Which is better; Forex or Stock Market?
Active investors and traders today have access to an expanding range of trading instruments, ranging from tried-and-true blue chip stocks to the fast-paced futures and foreign exchange (or forex) markets. Choosing which of these markets to trade in can be difficult, and many factors must be considered in order to make the best decision.
The risk tolerance and trading style of the trader or investor may be the most important factors. Buy-and-hold investors, for example, are often better suited to the stock market, whereas short-term traders—including swing, day, and scalp traders—may prefer forex, which has higher price volatility.
Comparing Forex to Blue Chip Stocks
The foreign exchange market (forex) is the largest financial market in the world. Many traders are drawn to the forex market because of its high liquidity, 24-hour trading, and the amount of leverage available to participants.
Blue chips, on the other hand, are stocks of well-known and financially sound corporations. These stocks can generally operate profitably in difficult economic conditions and have a history of paying dividends. Blue chip stocks are generally thought to be less volatile than many other investments and are frequently used to provide investors’ portfolios with consistent growth potential.
So, what are the key distinctions to be made when comparing a forex investment to one in blue chips?
Volatility
Volatility is a measure of price fluctuations in the short term. While some traders, particularly short-term and day traders, rely on volatility to profit from market price swings, other traders prefer less volatile and less risky investments. As a result, many short-term traders are drawn to the forex markets, whereas long-term investors may prefer the stability provided by blue chips.
Leverage
The second factor to consider is leverage. In the United States, stock investors typically have access to 2:1 leverage. The forex market provides significantly higher leverage of up to 50:1, with even higher leverage available in some parts of the world. Is all of this leverage beneficial? No, not always. While leverage can certainly be used to build equity with a small investment—forex accounts can be opened with as little as $100—it can also be used to destroy a trading account.
Trading Hours
Another factor to consider when selecting a trading instrument is the time period over which it is traded. Stock trading hours are generally 9:30 a.m. to 4:00 p.m. Eastern Standard Time (EST), Monday through Friday, with the exception of market holidays. The forex market, on the other hand, is open 24 hours a day, from 5 p.m. EST Sunday to 5 p.m. EST Friday, beginning in Sydney and traveling around the world to Tokyo, London, and New York. The ability to trade in US, Asian, and European markets at virtually any time of day, with good liquidity, is an added benefit for traders whose schedules would otherwise limit their trading activity.
Comparing Forex to Indexes
Stock market indexes are a collection of stocks that contain some kind of element—either fundamental or financial—that can be used as a benchmark for a specific sector or the overall market. Major indexes in the United States financial markets include the Dow Jones Industrial Average (DJIA), the Nasdaq Composite Index, the Standard & Poor’s 500 Index (S&P 500), and the Russell 2000. The indexes provide traders and investors with an important method of gauging market movement.
Through stock market indexes, a variety of products provide traders and investors with broad market exposure. Exchange-traded funds (ETFs) based on stock market indexes are widely traded, such as the SPDR S& P 500 ETF Trust (SPY) and the Invesco QQQ, which tracks the Nasdaq 100 Index.
The stock market index Other popular instruments based on underlying indexes include e-mini futures. Because of their high liquidity and favorable average daily price ranges, e-minis have become popular among short-term traders. The e-minis, which include the e-mini S&P 500, e-mini Nasdaq 100, e-mini Russell 2000, and mini-sized Dow Futures, are traded on all-electronic, transparent networks around the clock.
So, what are the key distinctions to be made when comparing a forex investment to one that plays an index?
Volatility
Many short-term traders who participate in stock market indexes enjoy the volatility and liquidity of e-mini contracts. Assume that the major equity index futures trade at a notional value (the total value of a leveraged position’s assets) of $145 billion on a daily basis, which exceeds the combined traded dollar volume of the underlying 500 stocks.
The average daily range in price movement of e-mini contracts provides ample opportunity to profit from short-term market movements. While the average daily traded value is small in comparison to the forex markets, e-minis offer many of the same benefits as forex traders, such as consistent liquidity, daily average price movement quotes that are conducive to short-term profits, and trading outside of regular U.S. market hours.
Leverage
Futures traders can use large amounts of leverage, similar to forex traders. With futures, leverage is referred to as margin, which is a mandatory deposit that a broker can use to cover account losses. The exchanges where the contracts are traded set the minimum margin requirements, which can be as low as 5% of the contract’s value. Brokers have the option of requiring higher margin amounts. Futures traders, like forex traders, can trade in large position sizes with a small investment, giving them the opportunity to enjoy huge gains—or suffer devastating losses.
Trading Hours
While trading in electronically traded e-minis occurs nearly around the clock (trading pauses for about an hour a day to allow institutional investors to value their positions), the volume may be lower than in the forex market, and liquidity during off-market hours may be an issue depending on the contract and time of day.
Tax Treatment: Forex Vs. Equities
When it comes to taxes, these various trading instruments are treated differently. Short-term gains on futures contracts, for example, may be taxed at a lower rate than short-term stock gains. Furthermore, active traders may be eligible for IRS mark-to-market (MTM) status, which allows deductions for trading-related expenses such as platform fees or education.
The Bottom Line
The internet and electronic trading have enabled active traders and investors all over the world to participate in an increasing number of markets. Trading stocks, forex, or futures contracts is frequently motivated by risk tolerance, account size, and convenience.
Stocks are not the best option if an active trader is not available during regular market hours to enter, exit, or manage trades properly. However, if an investor’s market strategy is to buy and hold for the long term in order to generate consistent growth and dividends, stocks are a viable option. The instrument(s) chosen by a trader or investor should be based on the best fit of strategies, goals, and risk tolerance.
Knowify Capital is a well-known expert and experienced FX consultant. As providers of news and research for trading in currencies, commodities, stocks, Forex, Comex, and Indices, we are experts in US Stocks, Comex, CFDs, Indices, and Forex.