside Forex trading.