Many people are interested in financial trading and in recent years the rise of internet technology has allowed for unprecedented access to the financial markets. When considering trading many prospective traders are unsure what instrument they should trade. This is perfectly understandable considering the range of instruments available to trade. Forex and Stock trading are particularly popular with retail traders. In this article we are going to outline the important differences between Forex and Stock trading. Whether you ultimately opt to trade Forex or Stocks will depend largely on your risk appetite and the type of trading you intend to engage in. Of course both Forex and Stock trading involve considerable risk and those interested in trading should seriously consider whether Stock and Forex trading is suitable for their needs.
The Foreign Exchange and Stock Market Explained
Forex
As some of you may already be aware the Foreign exchange market is the world’s largest financial market, with an estimated daily volume total of $5 trillion US dollars. About 30% of this daily volume occurs on the Spot forex markets, with spot Forex being the most popular form of Forex trading for retail investors. The size of global Foreign exchange market is huge and dwarfs even the world’s biggest stock exchanges. For instance the New York Stock Exchange has a daily volume of around $22 billion dollars. This is partly why the market is so popular with retail traders, who wish to take advantage of high liquidity, 24/5 trading and significant amounts of leverage.
Stocks
Stocks are generally traded on major exchanges and you will find a number of household names being traded on the world’s major stock exchanges. Many laymen are much more familiar with Stock trading than Forex trading, due to the fact that Forex is generally considered an exotic instrument. Everyone who has a pension will probably hold Stocks, if only in an indirect way. While the majority of Stock traders focus on large blue chip companies, it is also possible to trade smaller companies. The reason that many investors focus on blue chip companies, is due to the fact that these well established companies may be able to operate profitability even during tough economic times. Blue chip stocks tend to be less volatile than other more exotic financial instruments and are often traded with the long term goal of growing a
substantial investment portfolio.
Trading Hours
As the Foreign exchange market is an interbank over-the-counter market, during the week the marketplace trades 24 hours a day. This means that the Foreign exchange market opens on Sunday night GMT and doesn’t close until Friday evening GMT. This makes the market very popular with part-time traders, who are able to trade around their work commitments.
Stocks are traded on exchanges which have set opening times. For instance Stocks listed on the London Stock exchange can only be traded 8am to 4:30pm GMT. This can make it difficult for part time traders to access the markets when they need too. It is possible to trade some Stock markets out-of-hours, but such trading generally carries greater risk due to higher spreads and less liquidity.
Leverage
Leverage allows a trader to take on bigger positions, giving traders a chance to maximize their profits. Leverage however is a double edged sword with leverage also increasing your losses should the market move against you. In the United States, leverage on Stocks is limited to 2:1 while Forex traders are able to take advantage of 10:1 leverage. In Europe traders are able to trade stocks with significantly more leverage behind them, but still Foreign exchange brokerages tend to offer vastly more leverage. While this great leverage increases a traders risk it at the same time allows a trader the chance to make larger profits. For this reason many less risk adverse traders are attracted to Forex trading.
Volatility
Volatility is a measure of short-term price changes. Highly volatile instruments will experience significant price fluctuations, while less volatile instruments will be more stable in terms of price. Foreign exchange pairings tend to be more volatile than Stocks, though this not always the case particular when it comes to smaller cap or penny stocks. The combination of significant leverage and high daily volatility allows traders to make very big returns in a short space of time. Of course volatility increases risk while giving the trader ample short term trading opportunities. Stocks tend to be less volatile suiting traders who take a hold and buy strategy.
Capital Requirements
The significant amounts of leverage offered by many Forex brokerages means that traders can often begin trading the financial markets with lower capital requirements. In Europe it is possible to open a real money trading account with a regulated brokerage for as little as $25. While this is probably not advisable, it is certainly true that Forex trading tends to require less capital. To trade Stocks successfully, a trader is likely to need significant capital backing this is partly due to the fixed commissions charged by Stock brokers which eat into the profits of smaller traders. This is why in Europe a large number of retail traders opt to trade stocks through CFD’s, allowing them to take on significant leverage. Unfortunately US traders are unable to trade CFD’s due to US regulation.
Concluding Thoughts
Foreign exchange trading is generally considered more risky than Stock trading. Forex trading is often embraced by short term traders who want to take advantage of the significant amounts of leverage on offer. While Stock trading lends itself to investors who are more risk adverse and would prefer to adopt a buy and hold approach. Readers are recommended to do further research into Stock and Forex trading in order to decide whether either would be suitable for their needs.
Article by equity-research.com
