Buying Stocks 101

One of the most significant concepts to understand when trading currencies is that, unlike other markets such as buying stocks, a currency trade consists of both a buy and a sell simultaneously.  For example, when you expect the Dollar to go higher against the Euro, you are dealing with two currencies and an exchange has to be made between them.  In this example, when you buy the Euro, you are selling the Dollar.  This makes the foreign exchange market a unique and exciting avenue for savvy traders.  In order to learn currency trading, you need to understand the terms.

Going Long, Getting Short, and Squaring Up

As in most financial markets, certain terms are used to indicate market positioning.  A long position refers to having bought a currency pair.  A short position means you have sold a currency pair, meaning you’ve sold the base currency and bought the counter-currency.  When you long, you expect prices to rise.  When short, you expect the inverse.   When neither long or short, you are referred to as being square or flat.  If you have an open position and you intend to close it, that is called squaring up.

Rollovers

Because you are trading currency, that currency will draw interest, or accrue interest in the case of a short position. Thus, if you carry over an open position from one value date to another, you are rolling over your position and will be affected by the interest rate differential, the difference between the interest rates of the two currencies you are trading.  Rollover periods vary depending on holidays or weekends, but generally you are looking at a one-to-two day rollover.  If your just beginning to learn currency trading, it would be helpful for you to stop here and make sure you understand value dates and rollovers before moving on.

Trading in the Currency Market

There are two primary ways of executing a trade in the currency market: live trades and orders.  A live trade is executed immediately, often with the click of a mouse.  This can be a bit risky if you enter the wrong amount because there is no turning back once a trade is submitted, however the up side is that you can react to moves in the market as they occur and potentially profit from those fluctuations.  On the other side, you have orders, meaning you are requesting a broker take an action at which time the market meets your conditions.  A take-profit order requests that your position be closed at a specified level, essentially locking in your gains.  Limit orders simply trigger a trade at more favorable levels that currently exist in the market.  Stop-Loss orders do essentially that, stop you from losing your shirt by closing out a failing position.  A Trailing stop-loss order is a stop-loss order that you set a fixed number of pips from your entry rate, allowing you to neutralize losing positions quickly, but let a positive position carry on.  One-Cancels-The-Other orders is a stop-loss order paired with a take profit order.  When one triggers, the other cancels, offering a great risk-management tool when trading currency.  Lastly, contingent orders are simply a combination of several order types strategically formed to cover all your goals and manage your risks.

Where to go from here

If you truly wish to learn currency trading, your best bet is to locate a Forex broker and begin to read over their policies and training documents.  Trading currencies is not like buying stocks; it is much more dynamic and returns can be realized quickly.  But be sure that trading currency is speculating at its core, so be careful to step in the waters slowly and gain experience in the market before risking large sums.

For the novice investor, picking individual stocks and bonds can seem like an overwhelming endeavor.  Most people shudder at the thought of putting so many eggs into once basket, and rightly so.  Fortunately for them, the market has invented several vehicles which shelter the investor from the risks of buying stocks individually, and also provide a measure of professional management to a stock portfolio which would be difficult for an individual to achieve alone.  Collectively, these investment vehicles are called funds, and they come in several types to address specific investor needs.  We will explore some of them below.

Mutual Funds

The first type of fund we will discuss are Mutual Funds.  These are by far the most common type of fund traded these days, and they form the bulk of most people’s 401Ks.  A mutual fund is essentially a collection of securities purchased with a pool of investor money, with those securities chosen because of some strategy for growth defined by the fund manager.  So what benefit does a mutual fund provide as opposed to buying stocks individually, you might ask.  Simply, they spread the risk around.  Instead of buying one hot stock in the tech sector, you might hold a fund which itself holds scores of positions in various tech companies.  You also get the benefit of a professional fund manager, who undoubtadly is able to react to news affecting those stocks much quicker that you yourself can.  While you may not have the dramatic growth of a rocketing IPO, you also tend to avoid the crashes that come more often.  The mutual fund investor is usually looking to do two things: simplify and diversify.

ETFs (Exchange-Traded Funds)

Exchange-Traded Funds, or ETFs as they are commonly called, are a special type of fund created to mirror the major market indexes, such as the S&P 500 for the Dow Jones Industrial Index.  The idea here is that these funds would hold the same stocks as are in their corresponding index, making it easy to keep up with broad movements in the market and offering diversity over larger sectors of the market.  Some differences between ETFs and Mutual Funds are that there isn’t a minimum investment as there is with a mutual fund.  Also, you will always pay a commission on an exchange-traded fund, whereas you will only pay a commission on a mutual fund if it carries a “load”.  Another key difference is that while you cannot buy and sell options in a mutual fund, you can in an ETF.  For more on options, look here.  An ETF has several attractive features that some investors love such as lower capital gains taxes, generally low fees, and the ability to buy and sell them throughout the day.

Hedge Funds

A lot of media attention has been given to Hedge Funds lately, primarily due to their role in the financial crisis, but still many investors aren’t sure what they are or why one might invest in them.  A Hedge Fund is essentially a private partnership that operates with very little regulation from the SEC (which you can bet will be changing in the near future) which invests in a large number of varying assets applying unique and varied investment strategies in order to hedge against risk and in doing so increase the return to levels above normal investments, such as mutual funds.  To break it down further, Hedge Fund managers try to reduce risk and increase return by leveraging low risk investments against high return investments, or vice versa.  Generally, Hedge Funds require a long-term investment, maybe two years or more.  And they use aggressive investments strategies in order to reduce risk and increase return, which itself is risky.  They are an option for the investor looking to beat average markets return rates, but they should not be considered with without much research and vetting.

REITs (Real Estate Investment Trusts)

REITs are a little bit different.  We’re not buying stocks here.  In fact, they aren’t even technically a fund.  Real Estate Investment Trusts, or REITs, are actually corporations that hold properties or real estate related assets.  A REIT could hold hotels, shopping malls, office buildings, undeveloped land, or even commercial mortgages.    REITs are obligated to distribute 90% of the income from property holding to shareholders in the form of dividends on an annual basis.  The main advantages of REITs are that they invest in revenue-generating properties or paper instead of corporations making them and ideal option for those looking for an alternative to the stock market, and that they diversify an individual’s investment over a large number of properties thereby blunting some of the risk of real estate holdings.

If you are looking for something other than simply buying stocks or holding cash in a C.D., one of these funds may be just what you need.

Lately, there has been much in the press about futures markets - mainly negative press relating to oil markets. While, the futures markets have to shoulder some blame for the steep escalation of gas prices in 2008, that serves to underscore just how important they are to our capitalistic economy. Futures markets provide the foundation for wholesale prices, and ultimately retail, of just about every commodity regularly sold around the globe. And futures aren’t just about commodities; they involve stocks, bonds, and other mainstream investment vehicles as well.

So what are futures?

Simply, a future is a contract, referred to as a futures contract, and is held similar to a stock or a bond. But where a stock and bond represent equity and debt respectively, a futures contract sets the terms or conditions for delivery of financial instruments or commodities at a specified time in the future.

What is the difference between Options and Futures?

It is easy to confuse futures with options. Both are contracts, and both reference a specific asset being traded. But where a futures contract gives the buyer the obligation to purchase a specific asset, an options contract gives the buyer the option or the right to purchase that asset. Similarly, a futures contract obligates the seller to sell an asset at a specified future date, unless the position has been closed prior to the date of expiration. Another difference between futures and options is the cost of entry. An investor can enter into a futures contract with no cost upfront aside for brokerage commission, whereas an options position requires the payment of a premium. Think of it like this: no cost upfront for futures but you are obligated to buy or sell; a premium payed upfront for options but you have the option to buy or sell. The premium gets you out of the obligation. One other point is that futures are generally sold in larger positions than options.

What are some details about Futures?

Before trading futures, you need to understand some of the fundamentals. Futures contracts expire, meaning they cease to exist unlike buying stocks or bonds, so you are forced to make a decision: sell the contract to someone else and take your profit or loss or take delivery of the product represented by the contract. Also, futures contracts have daily price limits, meaning that they can only go so high or so low in a given day, due to the natural volatility of this type of security. Lastly, most brokers require that any investor trading in futures have a certain amount of money in their brokerage account, usually around $5,000. Again, this is due to the risk of trading futures contracts.

Are there any terms I need to know?

The futures market has it’s own language. Going Long means you believe the price of the underlying asset is going to rise, and therefore are investing in futures contracts on that asset. Being short means you believe that the price of the underlying asset it going to go down, and so you shorting futures contracts on the asset. Speculators are traders who are trying to make money due to the fluctuation of prices, but never intend to take delivery of the asset itself. Hedging is a technique used to manage risk, where you set up a trade that protects you if the market goes either way. Most of these topics require a post all to them selves so it would benefit you to do some additional research before tackling the futures market. Buying stocks and bonds is one thing; buying or selling futures and options is a whole other dimension of investing.