Investing, Trading, Saving – How Are They Different?

saving trading investing horizons

Though they are often used interchangeably, saving, trading, and investing mean completely different things. While it is true that all three activities involve deploying capital into financial markets to extract returns, they serve different purposes and generate returns in very different ways. 

Saving

An infographic that explains what saving is, and the differences between a cd, a money market account, and a savings account

Life is unpredictable, and most people understand the need to have a safety cushion. A safety cushion is necessary to deal with unexpected events that can strain personal finances. Saving involves stowing away cash to meet the financial burden that can arise from these unexpected events. Savings are accessible cash available at a moment’s notice. Sometimes the reason for saving is to accumulate capital for a major purchase such as a vacation.

The primary goal of saving is to have access to near-liquid capital, while the saver is primarily concerned with preserving the cash balance. Consequently, savers will primarily deploy their capital in certificates of deposits, treasury bills, savings accounts, or checking accounts. Unfortunately, these savings will earn little to no interest on the capital but will guarantee its safety and accessibility. 

Trading

An infographic that explains what trading is, and the differences between position trading, swing trading, day trading, and scalp trading

Ever notice how the price of a stock fluctuates over the course of a day? A week? A month? Traders believe that there is a pattern and predictability with which assets such as stocks, currency pairs, etc., fluctuate over short time periods. A trader attempts to profit from this movement by timing their buys and sells and take the difference as profit. By actively monitoring and modeling these fluctuations, the trader can recognize and profit from the emergence of these patterns. There are many different types of traders, but there are three major categories of traders:

Position traders: Position traders identify trends in the prices of securities based on macroeconomic factors and revenue and earnings improvement patterns. Using a combination of fundamental and technical analysis, position traders extrapolate what the performance (and therefore price) of an asset will likely be in the future. Traders take a position (long or short) on the equity today with the intention of profiting in the future. Position traders can hold an asset from months to years. 

Swing traders: Once a market has found equilibrium, it will tend to gravitate to that equilibrium. However, there will be days with price increases and days with price decreases. These oscillations, dubbed swings, tend to be small movements in price. A swing trader’s goal is to attempt to time these swings to take profits. Swing traders typically hold assets for a couple of weeks or less. 

Day traders: Day traders focus on entering and exiting positions within the course of a trading day. Under no circumstances will a day trader carry a position into the next day, regardless of whether they make a profit or a loss. Instead, day traders form their investment thesis based on factors such as:

  • Range trading: This type of trading uses mathematical boundaries to determine bands at which the stock price starts facing pressure to move in the other direction.
  • News-based trading: In the short term, markets are susceptible to news and earnings performance relative to expectations. One form of day trading is to anticipate that reaction and capitalize on it. 
  • Arbitrage: Some instruments trade in multiple venues and there are discrepancies in prices between these venues. For example, a stock may trade at a higher price at one exchange vs. another. This will give an arbitrage trader an opportunity to buy the instrument at the cheaper venue and sell that instrument at the more expensive venue, thereby pocketing the spread. 

Investing:

Infographic that shows the difference between investing and trading

Investors view stocks as pieces of a business. Therefore, they are more interested in investing and holding a piece of a growing business than trading a financial instrument. Investors are looking to profit from the future growth of a business as opposed to traders who are looking to capitalize on the expected movement of the stock. Successful investing requires long-term ownership of the investment (often decades) and a thorough evaluation of the stock’s quality and its price.

Let’s deep dive into both concepts: 

Quality of the asset: Ideally, investors are looking to acquire a durable asset at a good price. In other words, investors are looking for assets that are so germane to consumers’ lives that an increase in population and disposable income will result in an increase in demand for those assets. Apple is an example of a stock that might fit the bill. 

Warren Buffett, a legendary value investor and one of the richest men in the world, explained how he concluded that Coke was a high-quality asset right before it became a mainstay in his portfolio. Buffett’s reasoning stemmed from the fact that it was the dominant player in the non-alcoholic beverages category. In addition, it was well-penetrated across most dining establishments and had iconic branding and a global reach. These high-quality features made it very difficult for a competitor to disrupt Coke’s market share. Hence, Coke is a high-quality asset. 

An investment is a good investment when it is a quality asset with a margin of safety. The margin of safety is the difference between the stock price and the intrinsic value of the stock. There are several financial models to determine the value of the stock. Fortunately, the price of the stock is publicly available.

Once an investor has acquired a durable and well-priced stock, the investor must be patient. The most difficult part of the process is holding on to it for many years.

Investment horizon: The reason for investing and holding the asset for decades is straightforward. Quality businesses will grow in revenues and profitability but need time to do so. A longer time horizon allows investment returns to compound as the company deploys its capital to create more shareholder value. 

An infographic that shows several value investing quotes

Coming Up With a Financial Plan:

An infographic that shows steps on how to build a financial plan: goals, risk, where, how much and current net worth

Asset Class Performance Over Time:

An infographic that explains what an investment horizon is, and the relationship between risk and reward

Other Reading:

The government does a great job of explaining the difference between investing and saving.

Vikram R
Vikram Raghavan is a value investor, technologist, and Finexy co-founder. In addition to stock market investing, Vik also invests and advises startups on growth marketing and product management. Vik's work is focused on themes of marketplaces, micro-entrepreneurship, marketing automation, and user growth. Previously, Vikram led product and growth teams at Overstock.com, focusing on efforts across acquisition, new user experience, churn, and notifications/email. He holds an MBA in Finance from Temple University and a B.S. in Computer Information Systems and Finance from Bemidji State University.