The Starter’s Guide to Investing and Trading

You’ve decided to put your money to work. Now what?

Maybe last Friday evening over some wine, you decided to start investing or trading, because money’s pretty great. Perhaps you already have some money in an ETF but are thinking about doing more, because wealth generation is everyone’s idea of a hobby.

Either way, you’re in the right place. You’ll learn the absolute basics, what kind of investor/trader you might want to be, and a simple roadmap to get you started.

I’ve just finished my first year of active trading with a 25% return, but not before a lot of trial and error (which I paid for quite dearly), cycling through many styles and strategies to understand what works for me. I’m by no means an expert, but I understand the novice struggle, so I’m here to share some of what I picked up about investing and trading such as:

• There are a million ways to do it
• None of them work (all the time)
• Don’t try every single one

Note: this is an intro-level article on investing and trading. For more advanced explanations on how I made 25% trading, feel free to read this walkthrough below.

Investing and trading are tough but teachable skills. However, because money’s involved, unreliable and incomplete information is abundant out there (to say the least), and it’s difficult knowing where to begin.

In as much detail as needed and as little as possible, I’ll talk about:

1. Where can I put my money?
2. Should I invest or trade?
3. What’s my style?
4. How do I get going right now?

1. Where can I put my money?

This question seems simplistic, but it’s not really. For novice retail investors/traders like us, the first thing that comes to mind will probably be the stock market, but that’s not the whole story.

An asset is anything that produces future cash flows. Physical assets are things like real estate and heavy equipment. Financial assets are assets that aren’t tangible, like bonds and stocks. I’ll only address financial assets, and to start, we should always try to put money into assets that are liquid i.e., can be bought and sold easily at fair market price, and the most liquid assets are publicly-traded.

A home and a private equity vehicle are similar in that they aren’t traded on an exchange by millions of people daily. If you buy one, you won’t be able to get it off your hands quickly if you ever need cash or decide it’s no longer a good investment.

Bonds: Publicly-traded debt

If you buy a bond, the issuer (company or government) owes you money and pays it back over time. Coupon bonds are the norm, which pays a small amount regularly, then a big chunk sometime later when the debt matures.

The main risks of bonds are default risk (issuer can’t pay the debt back) and interest rate risk. US government bonds are thought to be one of the safest investments due to minimal default risk. Interest rate risk is about opportunity cost: if you own a bond that yields 5% and interest rates surge to 6%, then you’d literally make more just keeping the money in a savings account, so the bond loses value.

The pros of bonds are income, risk, and diversification. Bonds pay fixed amounts regularly. And even though bonds carry risks, they’re much safer (generally) than stocks. Also, because they aren’t very strongly correlated with stocks (it fluctuates), allocating part of a portfolio to bonds means you’re better diversified and may lose less if stocks crash.

Stocks: Residual claims to cash flow

A company will, in the future, distribute all its earned cash to people it owes cash to. It’ll first return bondholders the debt it owes them, then whatever’s leftover, the true equity value of the company is split amongst shareholders.

Being a residual claim (shareholders are paid last), stocks are innately high-risk. A small change in revenue can be the difference between a windfall and absolute nada for a shareholder. That’s why stocks are volatile — sentiment, rumors, the CEO’s flatulence and more can change a company’s perceived ability to earn cash, for better or worse.

The main risk of having stocks in your portfolio is volatility. They’re typically the most forward-looking (read: easily startled) asset class, issues with the economy, the industry, and the specific company can all sway share price.

The pros: more profit potential, a wider range of choices. You’ll likely never run out of companies. That said, companies differ in liquidity, and anyone starting should avoid stocks with low float (total amount of shares traded) and low volume.

Options: Stocks but on hard mode

Options are a derivative, i.e., a financial asset based on another financial asset. Options are traded on all kinds of underlying, but we usually refer to options on stocks.

Call options give the holder the right to buy a stock at a stated ‘strike’ price anytime before the contract expires. Put options confer the right to sell. They’re like insurance; you pay a premium upfront and get to decide in the future if you want to exercise the right to buy or sell.

The main pros and cons of using options are leverage and volatility. Each option contract corresponds to 100 shares i.e., if you exercise a call, you receive 100 shares of the underlying stock. If you think a stock will rise, instead of buying 100 shares, you can buy a single option at a fraction of the price, but that also means you lose 100x if you’re wrong.

Using options, you can bet on volatility; options become more valuable when volatility is high, so even if the stock price stays the same, the option holder profits if vol increases. That also means you could be right about the stock price but still lose money.

Foreign Exchange / Forex / FX: Currencies

Trading FX just means you exchange one currency for another. This is typically used for macro bets — if for economic reasons, or otherwise, you think the Euro will become more valuable against the dollar e.g., EUR$1 goes from being worth USD$1.12 to USD$1.20, you can buy EURUSD, swapping your USD cash for Euros.

As a retail investor/trader, this poses two challenges. First, you have a home currency — if you buy food in USD, you’ll eventually need to convert your FX holdings back to USD. Second, FX is notorious for its massive 100:1 leverage. Like options, that means your gains and losses are magnified 100x. One wrong move, and you might lose your skin.

If you’re new but still want exposure to foreign currencies and economies in your portfolio, I suggest trying forex-based ETFs, stocks of companies that have foreign revenues, or foreign government bonds.

Bonus: Exchange-traded funds (ETFs) and mutual funds

Both are baskets of investments — for example, instead of buying shares of 500 different companies, you could just buy one share of SPY (S&P500 ETF) that contains all of them. The difference is, ETFs are trackers, and mutual funds are outperformers (or so they try).

ETFs are programmed to simply reproduce an index (in trade-able form) as closely as possible. The SPY contains the same companies as the S&P500 index and will perform almost identically. It’s cheap — the fee for owning an ETF is much lower than that of a mutual fund. Also, there are ETFs for bonds, commodities, and currencies, which give you access to those asset classes in a simple stock-like vehicle.

Mutual funds aim to do better than an index. Most have indices they’re measured against, and their fund managers (or computers) pick investments strategically to try to make a bigger return than their benchmark, but for that, you pay a more substantial annual fee. Mutual funds are good if you want to make more and get access to less liquid or international assets.

2. Should I invest or trade?

Now you know the assets at your disposal, but what’s investing? What’s trading? And is there a difference? There is, but the line is blurry and pretty arbitrary.

Investing is buying and selling assets at a relatively low frequency, aiming to make returns over a longer period of time. The principle is to buy what’s cheap and sell what’s expensive (relative to the asset’s quality), believing that the asset’s price will converge to its true value over time.

Trading is buying and selling assets at a relatively high frequency, aiming to make returns over a shorter period of time. The principle is to make bets with positive expectation (greater average win than average loss, probability-weighted) so that with a large number of trades, one would have a money-making edge.

In general, if I buy a bunch of stocks and forget about them for a year, I’m an investor. If I buy and sell within a few days, or even within the same day, I’m a trader. The labels also carry some connotations of style — we’ll talk about that later.

‘Trader’ conjures up a certain portrait, which despite having lost some of its shine since 2008, remains mystical and aspirational to some of us. The issue is, it just isn’t suitable for everyone. I’ve avoided saying ‘not everyone is suited to trading’ because this investor-trader dichotomy is more about preferences than proficiency (which can be learned). Here are the key questions to ask yourself.

What is my time horizon?

Layman: how long you’re willing to wait to make profits, or how long you’ll typically hold each position. Are you fine with forgetting about an investment for a couple of years and waking up one day with a nice chunk of money? Or do you check your portfolio obsessively and want little bits of profit every other day?

A longer time horizon means you’ll be less affected by day-to-day fluctuations in asset prices, which are mostly driven by noise and have little consequence on larger, longer-term price movements. If you like that, invest. Traders typically have short time horizons ranging from intraday (day trader) to several days or weeks (swing trader).

What is my desired level of involvement?

Are you able, and do you want to dedicate yourself full-time to the markets? Or are you only able to spend an hour or so every week or month to think about your portfolio?

Trading is extremely active. Even those on the long end of swing trading need to treat it as at least a part-time job. Investors can also be rather active, but they don’t need to dedicate quite as much time due to the longer time horizons. A couple of hours here, and there are enough to research and make informed investment decisions.

Keep in mind also that time involvement is heavily correlated with emotional involvement. Trading would define and affect a trader’s identity, mentality, and daily life more than investing would for an investor.

What is my risk tolerance?

How much money can you lose without losing sleep, appetite, and your sense of self? This is perhaps the most important and most forgotten question — until the moment you lose too much.

Both trading and investing can be high risk. But, because of the shorter time horizon and greater involvement, traders often try to make bigger returns and are much more sensitive to routine day-to-day fluctuations.

Also, referring to the principles of each I mentioned above, investors tend to enjoy quiet while traders tend to thrive in volatility, because valuations become more ‘accurate’ in peacetime (the market isn’t forced to buy/sell and has space to evaluate prices), whereas short-term panic creates more positive expectation trades. How you feel about uncertainty can also help you think about what kind of investor/trader you want to be.

As a rule of thumb, trade not when you want bigger returns, but when you’re willing to take bigger losses. Most people are naturally inclined to be risk-averse, so statistically speaking, it’s always good practice to start with a safer, more passive investing approach, and try trading later when your risk tolerance increases.

3. What’s my style?

Even though the crux is to make money, there’s no single flavor of investing or trading. Because the market has a million variables, there are often too many ‘methods’ available to the novice, in turn making it more challenging to learn and develop proficiency.

Fundamental vs Technical

These are the two major philosophies. Fundamental analysis attempts to forecast price by finding the ‘intrinsic value’ of an asset, i.e., how much it’s truly worth, ignoring how it’s currently trading in the market. Technical analysis attempts to forecast price by exclusively looking for patterns and movements in price and volume, ignoring intrinsic value.

Fundamentals are commonly associated with investing, and in the context of stocks, typically involves:

1. Reading companies’ financial statements and thinking about how much their profits and cash flows will change
2. Comparing companies’ trading ratios (P/E, EV/EBITDA, P/B, etc.) against their industry peers’ to estimate how much they should be worth
3. Staying up to date on news about the industry and economy

Technicals are commonly associated with trading, and typically involves:

1. Learning specific patterns to look out for in price charts (candlestick types, golden/death cross, head-and-shoulders, etc.) which would imply certain price movements
2. Learning and using technical indicators (RSI, MACD, VWAP, etc.) that estimate upwards/downwards pressure on prices

As you can imagine, the two methods are quite mutually exclusive. A pure-fundamentals investor can get by without ever looking at a price chart, whereas a pure-technicals trader can get by without ever knowing what company’s stock they’re trading.

In practice, you’d probably prefer one over the other, but it’s good to have a bit of both. Technicals could help a fundamental investor decide when best to get in/out, and fundamentals could help a technical trader better judge the probability and profitability of a trade.

As you look for learning resources, forums, and online courses, you should be able to immediately tell which school of thought they’re geared towards (it’s always either-or), and thus whether they’re relevant to you.

Intraday vs Swing vs Buy-and-hold

These refer to your time horizon. Intraday traders never hold positions after the market closes, swing traders hold for up to several weeks, and buy-and-hold investors could, well, buy and hold indefinitely. However, these also come with vastly different styles.

Generally speaking, shorter time horizons mean:

1. Making more trades — also incurring more transaction costs
2. Needing more capital — each profit is small, so you need leverage and margin to actually make money
3. Losing more easily and quickly — there’s less time to think through decisions and much more meaningless noise in the market

Trend Following vs Mean Reversion

This difference is more relevant for trading and less pronounced. Trend traders bet that an up or down price movement will persist, and mean reversion traders bet that price will return to a certain average (so any fluctuations are temporary).

In brief, mean reversion says ‘what goes up must come down,’ and trend says ‘what goes up could keep going up and up and up.’

If you become a technical trader, you’ll notice that trend and reversion traders use different patterns/indicators, and experience different profits. That said, there are also indicators that can be used either way — Bollinger Bands, for example, show you when price moves by an ‘abnormal’ amount, but you decide if that means the price will snap back or keep going.

The market’s mostly noise in the short-term, so there’s a higher chance that price remains within a range. However, when a signal emerges from the noise, there could be a defined, prolonged trend. Mean reversion traders typically win more often than not but lose more than they win when it turns out they’re wrong. Trend traders lose more often, but when they get it right, they win big. Whichever style you trade in, the key is to have a positive probability-weighted expectation.

Bonus: Directional vs Non-directional

This gets a little beyond the beginner’s scope, but it is good to know even if you don’t practice it. We usually think of investing/trading as a one-way game: you either bet on prices going up or down. There are two exceptions to this.

The first is the ‘market-neutral’ style, which doesn’t rely on the market going in either direction. The style encompasses several methods; some market-neutral traders are arbitrageurs, who look for mispricing, e.g., merger arbitrage and statistical arbitrage. Some investors are market-neutral because they’ve balanced their portfolio with both long and short positions, which, as a result, has no net influence from broader market directions.

The second is volatility trading. This can be found in the world of options, whose value is determined by both the underlying’s price and volatility. This enables a trader to combine a few options in a way that has no net exposure to changes in the underlying’s price but instead makes a bet on changes in volatility. Vol trading can also be done using VIX ETFs.

A note of caution: non-directional styles are undoubtedly harder to pull off.

4. How do I get going right now?

First, open an account with Interactive Brokers (what I use), or TD Ameritrade, or Fidelity. Why? They’re big, affordable, and cater to a wide range of investors/traders. More information here. Robinhood is fine to start with but isn’t fully-equipped for when you become more advanced, and I personally don’t see the point of trading on your phone.

Second, begin your journey as a passive long-term buy-and-hold stock investor. Go from 0 trades to 1 trade by buying a cheap, diversified ETF like the SPY or QQQ. Learn the basic practices of retail investing: allocation based on your risk profile and portfolio diversification.

Third, learn to be an active buy-and-hold stock investor. Study fundamental analysis basics, how to read financial statements, and how to use ratios (P/E, EV/EBITDA, Debt/Equity). Then, start picking stocks, limiting yourself to long positions only, and high market-cap first. For the most efficient learning experience, study companies in the same industry — fundamentals differ hugely between industries.

Fourth, try your hand at technical swing trading with a demo account. Learn 5–10 basic technical indicators and candlestick patterns. Use them to swing trade; don’t try intraday until you’re a good swing trader (i.e., much much later). Stick with the demo account and just see how you fare. In the meantime, keep your long-term investments on.

Fifth, decide if you want to focus on fundamentals or technicals, and narrow down your time horizon.

• If fundamentals, start doing both long and short stock picking and expand into smaller market caps and more niche industries. Maybe join a forum and learn how to use options (don’t trade options before this point).
• If technicals, master a set of ~5 indicators or patterns, find a dedicated online course or forum, and develop your system. If you’ve been trading stocks, maybe give FX a shot. Start trading small with real money.

Beyond that, chances are you’ll know exactly what you’re doing and not need me anymore.

I want to be a trader. Why should I go to all this trouble? Well, if you made it this far, you’re serious about developing the skill to trade. Anyone who wants to do anything fast must first do it well slow. While investing and trading are not identical skills, passive investing is slow and steady and provides a foundational understanding of assets, markets, and risk that pays dividends (metaphorically).

As I mentioned, a trader has a million methods to choose from, like a programmer has languages, and a footballer has positions. Taking the ‘detour’ will help you narrow down what assets, styles, and time horizons you prefer, saving you from sifting through mountains of ‘get rich quick’ online courses later to find something that works for you.

Resources I find helpful

Investopedia: Essentially, the Bible for all things financial markets. But it’s wordy, and if you prefer audio/video like me, search on Youtube — several channels put out great explanatory videos.

SeekingAlpha: User-contributed platform, a great place to learn fundamental analysis, get trade ideas, and find a community. A lot of intermediate to advanced content, though. There are others like Motley Fool, Tipranks, Benzinga, and even Yahoo Finance, but I think SA has a higher signal-to-BS ratio and rarely tries to bombard me with ‘THE 5 POT STOCKS YOU MUST HAVE RIGHT NOW’, which I can’t say is true for other sites. If it isn’t abundantly clear yet, don’t click on any of those.

Chat with Traders: Podcast features long conversations with all types of traders, great if you want a general ‘sense’ of trading or want to learn more about a specific style. An absolute favorite — if you’re reading this, Aaron, keep it coming.

The Complete TurtleTrader by Michael Covel: A book about the legendary Turtle Traders, the first traders to be taught how to trade as a skill. An excellent introduction to what a trend-following system looks like and an overall enjoyable story.

Market Wizards by Jack Schwager: A series of interviews with famous money managers. Won’t give you a How to Trade 101, but distills principles that are important to long-term success in the markets.

The Black Swan by Nassim Taleb: An accomplished trader’s thoughts about probability and uncertainty in the markets. It helps aspiring traders understand risk and think about trading as an exercise in probability instead of luck.

Crackshort: A free website I built as a personal project, where you can backtest popular technical indicators on stocks to see what works. It may be helpful if you’re learning technicals and want to see them in action for yourself.

Hope you found this useful and wishing you all the best on your money managing journey.