Active trading is an investment style that boasts the possibility of beating or outperforming the market. It’s a very lucrative trading style, but it also has its pitfalls.
Explaining Active Trading
Understanding active trading will be easier if it is differentiated from the classic buy-and-hold investing style.
Buy-and-hold investing style is based on the belief that an inherently good investment will become profitable in the longer term.
What that means for investors is that they must ignore the daily fluctuations of prices and markets. Using the buy-and-hold strategy, the investor doesn’t care about the short-term for the following reasons:
- The investor believes that any of the momentary effects of short-term fluctuations are insignificant when compared to the longer-term movement average.
- The investor also believes that the short-term movements of prices are nearly impossible to predict and foresee.
What about an Active Trader?
On the flipside, an active trader doesn’t like exposing his or her investments to the risks of short-term losses as well as missing out on short-term gains.
For active traders, outperforming the market isn’t really special. Rather, it’s an ordinary expectation, one may say a daily goal.
To beat or outperform the market, the active trader looks into the chance of profiting from the market’s temporary trends.
That means perceiving a temporary trend as it starts and predicting where it will go in the near future or short term.
Active traders have a magnified view of the importance of short-term trends. For them, such market movements provide a lot of opportunity for faster capital gains.
A trader’s styles dictate in which timeframe he or she will try to find trends. A lot of investors look for trends within a span of a few months, while others choose to look for trends in weekly or daily or even hourly market movements.
Since a shorter timeframe typically shows more pronounced market movements, a trader using a shorter-time frame will have to be more active. In other words, he or she will have to execute more trades.
Trying to determine and track trends isn’t a walk in the park. You have to use analytical tools that will make it easier for you to spot where a trend may start and where it may end.
Technical analysis specializes in interpreting price trends, showing the best time to buy and sell a security, and showing the best time to exit the market through the use of charts.
Contrary to fundamental analysis, technical analysis puts more emphasis on prices. As such, technical analysts follow these principles:
- More often than not, the current price of a stock already reflects the forces that are influencing it. These forces may be political, social, or economic changes. At the same time, the price also shows the people’s perception of the events.
- Prices usually move in alignment to a certain trend.
- History tend to repeat itself.
Putting these principles together gives birth to a complex trading discipline that uses specialized indicators that help the active investor to know what will happen in the future.
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