Stock trading: how it works and the difference with investing

Stock trading is all about focusing on short-term gains rather than long-term wealth accumulation, making it a potentially high-risk, high-reward game. To thrive in this world, you’ve got to arm yourself with the right knowledge and strategies.

So let’s dive into the essentials of stock trading to help you determine if it’s the right fit for your investment goals.

And remember, if you’re looking to level up your trading game, our Trading resources are just a click away, packed with valuable insights and tools to guide you on your journey.

What is stock trading?

Stocks or shares, as they are often called for short, are investments that represent the ownership of a company. Companies issue shares to raise money to enable them to grow and develop. When you buy shares, you essentially become a co-owner of the underlying company and are entitled to a share in its profits. Stock trading involves the process of buying and selling these units on the stock market. Share trading also involves the buying and selling of other financial instruments such as bonds, derivatives, etc.

Shares are traded on stock exchanges such as the New York Stock Exchange (NYSE), the NASDAQ, the London Stock Exchange (LSE) and the Australian Stock Exchange (ASX). The stock exchange acts as a marketplace where buyers of shares can come into contact with sellers. To trade, you need an investment account with a stock brokerage or investment platform. If you have money and want to learn how to trade, online brokers have made it easy to trade shares from your computer or smartphone.

Types of stock trading

Stock trading is popular all over the world because of the huge returns it promises. Celebrities have made millions from stock trading. Newcomers are often unaware of the types of stock trading. Here is an overview of the types of stock trading to make it easier for you to enter the industry!

Day Trading

Day trading is a strategy used by equity investors – to buy, sell and close their positions in the same stock over the course of a trading day, without worrying about the inner workings of their respective companies (a position refers to the amount of a stock or fund you own).

Position trading

Offers traders more trading time than intraday trading. In fact, it can hold stocks for months. It can also hold stocks for longer by observing price temperament and technical trends.

Swing Trading

Swing trading refers to the practice of trying to profit from market fluctuations over a period ranging from one day to several weeks. If losses can be kept to acceptable levels using stop-loss techniques, swing trading can be profitable and provide a good perspective to study short- and long-term market movements. The disadvantage of swing trading is that he has to work hard all the time to manage the trades, which means he may miss out on potential profits due to market movements.

How to Trade Stocks

To trade stocks, he has to open a brokerage account. A brokerage account is an account opened with a broker with a platform for trading a different type of asset – a company that buys and sells shares on its behalf. Once you have opened a brokerage account, you can deposit money into it and start buying and selling shares!

1. Opening a brokerage account

Stock trading requires the funding of a brokerage account, a specific type of account designed to hold investments. If you do not already have such an account, you can open one with an online broker in a few minutes. But don’t worry, opening an account does not yet mean investing your money. It just gives you the opportunity to start when you are ready. Check out Ecoinomy’s comparison of the best trading platforms.

2. Establish a stock trading budget

Even if you seem to have a knack for stock trading, allocating more than 10% of your portfolio to a single stock can expose your savings to excessive volatility. Invest only the amount you can afford to lose. Do not use the money for short-term obligatory expenses, such as advance payments or school fees. Cut that 10% if you do not already have a solid emergency fund and 10-15% of your income in a retirement savings account.

3. Learn to use market and limit orders

When buying or selling shares, you have to create an order. There are two types of stock orders: market orders and limit orders.

Market order is an order in which you agree to buy or sell a share at the current market price. For example, suppose you want to buy Apple shares. The current market price of Apple shares is EUR 100 per share. If you create a market order, you would buy the shares at EUR 100 each.

Limit order is an order where you agree to buy or sell a share at a certain price. For example, suppose you want to buy Apple shares, but you only want to pay EUR 98 per share. This is where a limit order comes into play, where you will only buy the stock if it reaches the price you specify of EUR 98 per share. The execution of the share order may take some time, depending on the stock market conditions. However, the price may not fall to the desired level and you may not be able to complete your order. You must place a market order if you wish to buy or sell a share immediately. On the other hand, you place a limit order if you wish to buy or sell a share at a certain price.

4. Practicing with paper trading

To gain some initial experience and, as they say, to test the waters, try investing in the market without investing any money, to see how it works. You can do this by investing your time, choosing a stock and observing it for three to six months to see how it performs. He can also study the market through the paper trading tools offered by many online stock brokers. Virtual trading with stock market simulators allows customers to test their trading acumen and gain experience before betting real money.

Where to trade – stock trading platforms?

To trade stocks, you need a broker, but don’t trust just any broker. Choose one with a good stock trading platform, terms and tools that best suit your investment style and experience. A higher priority for active traders will be low commissions and fast execution of orders for time-sensitive trades. Discover our reviews and opinions on trading platforms for shares, cryptocurrencies and other assets.

Investing in stocks or trading stocks: what’s the difference?

The terms ‘investing‘ and ‘trading‘ are often used interchangeably. However, there are significant differences between the two financial strategies. Here is how these two strategies differ.

Investing in shares

Generally, the goal of investing in shares is to accumulate wealth over the long term. Investors often hold stocks for years or even decades with the goal of generating significant gains from rising stock prices and dividends over time. Investors tend to experience periods of poor performance, expecting that stocks will eventually recover and short-term losses will be recouped.

Stock trading

The purpose of stock trading is to generate short-term profits. Traders hold shares for a much shorter period of time than investors, often buying and selling within weeks, days or even hours. Instead of focusing on the long-term prospects of the company, as investors do, traders focus on the direction the stock is likely to take and try to profit from that movement. Traders often use stop-loss orders to automatically close losing trades at a predetermined price level in order to protect their capital.

Stock price analysis

Before investing in shares, it is wise to do some research. The purpose of stock research is to determine which stocks are worth buying and which should be avoided. There are two basic forms of stock research. Fundamental and technical analysis.

1 Fundamental analysis.

Fundamental analysis involves examining all available information about a company, including its financial performance, its financial strength and the threat from competitors, to determine whether a stock is undervalued or overvalued. In this form of analysis, investors look at financial data and often use financial ratios to determine whether a stock is worth buying. Three popular ratios used in fundamental analysis:

Price/Earnings Ratio (P/E): is the ratio of a company’s share price to its earnings per share. The P/E ratio is useful because it can be used to compare the valuations of different stocks.

Dividend yield: is the ratio of a company’s dividend per share to its share price. It is often expressed as a percentage. The dividend yield is useful because it allows the investor to compare dividends offered by different companies.

Return on equity (ROE): is the ratio of a company’s net profit to the amount of equity (assets minus debt) on its balance sheet. ROE measures the profitability of a company. The second form of analysis is known as technical analysis.

2. Technical analysis

In technical analysis, investors look at stock charts and analyse trends, patterns and indicators in an attempt to predict the future movement of a stock. Those who use technical analysis believe that historical price movements can be used to predict future price movements. Three popular technical analysis strategies:

Trend trading: this strategy aims to generate profits by analysing the trend of a security. A trend is observed when a security moves in one direction over a long period of time. Once the trend has been identified, it may be possible to profit from it by trading in the same direction as the trend.

Trading with support and resistance: This strategy aims to generate profits by identifying the support and resistance levels of a security. Support is the level on the chart below which the price of the security is unlikely to fall. Resistance is the level above which the stock price is unlikely to rise. Once these areas have been identified, it may be possible to profit by placing trades in the area where the share price is likely to reverse.

Trading with breakouts: this strategy aims to generate profits by identifying stocks that have broken through established support or resistance levels. Breakouts can be strong signals, especially when confirmed by other technical analysis indicators. Fundamental analysis and technical analysis have their advantages and disadvantages.

For this reason, many investors use a combination of both methods when making investment decisions. Investors who are new to trading should look for a broker who can teach them the tools of the trade through educational articles, online tutorials and in-person seminars. See our review to learn more about eToro Academy, which offers a wide range of educational materials for novice traders.

Risks of trading and investing in shares

All forms of investment involve some degree of risk and investing in shares is no different. It is important for novice investors to be aware of the risks. Some of the main risks associated with investing in shares include:

Stock-specific risk: this is the risk that a stock will underperform. Each stock has a unique set of risk factors and it is important to be aware of the risks before investing.

Liquidity risk: this is the risk that you may not be able to sell a stock you own at a fair price due to a lack of buyers. Liquidity risk tends to increase during periods of stock market volatility.

Leverage risk: although leverage is a powerful tool that can increase profits, it can also increase losses. If high leverage is used for trading, even a relatively small price movement in the wrong direction can lead to significant losses. It is important to be aware that losses can exceed the amount invested.

Market risk: this is the risk that economic developments or other events will have a negative impact on the general stock market, as was the case in 2022 especially with US equities, and lead to falling stock prices in all sectors.

Risk management strategies for investing in shares

It is never possible to completely eliminate risk when investing in equities, but it is possible to reduce it. One of the most effective ways to reduce risk is to diversify the portfolio.

This involves distributing your money among many different stocks so that you are not overly exposed to a single stock. Owning a diversified portfolio that contains many different stocks is less risky than owning only one or two stocks.

Adopting a long-term investment horizon is another strategy that can help reduce the risk of losing money. In the short term, stocks can be highly volatile. In the long term, however, the stock market tends to rise. In general, the longer one invests, the lower the chance of losing money.

Stop losses can also be an effective risk management tool. Stop losses help minimise investment losses by closing losing positions before large losses accumulate. Finally, it is wise to adopt a broad asset allocation (the combination of different assets in your portfolio). Wise investors tend to spread their money across multiple asset classes, including stocks, bonds, commodities and cryptocurrency ETFs, as this helps reduce the overall risk of the portfolio. Regardless, the time spent learning the basics of stock research and experiencing the ups and downs of stock trading – even if the latter are more – is time well spent as long as you enjoy the journey and don’t play money you can’t afford to lose.

To diversify your portfolio, also consult our guide to buying cryptocurrencies.

How to manage risks in stock trading

Trading stocks involves risks. The stock market is volatile, which means that share prices can rise and fall very quickly. This volatility can be risky for investors, as it leads to losses if share prices fall.

1. Stop loss

A stop-loss is an order where you set a price at which you will sell a stock if it falls below it. For example, suppose you own shares in Apple and you set a stop-loss price of EUR 95 per share. If the share price falls below EUR 95 per share, your broker will automatically sell the shares. In this way, you have the opportunity to exit your position when a downward trend starts.

2. Dollar Cost Average (DCA)

Dollar Cost Averaging (DCA) is the practice of investing a fixed dollar amount on a regular basis, regardless of the share price. It is a good way to develop a disciplined investment habit, be more efficient in the way he invests and potentially reduce his stress level as well as his expenses.

3. Avoid ‘hot tips’

People who post in online stock picking forums and pay for sponsored ads about safe stocks or crypto protests are not your friends. In many cases, they are part of a ‘pump and dump’ scheme in which shady people buy buckets of shares in a little-known, undervalued company (often penny stocks) and advertise it on the internet. When unscrupulous investors pounce on the stock and drive the price up, the scammers take their profits, dump their shares and drive the price back down. You don’t help them line their own pockets.

Conclusion

To trade stocks, once you know how it works, you should choose a broker that offers a stock trading plateau. Choose one with the terms and tools that best suit your investment style and experience. Important indicators are low commissions and fast execution of orders for time-sensitive trades. Some of the reliable brokers we tested include eToro, Skilling and Libertex.

Investors who are new to trading should look for a broker who can teach them the tools of the trade through educational articles, online tutorials and in-person seminars. Other features to consider in stock trading apps are the quality and availability of stock screening and analysis tools, on-the-go alerts, ease of order entry and customer service. Regardless, the time spent learning the basics of stock research and experiencing the ups and downs of stock trading – even if the latter are more – is time well spent as long as you enjoy the ride and don’t gamble money you can’t afford to lose.

Frequently asked questions about trading or investing in shares

Which stock trading site is best for beginners?

Bitcoin Capital has compared and ranked online trading brokers according to which ones are the best for beginners. This list takes into consideration investment selection, customer service, account fees, minimum deposit amount, trading costs and more.

Is it possible to trade shares with EUR 100?

Yes, as long as the share price is less than EUR 100 and your brokerage account does not have any minimum required amounts or commissions that would increase the transaction above EUR 100. Some brokers also allow you to buy partial shares, which means that you can buy a part of a share if you cannot afford the full share price.

What is the difference between stock trading and investing?

The main difference is the frequency with which shares are bought and sold. Traders buy and sell on a daily or weekly basis, whereas investors generally buy and hold shares on a long-term basis.