The foreign exchange market, or forex, and the stock market are trading platforms where investors make or lose money based on changing prices. On the forex market, you buy and sell foreign currencies. When you trade on the stock exchange, you buy and sell shares of a company’s stock. There are benefits and drawbacks to investing and trading forex or stocks, but which one is better for you?
Whether forex or stocks are better depends on your investment goals, the amount of risk you want to take, how much money you want to invest, and your investment style. If you are looking for a highly liquid market easy to access, and the potential for quick returns, forex may be a good fit. Investors seeking high returns, capital growth, and building a diversified portfolio may find stocks better.
When deciding whether forex or stocks are better for you, consider what your ultimate investment goals are. How much risk would you be comfortable taking on? Do you seek long-term growth or to make a quick return? How much time can you dedicate to invest in trading? This article breaks down the answers to these questions and gives more insight into whether trading in forex or stocks is better.
How Are Forex and Stocks Similar?
Whether you invest in forex or stocks, the underlying goal is to make money based on changing prices. In both the forex and stock markets, traders risk losing money if prices fall, and they ultimately paid more for something than what it’s currently valued at.
Regardless of whether you trade forex or stocks, you should understand how each market works before investing. Traders typically spend time researching and reading technical analysis before investing in either market.
How Are the Forex and Stocks Different?
There are some vast differences between forex and stocks. The forex market is based on the changing prices between two foreign currencies. Fluctuations in currency prices are typically influenced by global factors such as global economic conditions or interest rates.
Although stock prices can also be impacted by changing economic conditions, they frequently fluctuate based on the company’s performance or changes in the industry.
There are other notable differences between the forex and stocks, as well as the markets that they trade on, as noted below.
Is it Easier to Trade on the Forex or Stock Market?
Since the forex market is based on global currencies, it is accessible 24 hours a day, five days a week. Trading on the forex is typically done “over-the-counter,” which means trades aren’t conducted on a formal exchange, like what you’ll find in the stock market. Instead, they can occur directly between a buyer and a seller unless you decide to go through a broker.
Stocks are traded on a central exchange, such as the New York Stock Exchange, the NASDAQ Stock Market, and the London Stock Exchange. A stock can trade on more than one exchange; however, the company must meet the exchange’s requirements to list the stock for sale. While you may buy and sell stocks on a less formal over-the-counter exchange, stock trades are typically made through a broker.
In contrast to the forex, trading on the stock market is limited to business hours, five days a week.
Do I Need More Money to Start Investing in the Forex or Stock Market?
The forex is attractive to some traders because you can start trading with a lesser investment than what you need to buy and sell stocks.
Starting with a lower cash investment on the forex market is possible through leverage. This allows you to control a larger purchase without having to come out of pocket for it.
Leverage is viewed as a ratio, such as 100:1. This means that for every $1 you put in, you can invest $100. A lower ratio, like 2:1, means that for every $1 you put in, you have $2 to use for your trade. Essentially, leverage allows you to borrow the difference between what you put in to let you make larger trade. This helps to amplify your profit or loss.
Forex trades have higher leverage ratios than stock trades. This allows you to start with a lower investment on the forex.
How Does Leverage Work, and is it Better on the Forex or Stock Market?
Leverage lets you expand the purchasing ability of your cash investment. Using the forex market to illustrate, suppose you want to buy one lot, or 100,000 units, of currency. If you calculate this based on the US dollar, you will need $100,000 to make this investment. If you can leverage this investment at 100:1, this means you only need $1,000 of cash in your account to make a $100,000 purchase.
Leverage allows you to expand your investment and ultimately make, or lose, more money.
Using the example above, let’s say you leveraged your $100,000 purchase and made a $500 profit. That means you just made $500 on the $1,000 cash in your account. That comes out to a 50% return on your investment.
But if you decided not to leverage the investment and, instead, used cash to purchase the entire amount, you made a $500 profit on a $100,000 investment. That .5% return.
Leverage can also work the other way. If you leveraged your $100,000 purchase and it drops by $500, you would have lost 50% of the $1,000 of cash in your account.
Stock trades typically operate at 2:1 leverage. This means you must have 50% of the value of the stock you want to purchase in your account. Forex transactions have higher leverage ratios, typically around 50:1. You would need to have 2% of the value in your account.
This vast difference in leverage ratio typically makes forex transactions more appealing to traders.
Is the Forex or Stock Market More Volatile?
Volatility refers to the level of price changes. High volatility happens when prices change rapidly or rise or fall dramatically. Low volatility refers to prices that vary gradually, if at all.
Traditionally, forex markets have lower volatility as currency prices tend to be more stable. However, changing economic conditions, political unrest, or global trends can cause a volatile forex market.
The stock market typically experiences higher volatility. Price changes may result from changing economic conditions and be influenced by a company’s operations or other investors’ activity.
A trader can make money in a highly volatile market if they can take advantage of the wide price swings. Yet, traders can also lose money if their investment drops significantly in value.
Both markets pose a risk to traders. The forex and stock market have vastly different investment options.
Is it Riskier to Trade on the Forex or Stock Market?
There is always a risk when trading on either the forex or stock market. When you invest money based on making a profit on price changes, there is still a chance it may not go the way you hoped.
The forex is traditionally considered to be less risky of the two markets. There are several reasons for this:
- Currency prices are typically less volatile, which makes them less risky. While the profits may not be as significant as they would be in a more volatile market, the losses are less as well.
- Currency is typically held for a short period, spanning from hours to a few days. This fast turnover allows investors to take advantage of quick jumps in the prices. It also limits the trader’s exposure to pricing changes that happen over a more extended period.
- A trader typically limits their investment on a single trade to 1% of their total investment. This helps to minimize loss.
However, there are instances where the forex may pose risks to traders:
- Less regulation: When compared to the stock market, the forex is less regulated. Less regulation may mean fewer protections in place for traders. This can pose a risk to a trader as they don’t have the assurance that they are getting a favorable rate for their trade since the transaction is directly between the buyer and seller.
- External forces: The currency market is susceptible to changes due to outside influences. The changing political landscape or economic conditions play a large role in currency values.
Between forex and stocks, there is typically a more significant risk when trading on the stock market. The following risks are common with stocks:
- Higher volatility: A previously mentioned, a company’s stock prices can be impacted by their earnings, reputation, and even the volume of their trading. If the company’s earnings drop in a quarter, so may their stock price. Other factors, such as being awarded a new contract, introducing a new product, losing a favorable vendor relationship, or even a story by the media, may impact their stock price.
- The level of trading may also impact stock prices. If large blocks of the company’s stock are sold, it can drive down their stock price.
- Insider trading: When investors act on first-hand knowledge about a company’s activities to make a stock trade to their advantage, this is known as insider trading. First-hand knowledge may be knowing the company’s financial position before it is reported to the public. It may also mean knowing about a confidential event, such as a new product launch or a lawsuit, and acting on that information to make a trade.
- Market crash: When the stock market experiences a severe drop in prices, this can cause stock values to decline rapidly. An extreme drop in prices may happen in times of economic crises, a significant event or disaster, or high speculation by investors. Traders can also add to the impact of a market crash if they panic and sell their shares.
- When the market crashes, the value of your stock can drop significantly. There is a risk that you may lose a large part, if not all, of your investment if the market crashes.
There are risks to trading in stocks, but there are some ways to limit them as well:
- Diversify your portfolio: Spreading your stock trades across different industries can help your investments retain their value. If one sector is impacted by a specific event, such as a new regulation that causes its stock prices to drop, most likely, the stock you hold in other industries won’t be impacted.
- Regulation: Companies that trade on the stock market must meet stringent rules to offer their stock on the exchange. Such agencies also monitor these companies as the US Securities Exchange Commission (SEC), which protects investors who buy their stock.
Do I Pay More Fees When Trading on the Forex or Stock Market?
One of the appealing aspects of trading on the forex is the low transaction fees and commissions. Brokers may charge a flat fee or a low percentage of the transaction.
When trading stocks, you may be charged a higher fee based on the riskiness or type of investment. Other brokers may charge lower commissions and transaction fees, but that depends on your agreement with them.
Does the Forex or Stock Market Have More Investment Choices?
The forex and stock market have vastly different investment options: The forex market trades in currency pairs, where one is dependent on the other. A trader makes money based on the change in value from one currency to another. There are typically 18 currency pairs that are traded regularly. While you should be well-versed in the currency activity for both countries in your pair, the limited number allows you to keep your research focus narrow.
On the other hand, there are thousands of stocks listed on an exchange. Investors have far more options available on the stock market. This may be appealing to investors who prefer to diversify their holdings. Investing in different industries helps manage the risk of your stocks dropping in value due to changes in the industry itself.
However, if you like the simplicity of a limited number of options, the forex may be the better choice for you.
Does Liquidity Matter When Trading on the Forex or Stock Market?
Liquidity refers to how quickly your investment can be converted to cash. Investments in CD or real estate may rise in value, but it can be difficult to convert these investments to cash if you need it quickly.
Forex markets are highly liquid because they trade currencies. If you need access to your cash, it’s easy to do when you trade on the forex.
The stock market can be highly liquid as well, depending on which investments you choose to make. If you invest in a well-known stock that trades on a larger exchange, it is easier to pull your cash out if needed because it can be easily sold.
However, if you purchase stock over the counter in a smaller market, there may be less demand. So, it may take a while to find a buyer for your stock and convert it to cash.
Which Investment Style is Better for the Forex and Stock Market?
When you trade on the forex, you are looking to profit by buying and selling currency, not by holding onto your investment. This often requires you to make frequent trades to make money. Since traders typically take advantage of short-term currency price changes, which can happen over a few hours or days, trading activity will be far more frequent.
The stock market works differently. While you are trying to profit on the change prices, buying and selling may be far less frequent. Your investment strategy may also be to purchase stocks as part of a portfolio that can be held for an extended period.
If you intend to trade regularly and have the time to do so, the forex market may be the right fit. However, if you don’t have the time to dedicate to frequent trades or wish to hold on to your investments longer, the stock market may be a better choice.
Deciding whether forex or stocks are better for you depends on your investment goals, trading style, how much risk you are willing to take, and how much money you can invest.
If you are comfortable taking on a higher risk for a greater reward, plan to build up an investment portfolio, and have the capital to invest, the stock market may be the better choice. On the other hand, if you are merely looking to participate in the market to make money but want to keep your risk lower and have limited funds to invest, the forex may be the better choice.
Whether you decide to try investing in forex or stocks, you must understand how the market works and what drives its changes. If you plan to invest in forex, take the time to research the currency for the countries you plan to trade in. Should you go with stocks as your investment, be sure to read up on the company’s activities and financial reports. This can help you limit the risk you take and hold on to the money you’ve invested.