Virtually everyone, at least in the developed world, knows at least that the stock market exists, and many make investments therein, with the hopes of making a profit. To be able to do so, however, requires extensive knowledge of how the market works. In this article, we will describe the three kinds of market trading strategies, stock trading basics — what they are and which one works for which market goals.
A brief history
It is hard to believe, but the stock exchange as we know it today is a result of Columbus’s rediscovery of the New World. European businessmen saw that there were vast profits to be made in these new lands, but the amount of money needed to start up was more than any one person could make, so people pooled their funds. The first stock exchange was founded in Antwerp in 1531.
The three basic types of trading strategies
Stock trading strategies fall into several types — market making, trend following, trading the news, arbitrage, trend following and so on — but they can all be grouped into three basic types. These are:
- trend following
- trend fading
Each has its own basis and its own advantages in different areas, as the following subsections will indicate.
The trend follower bases his investment decisions by analyzing, not the fundamental strength of the businesses, but rather the market prices and use the information thus gathered to take advantage of those moves, either long-, medium- or short-term, that seem to pay out the best rewards. This involves, specifically, a technical analysis — that is, you analyze the market by charting how it performs over time and focus on trends. A large part of such analysis requires the use of computer models to determine the general direction in which the market is moving.
Because they aim to invest in markets that have been performing best, trend followers naturally do not enter the market until after the trend has established itself “properly.” They leave the market if the trend reverses itself. Stock trader Van Tharp talked about trend following in his book Trade Your Way to Financial Freedom.
Trend fading, on the other hand, involves trading against current trends. This is naturally more risk, and so you should not use this strategy unless you have high risk tolerance. The short-term gains are potentially very great and no complex analysis is required.
The word scalping, when used in business, has at least three meanings, one of which implies fraud. Legitimate scalping means attempting to earn many profits on small changes in prices. Such traders choose this strategy because it is easier to track small changes than large ones.
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