The Difference Between Stock and Forex Trading – Which is Better?

Investors have a considerable amount of choice and competition for their investment dollars. One frequent question that comes up is the difference between stock and Forex trading – Forex being the Foreign Exchange Market. There are gains to be made in either exchange, but let’s dig in and take a look at both, to illustrate the difference between Forex and stock as trading markets.

What Exactly is Forex Trading

Forex trading involves the exchange of currencies from all over the world.  They represent the world’s biggest liquid asset marketplace.  Forex trades a staggering $5 trillion dollars per day on average.  Trading in currency is done electronically, along with computer networks; because it takes place in time zones around the globe, it can be conducted 24 hours a day for 5.5 days a week.  The financial centers that trade in currency include:

• Hong Kong
• London
• New York
• Singapore
• Frankfurt
• Tokyo
• Zurich
• Paris
• Sydney

Forex Versus the Stock Market – Some Differences

A major competitor for the investor’s dollar is the traditional stock market.  One major difference between the two we’ve alluded to already.  Because currencies are traded between parties around the world, there is greater flexibility in trading time.  Forex trading can be conducted 24 hours a day, almost all week long.  Stock markets, by contrast, have set trading hours – the opening and closing bells of each trading day.

Another difference is that Forex trading involves the buying and selling of one currency for another currency – that’s it.  You sell one currency and buy another.  You’ve probably done it, if you have ever traveled internationally, only not for profit.  For Forex traders, profit is the name of the game – trying to take advantage of price swings of specific currencies.  It’s the high volume of trading every day that makes the value of currencies very volatile; this can be very attractive to investors, although it’s important to note the volatility can swing both ways.

Forex trading is always an exchange between two parties, as opposed to the stock market, where trading is done on exchanges.  The three types of Forex markets include:

Spot market – an exchange of currencies made “on the spot”, or right at the point the trade is completed – done.

Forward market – the amount and price is determined, but the date of the finalization is to be set in the future. Unlike futures, they can be customized, in terms of price and date.

Future market – similar to forward markets. A big difference is that they are legally binding.

How Forex Trades are Made

Unlike the stock market, where trades for specific stock are completed on exchanges, with foreign exchange, trades are made via pairs of currencies.  80% of Forex trades involve these six pairs, involving seven currencies:

• USD/CAD
• USD/JPY
• USD/CHF
• EUR/USD
• AUD/USD
• GBP/USD

That is trades involving the US Dollar, Japanese Yen, Swiss Franc, Euro, Canadian Dollar, Australian Dollar, and British Pound.

You can see that all these pairings involve the American dollar. There are other pairings, including ones between the other major six currencies listed above, but they trade at far lower volumes.  They are known as minor pairs.  Still less frequently traded, in terms of volume are exotics, and regional pairs.

Forex Versus Stock Trading – More Differences

You’ve seen now that Forex trading is strictly an exchange of currencies.  With stock trading, you are investing not in currencies, but rather in companies.  Here are some additional differences:

Stock price factors and influences – the drivers include corporate earnings, future plans, and the financial health of the company.  This differs from currency trading, where the factors are based more on the economy, interest rates, and other larger-scale influences.

Liquidity – how easily you can find buyers – in general, the stock market is less liquid than Forex, although both trading platforms are very liquid.  The stock market, though, will conduct far fewer trades in a day than will the foreign exchange market.

Volatility – the fluctuation of prices – the stock market is a less volatile place for an investor’s money. There can be rapid price swings, up or down, on a stock – due to political or economic shudders.  But the Forex market can be much more so, on a daily or even hourly basis.

Stocks or Forex – What’s Better for the Beginning Investor

There is definitely money to be made on the markets, both the stock exchanges and on the foreign exchange market.  But any experienced trader will advise the beginning investor to tread very, very carefully, no matter what path they choose.  We’ve just touched on volatility.  While a sudden upswing in a stock or a currency can mean significant profit, the opposite can and does also occur.  

The major issue for any beginner is that it takes a great deal of study, learning the market, investing prudently, and – wait for this – expecting losses first.  There is no way around it; no matter what the market, you have to learn to take your lumps.  That means that it’s a bit like going to the casino – the standard advice is to never bet on more than you’re willing to part with – permanently.  The stock market is no different; neither is Forex trading.

Some Final Advice to Consider on Any Type of Trading

Here are two useful measures and strategies you should consider as a beginning investor, on either the stock exchange or on the Forex market:

Risk-Reward Ratio – experienced traders rely on this type of advance calculation when considering trades.  You calculate the risk-reward ratio by dividing how much you might lose if a trade goes the wrong way, by the expected profit to be earned. A general rule of thumb is to look for risk-reward ratios of 1:3 or greater.

Use stop-loss orders – these you place with your broker.  It’s an order to either buy or sell if security hits a designated price.  

The last words: Proceed with caution. Invest carefully, and best of luck.