Who is a Trader and What Do They Do?
A trader is someone who actively and continuously trades in the forex market. Traders aim to profit from short term fluctuations in currency prices and financial assets in the market. They typically make decisions using technical analysis tools such as price charts, indicators, candlestick patterns, and support and resistance levels. Their trading time frames can vary from a few minutes to several hours, depending on their trading strategy (e.g., scalping or day trading). This group of market participants requires high technical knowledge, quick decision making, and strong trading psychology.
Who is an Investor and What Do They Do?
In contrast, investors enter the forex market with a long term outlook. They seek to buy currencies or assets that will grow over time and provide stable and reliable returns. Investors pay more attention to fundamental analysis and consider economic and political factors such as interest rates, economic growth, and central bank policies in their decision making.
Strategic Differences Between Traders and Investors
You can almost guess that, given the nature of their trading activities, these two groups of forex market participants have many strategic differences. For example, traders’ trading strategies rely on technical analysis and market indicators, enabling them to enter multiple trades throughout the day.
Similarly, forex investors base most of their strategies on fundamental analysis, economic and political news, and changes in central bank policies such as interest rates, economic growth, and more. Unlike traders, forex investors prefer to engage in safer investments with lower volatility and risk, which significantly reduces the number of their trades compared to forex traders.
Differences in Time Frames Between Traders and Investors
One of the most prominent differences between traders and investors in the forex market relates to the time horizon each considers for their trades. Below, we examine this difference by focusing on the time horizon in the trading approaches of traders and investors, with real examples from the forex market.
Time Horizon Differences in Traders’ Trades
Traders are usually individuals who enter the market with a short term, sometimes momentary, perspective. They try to take advantage of minor and rapid price fluctuations in currencies. Typically, traders are categorized into groups such as scalpers, day traders, and swing traders.
For example, a scalper might execute dozens of trades in a single day on a currency pair like EUR/USD, aiming to gain just a few pips in each trade. This type of trader exploits small fluctuations caused by economic news or changes in supply and demand and often uses high leverage to multiply small profits.
Traders like Richard Dennis, known as the “Turtle Trader” and a pioneer of trend following, executed hundreds of trades daily and is considered one of the most successful day traders in financial markets. In forex, individuals like him operate with high focus, quick decision making, and strong risk management, expecting to achieve returns within a short timeframe.
However, this style requires constant market monitoring, experience, and advanced technical analysis. Traders must always stay updated on urgent economic news and price changes and be able to decide within seconds whether to enter or exit a trade.
Time Horizon Differences in Investors’ Trades
In contrast, investors in the forex market enter trades with a longer term outlook. They usually buy or hold currencies based on fundamental analysis and the macroeconomic conditions of countries. Instead of following momentary fluctuations, they focus on long term economic trends and financial stability of countries.
For example, if an investor realizes that the U.S. economy is experiencing stable growth and interest rates are rising, they might decide to hold the U.S. dollar against other currencies for months or even years. They expect the dollar’s value to increase in the long term and profit from this growth.
A real life example of this style is Warren Buffett. Although he is mostly active in the stock market, his investment philosophy also applies to forex: buying assets with strong fundamental value and holding them for a long time. In forex, large financial institutions and central banks sometimes act with a similar perspective. For instance, long term investment funds often invest in currencies like USD/INR or USD/ZAR based on emerging countries’ economic growth.
This investment style suits individuals who have patience, are not afraid of momentary volRisk Management Strategies in Trading and Investing
It is important to understand that risk is an inherent principle in both methods in the forex market, but the way risk is managed differs broadly between traders and investors.
Risk Management Strategies in Trading and Investing
It is important to understand that risk is an inherent principle in both methods in the forex market, but the way risk is managed differs broadly between traders and investors.
Risk Management Strategies for Traders in Forex
Traders usually use higher risk tools such as leverage to increase returns in short term trades. Leverage allows them to open larger trading positions with less capital and profit significantly from small price fluctuations. However, this potential profit comes with a significantly increased risk of loss. Therefore, risk management in trading is not only essential but also a critical factor for a trader’s long term survival in the market.
Key risk management tools for traders include setting stop loss orders to automatically exit losing trades, adjusting position sizing relative to total capital, and adhering to a consistent trading strategy. For example, a professional trader trading currency pairs like GBP/USD or USD/JPY might risk only a small percentage of their capital in each trade so that a series of consecutive losses does not wipe out their total capital.
Failing to follow these principles can quickly lead to the loss of a large portion of capital, and more importantly, the psychological and emotional effects of heavy losses can severely undermine a trader’s decision making and confidence for future trades.
Risk Management Strategies for Investors in Forex
Investors typically either do not use leverage or use it at much lower ratios than what is seen in trading. The reason for this approach is that investors prefer to control their risk over longer timeframes and avoid severe market volatility. Limited or no use of leverage allows them to avoid margin calls and liquidation pressures during market crises.
Additionally, investors employ more conservative risk management strategies such as diversification of their asset portfolio. For example, a long term investor might diversify their portfolio with several different currency pairs like EUR/USD, AUD/JPY, and USD/ZAR to reduce dependence on the performance of any single currency. They might also allocate part of their assets to more stable financial instruments such as bonds or emerging market investment funds to reduce overall portfolio volatility.
How Do Investors and Traders Affect Each Other in Forex?
Understanding the interaction between investors and traders in the forex market helps us better comprehend how these two groups collectively shape the market structure. In fact, investors and traders play complementary roles, and their activities contribute to market liquidity, price direction, and market stability or volatility.
The Impact of Traders on Investors
Traders, by executing multiple trades over short timeframes, increase market liquidity. This helps investors enter or exit their trading positions with ease. Additionally, the price fluctuations caused by traders’ reactions to news or economic data can create opportunities for investors to enter or exit the market.
Example: If traders quickly buy the dollar in response to an interest rate hike by the U.S. Federal Reserve (FOMC), strengthening the currency, investors may then decide to take a long term position on the dollar, seeing this strengthening as a potentially sustainable trend.
The Impact of Investors on Traders
Investors, especially influential entities such as hedge funds or central banks can create large and sustained price trends with their high volume, long term outlook. Traders analyze investor behavior and look for signs of their entry or exit to try to profit from these trends in the short term.
Example: When investors begin continuously buying the Australian dollar (AUD) due to a positive economic outlook with a long term investment strategy, this upward trend may continue for weeks or months. Traders use this sustained investor driven trend as an opportunity to trade in the direction of the trend.