Here you will good info on trading forex vs stocks trading.
Whether you’ve been trading stocks for a while now, or have never traded a thing in your life read on.
Basically, how does trading currencies differ from trading stocks?
Is it the same?
Can you learn one more easily if you know the other?
Or does that experience set you up for failure?
As usual, let’s dig deeper.
We are talking about different markets, so let’s start with that.
In forex, you are trading currencies. You trade one currency in exchange for another.
This is different from stocks. You buy or sell a stock. That’s it. Cash for stock, stock for cash.
This may seem trivial, but it’s at the heart of one of the major differences in trading forex vs stocks trading.
I’ll cover this difference, but first let’s talk about availability of securities.
What do I mean by this?
Well, when you sit down to trade that sick account of yours, you will see the major currency pairs (about 7).
Maybe some minor or cross currency pairs (again, around 7)
And perhaps you feel a little exotic today and feel like trading some cool shit like the Saudi Arabian Riyal (SAR).
At the end of it, you’ll be hard pressed to find 20 different pairs you’d like to trade.
Most traders focus on the majors and maybe a few crosses.
But in the stock market….
You got thousands upon thousands of stocks you could invest in.
How do you choose?
Most investors focus on a strategy and/or industry to focus their research and efforts.
Doing a deep dive here is beyond the scope of the article, but be sure, staying on top of news for the few pairs in forex is much easier than covering a sector (or even the usual 20 companies a stock analyst is responsible of).
Ok, so what other differences are there?
Some say size doesn’t matter, but when it comes to forex trading vs stocks trading they’re wrong.
You see, size of the market in stocks is big, we’re talking billions of dollars in trades.
But in forex, it’s in the trillions baby, trillions.
Ok, but why do I care?
Size brings liquidity.
Availability of counterparties for your trade.
Market big = many traders
Many traders = more people to trade with
More people to trade with = you get to make your trades
In essence, liquidity means you will be able to perform your transactions most of the time.
Take for example the decision of investing in a house, or investing in bonds.
You can sell the bonds easily. So they are liquid.
You can’t sell the house as easily. So it is less liquid (or illiquid)
For both cases you want to trade (sell your bonds, or house), but the ability to actually sell your stuff depends heavily on how many buyers there are.
This is what we call liquidity, and forex has got the pants here.
One point for trading forex vs stocks.
Forex brokers charge a spread.
Brokers buy currency at a price, and sell it at a higher price, pocketing the difference.
Surprising? No. That’s what brokers have done from the beginning of time. Well, that and a commission.
Except there is no commission in forex (unlike in the stock market, where each trade runs you for a few bucks).
And even then, the spreads for the most traded currency pairs is quite small due to the amount of competition in brokerage services.
Liquidity also plays a role here, enabling retail traders to do their thing with competitive prices.
The sheer volume of traders in the market makes it so brokers have to (and can afford to) offer competitive spreads.
As such, in general, trading costs in the stock market will be higher than those in forex (for a comparable volume of trades).
This is definitely a point in favor of forex vs stocks.
Leverage is the ability to trade on margin.
This is how much money your broker allows you to borrow from them to take a position.
In the stock market, it’s usually 2 to 1. To buy a $300 stock, you would need only $100 of your own.
In forex though…
200 to 1. Yep, that’s right. Although in the United States and Japan is usually 50 to 1, that’s still quite the difference!
There’s a reason for this disparity.
Since forex is such a liquid market, spreads are lower, but what also happens, is currency pairs change very little in price.
Most movements in fx are measured in pips, which are the fourth decimal place in most currency pairs (except Japanese Yen pairs).
You heard that right, movements are usually in the fourth decimal place.
EUR/USD might go from 1.0600 to 1.0603 and that’s a 2 pip change.
Some currency pairs might see as little as a 30 pip difference in the course of a day, so this means you can make (or lose) very little money.
The market as a whole is less risky for this reason.
Enter the leverage.
To make forex trading more attractive to potential traders, brokers tout the ability to take leverage.
If you only put 1 for every 200 you move, those pips rack up fast!
At the same time, giving you leverage is not as risky to brokers due to the nature of the market (small movements).
A point for forex vs stocks? Unclear.
Huh? ins't leverage good?
Not always. In fact, many professional fx traders use very little leverage, and there's a good reason for that.
Here is where we get back to the beginning.
Trading currency against another in forex vs stock trading a single company's share is fundamentally different.
By default, this difference makes it so long and short positions are natural in fx.
For stocks, there’s usually quite a few rules for shorting. This is done to protect investors who are long from losing all their value.
Going long a stock because you believe in a company is natural, and it builds value.
Selling the stock because you don’t believe in a company is not as natural, and can destroy value (let’s not get moral here, it’s just an example).
But in forex every single trade is long and short at the same time (for two distinct currencies), which means you won’t have to deal with pesky rules about shorting.
As a fact, regulation in forex is much looser than in stock markets.
Is that another point in favor of forex vs stocks? You decide.
Having a regulatory agent to complain to, or protect you is a big plus. Even with the added hassle.
This probably has to do with the centralized vs decentralized nature of these markets.
Stocks are traded on an exchange, a single place where orders are matched.
Currencies are traded over the counter, which means there are many brokers or dealers who offer the services to traders around the world.
This makes it much harder to regulate fx since its done all over the world.
Finally, you can trade fx pretty much 24 hours, almost every day of the week.
There is the European session, the Asian session, the American session, and the session in Sydney (I may be missing some).
That’s it for forex vs stocks. We didn’t get into more specifics of trading, but I might in the future in another piece.
See you soon,
The Forex Economist
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