When it comes to investing your money for retirement, long, or short-term savings there are a couple of boats you can find yourself in.
Certain people subscribe to the buy and hold strategy. Usually these people purchases cheap index funds or mutual funds and hold them for decades since the stock market has historically returned 8%. Some people also buy individual stocks and hold them for decades at a time. A wise man once said, “only buy something that you’d be perfectly happy to hold if the market shut down for 10 years.”
Another investing camp is the occassional trader. This person likes to dabble in trading stocks, but is mostly a novice. Maybe they make 2 or 3 trades a month, but they usually follow companies they know something about and are looking for larger trends. These people usually have a larger stash of money in a safer investing vehicle for their retirement, and they may call investing a hobby.
A 3rd group of investors is the active traders – or day traders. These are the people who trade more than five times a month and have a lot of money going on hunches.
The New York Times recently ran an article following the life of a day trader. Some of these people do this as a full-time gig, while others consider it a part-time job/after-work hobby.
Day traders bet lots of money on the minute by minute market fluctuations of companies. This is get-rich quick at its best and provides a lot of adrenaline, but comes with a lot of risk.
The author of the article followed one particular trader, and the lessons I took away from his story, apply directly to anyone who thinks they can consistently beat the market with a little research and some accurately-placed trades.
Here’s my reasons 99.7% of people should stay away from actively trading stocks.
Fees
I recently sold my stock at Zecco and they charge just $4.50 a trade. It doesn’t seem like a lot – if you’re someone who is rarely trading.
Day traders buy and sell stocks more than 10 times a day – everyday. The amount of fees they pay is revoltingly high and takes a huge chunk out of any gains from the day.
The worst part is, the fees are hidden. No one really discusses stock fees with their friends after a big day of trades. We usually just assume they don’t cost that much and instead choose to pay attention to the gains.
In the article, the day trader, “traded 60,000 shares and is up $165. It would be a satisfying return, but commissions on those trades cost $300.”
This is one round the buy and hold investors have won because they avoid fees at all cost, maximizing their return in the long run.
Speculating With Your Life’s Savings
It’s not very often the NY Times has you laughing out loud, but I did just that after I read that the day trader had bought shares of a company and claimed: “I don’t know what they do”.
When putting large amounts of your hard-earned money into a company, it may be comforting to actually know what the company stands for – or at least sells.
Active traders are attempting to read an imperfect line – the stock market – and determine where it’s headed. This provides a rush for some people, but what’s not often advertised is that from 1992 – 2006, 80% of active traders lost money. What’s worse is “we found that if you were to look at the past performance of these traders, only 1 percent of them could be called predictably profitable.”
These are people who claim to know where tomorrow’s Dow will end, where Bank of America will be next Tuesday, and why Starbucks will continue to go down.
They really don’t. There is too much going on for 1 person at his or her computer to truly understand and beat.
Which brings me to my 3rd point…
You’re Competing Against MEGA-COMPUTERS
The correct term is “robo trading”.
Companies purchase rooms of computers that buy and sell outrageous amounts of shares based on algorithms.
Do yourself a favor and re-read that last sentence. Does that sound like something you can beat sitting at your computer after reading a couple of books on market fluctuation and investing theory? If so, then you’re more courageous than me and I wish you luck.
These computers know that tons of day traders are out there trying to find the quick hit so they buy more than 1 person can afford in an attempt to shift the market one way or another. It’s like a shark playing with its prey.
It’s not just computers that you’re going up against. It’s multi-billionaire dollar companies who hire thousands and thousands of people who work 70 hours a week and live the market.
And even they lose a good amount of the time.
Large Amounts of $$$ Needed to Make a Dent
What I learned during my Zecco catastrophe was that you shouldn’t waste your time investing if you don’t have a large amount of money behind you. Buy and hold people start small, but as the years go by and the contributions continue, a large pot of money is (hopefully) waiting for you in the end.
If you want to actively trade stocks, you’re going to need more than $1,o00 to make any dent. In fact, the day trader from the post claims: “I basically have $80,000 to $100,000 in my trading account every day,” he says, “and take my earnings out of that account to live.”
He’s using his life’s savings to make his business grow. Most people don’t have this money stashed aside, and even more aren’t willing to bet that on a company they know very little about going up and down over the next hour or two.
The companies who are big players in the stock market are moving around millions every day. You can hold your own with your own lump sum, but realize it’s going to be incredibly difficult to keep any streak going if you’re lucky.
It’s the Cousin of Sport’s Gambling
I’ve dabbled in some online sports betting in my life and it was a fun phase that gave me a new look at sports, but a lot of people require the adrenaline rush. They crave the risk and the ups and downs of the win.
A lot of day traders and active traders are the same way – they’re just feeding an impulse.
Day trading will play with your emotions. You’ll be up $500 one minute, and then down $250 the next. If that’s something you think you can handle, then go for it. But you may feel a little different when your actual money is on the line.
Since there is so much emotion involved, you have to question how objective active traders can be. How do you sort through the hysteria to consistently turn a profit?
I wish I had an answer for you.
::::
There’s no guaranteed science to investing. There’s a risk involved – there’s no denying that. The amount of risk you’re willing to live with depends on a couple of factors, but hopefully your pride as a stock picker isn’t one of them.
Actively trading stocks isn’t a beginner’s game. If you’re thinking about getting involved in it – do the research because every day of work will be a huge battle.
Can you make a good amount of money? Of course – and I hope you do.
But remember – the robo traders are lurking…
Photo: thelastminute
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I used to trade stocks and I 100% agree with you on the fees part. The fees are absolutely ridiculous. Fortunately for me I got in when the market was at it’s lowest and came out with a nice 50% return, so the fees did not really hit me too hard. Also I agree what large amounts of $$ are needed to make a dent. So true!
.-= MyFinancialObjectives´s last blog ..Lesser Known Link Rally =-.
[Reply]
Austin Reply:
April 7th, 2010 at 5:44 pm
What kind of investing do you do now?
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Austin,
Thanks for giving us a common sense explanation of the dangers (and fees) associated with actively trading stocks. Me? I am just a boring guy who buys and holds. I’ll take the adrenaline of a great basketball or football game…I don’t want adrenaline from my investments.
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Austin Reply:
April 8th, 2010 at 5:17 pm
I’ll join your investing team, Joe. Maybe someday if I’m super comfortable financially I’ll dabble in some individual stocks of companies I love, but I’ll concentrate on putting cash away for now.
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I can’t even imagine what kind of edge one might come up with for day trading. However, maybe 99.7% paid a lot for very expensive index funds in 2008 speculating that the price would go up by 7% a year because it had done so in the past … ;-) It is possible that those who are in index funds yet don’t know what they are buying yet buy anyway because that’s what they’ve been told to do because putting their savings in stocks yield superior returns should not have done so. We’ll see how it pans out in 20-30 years. Suffice to say, there has been periods of 20-30 years in US market history where buying and holding and speculating that the price would have gone up would have resulted in zero gains — worse than a bank account. In fact, the markets haven’t really gonna anywhere by up and down and up and down and ten a bit up again to return to the starting line over the past 12 years. That’s actually quite a long time … like a third of an (investment) career.
.-= Early Retirement Extreme´s last blog ..One more year before comfort =-.
[Reply]
Austin Reply:
April 13th, 2010 at 6:03 pm
There’s definitely a risk with any sort of investing. But I’d still claim that buy and hold is the least riskiest for the mass majority of the population out there.
A lot of people out think themselves when they try to invest, and buy and hold doesn’t allow for this mistake to happen (if everything is initially set up right)
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Austin:
To add to the “mega-computers” section, also up against Flash Trading.
Institutions are able to move large blocks (read: millions of shares) within fractions of second returning fractions of profits, but netting large sums.
.-= FinEngr´s last blog ..Yakezie Weekly Round-up: Better Late Than Never =-.
[Reply]
Austin Reply:
April 13th, 2010 at 6:04 pm
As if we needed more frightening technology to scare us away from trading.
Thanks for the insight, my friend.
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