Both traders and investors seek to create profits in the stock market through market participation. Traders mainly target short-term gains by jumping in and out of stocks. Investors focus on the long-term and often hold stocks through varying market conditions; but, who makes more profits between the two?
Traders rarely make more money than investors over the long term, despite realizing gains more frequently. Better compounding, lower transaction costs, reduced tax burden, and the longer time horizon in the case of investments make them more profitable than trading.
The rest of this article will expound more on the difference between traders and investors, the key profitability points in trading and investing, and reasons why investment returns often outperform trading returns.
IMPORTANT SIDENOTE: I surveyed 1500+ traders to understand how social trading impacted their trading outcomes. The results shocked my belief system! Read my latest article: ‘Exploring Social Trading: Community, Profit, and Collaboration’ for my in-depth findings through the data collected from this survey!
Table of Contents
What Do Traders Do?
Traders engage in frequent transactions, like buying and selling stocks, currency pairs, commodities, and other financial instruments. The goal of traders is to generate profits that surpass or outperform the profits of buying and holding, known as investing. Unlike investors who may be comfortable with annual returns, most traders are interested in monthly, weekly, daily, or even hourly returns.
Traders focus on buying instruments at a low price and selling them at a higher price within a short period. Traders can also make profits by selling at a higher price and buying at a low price to cover the sold instruments, usually known as selling short. Traders often employ advanced analysis tools such as stochastic oscillators or moving averages to identify the best trade setups.
Traders mainly fall under four main categories:
- The position trader holds positions for months or years.
- The swing trader holds positions from days to weeks.
- The day trader holds positions throughout the day but does not hold overnight positions.
- The scalp trader holds positions for seconds to minutes with no overnight positions.
Usually, traders decide on a trading lifestyle depending on several factors like the amount of time they can dedicate to trading. The trading style also depends on the trader’s experience, risk tolerance, and personality.
What Do Investors Do?
Unlike traders, investors focus on building wealth over an extended period. They buy stocks, bonds, mutual funds, or other instruments. Investors gain profits by reinvesting their dividends and profits in additional stock or compounding. Investors hold stocks for years and sometimes decades. Along the way, they take advantage of certain perks like stock splits, dividends, and interest. The perks contribute to investors’ profits.
Even when the prices go down, investors hold on with the hope that the prices will rise, and over time, they will recover any losses incurred. Investors focus more on management forecasts and price-to-earnings ratios. Since investors aim to make long-term profits, they often do not track their investment instruments’ performance daily.
Profitability Points in Trading and Investing
Investing mainly applies to things like retirement accounts, where investors accumulate money to use when they retire from employment. With such long-term investments, profits build up over time. Investors will get profits from their investments only that the profits are not immediate but available in the long term.
Trading is mainly about understanding market timing. Trading entails focusing on short term strategies to gather short-term profits. Traders focus on buying a stock at the right time and selling it at the right time as well. The profits are short-term and may range from quarterly, monthly, or daily.
Short-term losses may affect traders in a great way but do not have a significant impact on the investors. If the current market conditions fluctuate, the fluctuations will have an impact on the traders’ profits.
In both trading and investing, there is a risk of capital. For traders, the risk of capital is higher, but the potential for greater returns is also higher. In investing, the risk of capital is lower, but investors have to wait longer to get their profits. Unlike trading that is impacted by the daily market cycles, the cycles have no significant impact on investments.
Why Investment Profits Exceed Trading Profits?
Given that traders receive frequent profits and investors have to wait a while before getting their profits, you would expect traders to realize higher profits than investors. However, this is not always the case. There are several reasons why investors tend to get higher profits despite having to wait before getting them.
Compounding Works Best in Investing
The power of compounding works better in investing because the longer investors hold stocks, the more their returns in the long term. Compounding does not work well in trading because trading entails buying instruments and selling them within a short period.
Investment Reaps From Companies’ Success
Unlike trading, investing syncs with the tipping points of a company’s stock. After starting, some businesses could take between 16-18 years before they build economies of scale, create a strong franchise, and attain a profitable business model. Investment is able to capture and benefit from this long outperformance cycle, something that trading cannot achieve.
Traders Incur Transaction Costs
As traders buy and sell stocks and securities, they incur transaction costs. Transaction costs may seem insignificant but have a significant impact on a trader’s returns. Some of the costs that traders incur frequently include brokerage fees, hidden fees, illiquidity, statutory fees, and spread risks. When you consolidate all these costs, they make the cost of trading very high. Compared to trading, investing is more cost-efficient.
Trading Profits Are Taxed
Traders often have to pay withholding tax on their trading gains. They have to indicate their trading profits as short-term capital gains or business income. The tax rate varies depending on the location but is often high. Long-term investments are more economical and help investors enjoy significant tax savings. Even if investors still pay tax on their returns, the tax does not take much of their profits like in the case of trading.
Trading Profits Are Prone to Black Swan Events
A Black Swan Event is an unexpected and unpredictable event beyond what often happens or what is expected. Usually, black swan events have detrimental consequences. These events are rare, but when they occur, they have far-reaching adverse impacts.
Trading gains are very vulnerable to black swan events. If a trader misses a few trading days, it might have an unexpected adverse impact on their trading profits and make a difference in trading performance. If black swan events like tech crashes occur, they may wipe up to a year’s worth of trading profits.
Below is a video about the Black Swan Event:
Maximizing Trading Profits
You have to adopt the best trading strategies and focus on minimizing risks to reap big from trading. Traders should create a plan that dictates when they buy and sell. After setting a trading plan, you have to stick to the plan. The hardest part of being a successful trader is abiding by your rules. Even the experienced traders often deviate from their trading plans.
While trading, always figure out how much money you can afford to lose and avoid trading more than that. It is advisable not to trade more than 5% of your investable assets. Ensure that you understand the taxes to avoid surprises when receiving your trading gains.
Maximizing Investment Profits
The best tip for maximizing your investment profits is creating an investment plan and abiding by it. You should understand the art of selling and rebalancing your holdings. Investment profits are in the long term, and you need to have discipline and patience to help you withstand the difficulties in the market. Unlike trading that feels good in the short-term, time is the best friend for an investor.
Author’s Recommendations: Top Trading and Investment Resources To Consider
Before concluding this article, I wanted to share few trading and investment resources that I have vetted, with the help of 50+ consistently profitable traders, for you. I am confident that you will greatly benefit in your trading journey by considering one or more of these resources.
- Roadmap to Becoming a Consistently Profitable Trader: I surveyed 5000+ traders (and interviewed 50+ profitable traders) to create the best possible step by step trading guide for you. Read my article: ‘7 Proven Steps To Profitable Trading’ to learn about my findings from surveying 5000+ traders, and to learn how these learnings can be leveraged to your advantage.
- Best Broker For Trading Success: I reviewed 15+ brokers and discussed my findings with 50+ consistently profitable traders. Post all that assessment, the best all round broker that our collective minds picked was M1 Finance. If you are looking to open a brokerage account, choose M1 Finance. You just cannot go wrong with it! Click Here To Sign Up for M1 Finance Today!
- Best Trading Courses You Can Take For Free (or at extremely low cost): I reviewed 30+ trading courses to recommend you the best resource, and found Trading Strategies in Emerging Markets Specialization on Coursera to beat every other course on the market. Plus, if you complete this course within 7 days, it will cost you nothing and will be absolutely free! Click Here To Sign Up Today! (If you don’t find this course valuable, you can cancel anytime within the 7 days trial period and pay nothing.)
- Best Passive Investment Platform For Exponential (Potentially) Returns: By enabling passive investments into a Bitcoin ETF, Acorns gives you the best opportunity to make exponential returns on your passive investments. Plus, Acorns is currently offering a $15 bonus for simply singing up to their platform – so that is one opportunity you don’t want to miss! (assuming you are interested in this platform). Click Here To Get $15 Bonus By Signing Up For Acorns Today! (It will take you less than 5 mins to sign up, and it is totally worth it.)
Conclusion
The greatest difference between traders and investors is timing, and this has an impact on profitability. The focus of traders and investors also differs significantly. Traders take advantage of small mispricings in the market while investors focus on a company’s growth in the long-term.
BEFORE YOU GO: Don’t forget to check out my latest article – ‘Exploring Social Trading: Community, Profit, and Collaboration’. I surveyed 1500+ traders to identify the impact social trading can have on your trading performance, and shared all my findings in this article. No matter where you are in your trading journey today, I am confident that you will find this article helpful!
Affiliate Disclosure: We participate in several affiliate programs and may be compensated if you make a purchase using our referral link, at no additional cost to you. You can, however, trust the integrity of our recommendation. Affiliate programs exist even for products that we are not recommending. We only choose to recommend you the products that we actually believe in.
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