- Date : 29/06/2021
- Read: 4 mins
Smart investors leverage both trading and investing by holding separate portfolios – one to generate profit and another to create wealth.
The terms investing and trading are often used interchangeably with respect to equity markets. However, they are two very different approaches – one generates profits, the other creates wealth. Here’s how:
Let’s understand each approach with two different stocks in the same price band.
Scenario 1: Stock X with a current market price (CMP) of Rs 25 is considered fundamentally sound, poised for long-term growth.
Investor: Buys 1000 units of X @ Rs 25 today – sells the stock at Rs 36 each after 3 years.
Scenario 2: Stock Y with CMP of Rs 25 operates in a cyclical industry that is riding the tide at the moment.
Trader: Buys 1000 units of Y @ Rs 25 – sells it within a week for Rs 26. Buys same number of units again after a month at Rs 29 and sells at Rs 30.5. A third time at Rs 28.75 and sells at Rs 27, and finally buys at Rs 28 and sells at 29.5.
For the two different approaches, an investor makes Rs 11,000 on his long-term position while a trader makes a net of Rs 2250 after three positive and one negative trade.
|Methodology||Based on technical analysis that uses historical data to predict future trends in stock movement.||Based on fundamental analysis that evaluates a business' performance on internal as well as external factors such as financials, industry trends, economy, etc.|
|Time horizon||Trading is an investment strategy that is executed in a short period of time – over a couple of weeks or even within a day.||
Investing is an approach that aims at compounding wealth by holding on to the stock over the long term – a few years or even decades.
|Risk||Trading assumes higher risk as short-term price fluctuations offer an opportunity for both higher returns as well as capital loss||
A long-term investment strategy evens out volatility and risk. Daily price fluctuations do not have a lot of impact on quality stocks.
Art vs skill
|Trading would be considered a skill of understanding technical factors and timing the market.||
Investing is considered an art of understanding the business, its philosophy, and growth trajectory, and staying committed for wealth creation.
|Taxation||Short Term Capital Gains tax at 15% applicable on trade profit if annual income exceeds Rs 2.5 lakh||
Long Term Capital Gains tax at 10% applicable on profits in excess of Rs 1 lakh p.a. Additional indexation benefits available too.
Which strategy is better?
Conventionally the difference between investment and trading has been linked to the personality of the individual (comparisons are often drawn to the hare and tortoise story). However, saying that one strategy is correct or better than the other will be an oversimplification. An individual has different goals and expectations, and there is no reason why their risk tolerance and strategy cannot change to accommodate different goals.
The same individual armed with the right knowledge can leverage both strategies. They can build a portfolio of robust stocks that will help fulfil long-term financial goals, while a separate pool of funds earmarked for active trading can generate short-term profits that can be used to offset sundry expenses. Tomorrow Makers’ Comprehensive eBook on Intraday Trading.