5 Differences Between Day Trading and Investing
Should you day trade or invest? The answer is… it really depends because they are not the same.
A very common misconception I see online and especially on YouTube in the stock market and investing industry is the confusion between day trading and investing. The general consensus is that you should not day trade, but rather just invest, buy and hold, and collect that annual return of 7% to 9% instead.
I know that this statement isn’t completely wrong. It stems from the fact that most day traders lose money and cannot even beat the market. Also, day trading is more stressful. It involves a lot more work versus if you had just bought and held for the long term capital gains and dividends.
As a very active, full time day trader myself, let’s get this straight once and for all. Comparing day trading to investing is a complicated process. To make it easier to understand, we’re going to dive deep into the differences, the similarities, and the percentage of profits from day trading and investing.
General Overview:
Day trading is the act of buying and selling stocks in a single day by taking advantage of the stock’s intraday price fluctuations, or price action. The stock could be moving up and down due to fundamental news, earnings, FDA trials or global political news.
Investing, on the other hand, is the process of committing money to buy assets in the expectation of future appreciation of value with the goal of generating income or selling for a profit.
For example, this could be buying Apple stocks (AAPL) in your portfolio today at $400 thinking that it could become $800 in 3 years or more or buying a home in an up and coming neighborhood thinking that the housing market in the area will increase 20% or 50% in a few years.
Key differences:
1. The holding period of stocks
This is the thing people should take note of between the two methods from the get go. In day trading, you are closing your position within a single day and sometimes in hours, minutes, or even seconds. Yes, seconds, but at the end of the day, the entire account is all cash meaning you have no positions left long or short.
When you’re investing in the stock, however, you are most likely holding the position long for months, years, and sometimes decades.
2. The way you see the stocks or assets you’re holding
If you’re investing in a stock, it’s most likely because you see the value in the business or the sector. You could be investing in Tesla stock because you see the long term potential of electric vehicles. Maybe you think that in the future more cities and countries will move towards gasoline free modes of transportation, and policies will favor these vehicles that are more environmentally friendly.
Therefore, you think valuations of stocks like Tesla or NIO, which are both electric vehicle production companies will rise. You see the big picture, and you think the industry value will double or quadruple in years or decades.
Now, as for day trading, I hate to break it to you; 80% of the time, I have no clue what the company does. Does the company make money? What sector is it in? What's the book ratio? Will it go up 20% in a few years?
As a day trader, all I care about is whether it can go higher than 20% today or if it can move $2 to $3 within a single day. Remember, we are talking about closing all the positions by the end of the trading day at 4pm EST.
Essentially, in day trading, you are treating the stocks that are bought and sold as trading vehicles that are moving rather than because of their potential appreciation in value. We buy the stock because it's moving in an uptrend or breaking out (squeezing to the moon). Another thing day trader’s do is short the stock because we know it's a worthless piece of trash. Most likely, it’s only being pumped up by stock manipulators with some BS news so they can do an offering at the high of the day by dumping it on unsuspecting shareholders who end up bag holding these turds.
Likewise, in day trading, you have more exciting terms too including the ones I just used. Whereas in investing, there’s not much exciting lingo about Apple stock, for example.
It’s important to note that I'm definitely not saying fundamentals only matter in investing, and only technicals matter in day trading. What I'm saying is that, in day trading, we need to know the fundamentals that matter short term, premarket or sometimes the moment the news is announced.
We don't care what the fundamentals do for the valuation in 2 or 3 years, so it’s more important we understand how fundamentals will move the stock price technically, today. In trading, you don't need to be smart, but you do need to be observant and have a sharp response to piecing together information really quickly.
3. Leverage
The third difference between day trading and investing and also the reason why day trading could generate so much more % return in the short term (if done right), is the term leverage.
When investing in real estate, you have the benefits of using borrowed money from the bank to purchase a home. Let’s say you are qualified to buy a $1million home. If you put down a 30% down payment of $300K, the bank lends you the remaining 70%.
You could do the same when investing in stocks too. You can leverage up to 50% in the United States, in fact, so if you have $5K in your investment portfolio, you could get up to $10K worth of buying power to purchase stocks. Keep in mind margin investing has a lot of risks, and it's generally not recommended. I personally do not invest in stocks on margin.
In day trading, however, leveraging your capital is extremely beneficial. You could get up to 3:1, 4:1, or sometimes even 6:1 buying power intraday. That same $5k from before could get $15K to $20K buying power.
As an example, if Tesla(TSLA) is at $1,650 right now, and I'm investing $5K in cash, I could only buy 3 shares of Tesla. However, if I'm day trading Tesla with the intention of buying for the dip and selling it for a quick bounce, I could buy up to 12 shares of TSLA since my broker allows me 4:1 leverage when trading on a margin account.
If I sell my Tesla for a bounce of 50 points, then I made $50/share. On 12 shares, that's $500 return, only using my own $5K of capital. On top of that, margin accounts allow day traders to short sell, which means you profit when the stock is dropping. If you were using a cash account, you cannot short sell though.
While we’re on the topic of leverage for both day trading and investing, it's important to discuss the risk associated with it. It’s important to not over leverage, whether we’re talking real estate investing or day trading.
When used properly, margin buying power allows traders to get more upside return using less capital. That’s how traders can build their accounts quickly. It's not uncommon to see good traders grow their account anywhere from 50%, 100% or even 300% in a month.
At the same time, that also means day trading on margin has a lot more downside. Using the example from before, if Tesla stock goes to 0 hypothetically, which I really hope doesn't happen… not only do I lose the entirety of my account capital of $5K… I will also owe the broker $9,200.
4. Risk
Speaking on the topic of risk, that is the 4th key difference between day trading and investing. Day trading is inherently a riskier practice than investing
It’s not uncommon to hear about beginner traders losing 50% or 100% of their account in 2 or 3 months. Similarly, if you are short selling on margin, you could blow up when a low float stock runs 200-300% against you to the upside.
That's why I’ve always stressed that people should not day trade if they’re not willing to learn by paper trading for a couple of months first, if they’re not going to put in the work outside of market hours to learn steps and backtest their strategies, and if they’re just going to follow some chat room alerts to buy at the high of the day breakout and treat this like gambling,.
5. Time Investment
The 5th key difference, and perhaps the most distinguishing factor between day trading and investing is that day trading is a business. It’s essentially a career just like your normal 9-5 job.
If you’re investing, you can just look at the market once a month, or like I do, once every six months to get a sense of what my investment portfolios are doing. Investing is meant to be a long term plan typically for 10 years or more and usually ties into retirement for most people.
I have my active career income which is day trading. I then take out profits from there and have it deposited automatically into my investments on a monthly basis.
Likewise, from a tax perspective, in both the United States and Canada, day trading income is taxed very differently from investing income because they are not the same. In the United States, day trading is taxed the same way as employment income, whereas long term investment income is taxed more favorably and involves more tax breaks.
It’s the same way in Canada; day trading is considered business income and is 100% subject to the top marginal tax rate, whereas investments qualify for the capital gains tax rate, so only 50% of the investment income is taxable.
Takeaways
I’m definitely not saying day trading is better than investing or the other way around. I'm just here to clarify the big difference. You can definitely do both and even at the same time, like I do. I invest regularly with my day trading income. In fact, many profitable day traders I know are some of the best long term investors, in both the stock market and in real estate.
Day trading is a business that requires a lot of hard work, upfront capital, months to years of studying, and observing price action and market tuition so it’s extremely important to understand that you cannot treat day trading as investing. If you do, you can actually lose a lot of money. For people who don't want a second job and just want a slow, stress free approach to profit from the stock market by collecting that 5-7% annualized return, just invest in safe blue chip stocks like Apple or Johnson and Johnson(JNJ) or index funds for 10 years or more; DO NOT day trade.
Now that you understand the big differences between day trading and investing, you know that day trading is not for everyone, but if you do want to learn more about day trading, I have many beginner friendly videos on my Youtube channel and throughout my website.
