Trade is a fundamental economic concept that involves buying and selling of assets. It can be in the form of goods and services, for which the buyer pays compensation to the seller. In other cases, transactions can involve the exchange of goods and services between the two parties.
In the context of financial markets, assets that are traded are called financial instruments. It can be stocks, bonds, currency pairs on the Forex market, options, futures, margin products, cryptocurrencies and many others. If these terms are new to you, don’t worry – we’ll cover them all in this article.
The term trading is usually used to refer to short-term trading, where traders are actively entering and exiting positions within a relatively short time frame. However, this assumption is somewhat misleading. In fact, trading can refer to a variety of different strategies, such as day trading, swing trading, trend trading, and many others. But don’t worry, we’ll cover all of them in more depth later.
What is investment?
Investment is the process of allocating resources (such as capital) in the hope of generating profits. This includes using the money to fund and start a business or buy land with the intention of reselling it at a higher price in the future. In financial markets, investments are usually made in financial instruments with the hope of selling them at a higher price later.
The expectation of making a profit is at the heart of the investment concept (also known as ROI). Contrary to trading, investing usually takes a long-term approach to accrual wealth. The investor’s goal is to build wealth over a long period of time (years, or even decades). There are many ways to do this, however, investors will usually use fundamental factors to find promising potential investment opportunities.
Due to the long-term nature of the approach taken, investors are usually not concerned with short-term price fluctuations. As such, they will usually remain relatively passive, without worrying too much about short-term losses.
Trading vs. Investation
Both traders and investors are trying to make a profit on financial markets. However, the methods taken to achieve this goal are quite different.
Generally, investors strive to generate returns over a longer period of time – think of it as years or even decades. Because investors have a wider time horizon, the targeted return on each investment tends to be larger as well.
Traders, on the other hand, try to take advantage of market volatility. They enter and exit positions more frequently, and may seek smaller profits on each trade (as they often enter multiple positions).
Which one is better? Which is more suitable for you? You have the right to decide. You can start educating yourself about the market, and then learn by doing. Over time, you will be able to determine which one is more suited to your own financial goals, personality and trading profile.
What is fundamental analysis (FA)?
Fundamental analysis is a method of valuing financial assets. A fundamental analyst studies economic and financial factors to determine whether the value of an asset is fair or fair. Analysis can include macroeconomic conditions, namely the broader economic situation, industrial conditions, or the business connected to the asset (if any). Often tracked through leading and lagging indicators.
After the fundamental analysis is complete, the analyst then determines whether the asset that is being assessed is undervalued or overvalued. Investors can use these conclusions when making their investment decisions.
In the world of cryptocurrencies, fundamental analysis can also cover an area of data science that deals with public blockchain data called on-chain metrics. Metrics can include network hash rates, top holders, number of addresses, transaction analysis, and much more. Using a variety of data on publicly available blockchains, analysts can create complex technical indicators to measure aspects of the overall health of the network.
Fundamental analysis is widely used in the stock market or Forex, and does not appear to be suitable for cryptocurrencies in its current state. Crypto asset classes are still very new, so there is no standard, comprehensive framework for determining market valuations. What’s more, most markets are driven by speculation and narratives. As such, fundamental factors usually don’t have a strong effect on cryptocurrency prices. However, more accurate ways to value crypto assets can be developed once the market matures.
What is technical analysis (TA)?
Technical analysts work with a completely different approach. The main idea behind technical analysis is that past price movements can show how the market is likely to behave in the future.
Technical analysts do not find out the intrinsic value of an asset. Instead, they look at historical trading activity to try to identify opportunities based on it. It can include price and volume action analysis, chart patterns, use of technical indicators, and many other chart tools. The purpose of this analysis is to evaluate the strengths or weaknesses of the market.
Thus, technical analysis is not only a tool for predicting the probability of future price movements, but can also be a useful framework in risk management. Since technical analysis provides a model for analyzing market structure, trades can be managed more clearly and measurably. In this context, measuring risk is the first step in management. This is why some technical analysts may not be considered completely traders. They can use pure technical analysis as a framework in risk management.
The practice of technical analysis can be applied to any financial market, and is widely used among cryptocurrency traders. But is technical analysis useful? Well, as we mentioned earlier, the valuation of the cryptocurrency market is mostly speculation-driven. This makes the crypto world an ideal playing field for technical analysts, as they can succeed by considering only technical factors.
Fundamental analysis vs. Technical analysis
It totally depends on your trading strategy. Next question, why not use both? Most market analysis methods work best when combined with other methods or indicators. In this way, there is a greater likelihood of finding more reliable investment opportunities. Combining a variety of trading strategies can also help eliminate bias in your decision-making process.
This concept is sometimes referred to as confluence. Confluence traders combine several strategies into one to combine the benefits of all of them. The idea is that the trading opportunities presented by a combined strategy may be stronger than those provided by just one strategy.
What drives the financial markets?
The price of an asset is determined only by the balance of supply and demand. In other words, the price is decided by both the buyer and the seller. Where supply meets demand, there is a market. But what else can drive the value of financial assets?
As we discussed earlier, there may be fundamental factors, such as economic conditions. Apart from that, there may also be technical factors such as cryptocurrency market capitalization. Also, there may be other factors to consider, such as market sentiment or breaking news.
However, these are only factors – factors to consider. What really determines the price of an asset at any given moment is simply the balance between supply and demand.
What are market trends?
Market trends are the direction of the overall price movement of an asset. In technical analysis, market trends are usually identified using price action, trend lines, or even major moving averages.
In general, there are two main types of market trends: bull and bear markets. A bull market or bull market consists of a continuous uptrend, in which the price continues to rise. A bear market or bear market consists of a continuous downtrend, in which the price continues to fall. Apart from that, we can also identify consolidated or “sideways” markets, where there is no clear trend direction.
It should be noted that a market trend does not mean that prices are always going in the trend direction. A prolonged bull market will have a small bear trend contained within it, and vice versa. This is purely the nature of market trends. It’s just a matter of perspective because it all depends on the time frame you are looking at. A market trend on a higher time frame will always have more significance than a market trend on a lower time frame.
One strange thing about market trends is that they can only be determined absolutely by looking back. You may have heard of the concept of hindsight bias, which is the tendency for people to convince themselves that they are accurately predicting an event before it occurs. As you can imagine, the hindsight bias can have a significant impact on the process of identifying market trends and making trading decisions.
What is a market cycle?
You may have heard the phrase “markets move in cycles.” Cycles are patterns or trends that appear at different times. Typically, market cycles on a higher time frame are more reliable than market cycles on a lower time frame. However, you can also find small market cycles on the hourly chart just like when looking at decades of data.
Markets are naturally cyclical. Cycles can result in certain asset classes outperforming others. In other segments of the same market cycle, the same asset classes may underperform other asset types due to different market conditions.
It is noteworthy that it is almost impossible to determine where we are currently in the market cycle. This analysis can be performed with high accuracy only after this part of the cycle is complete. Market cycles also rarely have concrete beginnings and end points. In fact, being in the present moment is a very biased perspective on the financial markets.