What kind of trader are you?

Before you choose which products to trade or invest in, you need to determine what kind of trader you are as some products will be better suited to you than others.

There are many different styles of trading and investing. Finding the one that works for you, makes the most sense and fits your particular risk profile is a decision that can’t be rushed.

We’ve put together a few questions below that could help you determine what kind of trader you are, and which financial product is right for you.

How much time do you have?

Time is an important factor to consider when deciding what kind of trader you’ll be. Most market participants start with the end in mind and work out what they want to get out of their stock market activities.

Are you looking for long-term returns for your retirement, or do you want to earn an income from active trading? You might be looking for a combination of both.

Whichever way you choose to access the markets, it’s important to understand the instruments you plan to use.

Long-term strategies often include some collective investment scheme products like ETFs or investment portfolios and maybe even individual stocks. If you implement this strategy, you can check in on your portfolio whenever you choose. You can prevent the temptation of cashing in too soon by limiting your check-ins to twice a year.

If you have free time on a daily basis and are after quicker results, you could consider speculating on the markets. There are many markets and products available for you to choose from, but you’ll need to spend much more time monitoring and managing your trades.

Working out how much time you can devote to your wealth-building activities is an important part of your decision-making.

Most days, active traders need to put in six or more hours of screen time, as they enter and exit trades that are typically held for very short periods of time.

If you have a full-time job, you may struggle to balance regular trading as well. You could lose money or even jeopardise your career if you’re splitting your focus between monitoring the markets and working.

If you’re a new trader, you need to learn about the different products available on the market, their associated risk levels, trading styles and how to manage the emotions that come with winning or losing trades. This can also be time consuming.

Which trading style would best suit you?

Based on the time you can commit to your wealth-building activities, you’ll need to find a trading style that suits you. Could you be a day or a swing trader? Or are you better suited to scalping or contrarian trading?

Users of each will claim their style is the best and most profitable, but you may want to base your choice on what makes sense to you and what you can implement. Your trading style will also help you decide which product to use. Let’s dig into the details of each to start the process of finding the right product for you.

Day traders usually enter and exit markets quickly, sometimes opting to use high leverage. The major appeal of this practice is that you may avoid adverse market movements that occur overnight by closing all positions at the end of the day.

They hold positions for anything from 30 minutes to several hours, always closing before the day is over.

This style of trading may be seen as a full-time job. It requires dedication and many hours in front of the screen. Day traders normally use highly leveraged products with high liquidity so they can buy and sell assets quickly.

Scalpers

Scalpers take extremely short-term positions and benefit from small market movements. This type of trader often holds positions for just a few seconds or minutes. It also requires a lot of time in front of the screen every day.

If you’re using this strategy, you can really lean into leverage because of how briefly the trades are held. Options, especially barrier options, can be a great product for this trader, although CFDs and spread bets can also work very well.

Swing traders

A swing trader usually holds positions for longer than a scalper. When using this approach, you can get away with monitoring your trades for just a few hours a day. Traders like these are aiming to make a profit from price swings and typically spend time looking for the market trends that can predict these movements.

If you plan to hold on to trades for longer periods, leveraged products such as futures can work well but they’re more complex.

Momentum traders

On the extreme end, a momentum trader could hold positions for weeks, months or years if the trade continues to realise a profit. This type of trader takes a position in the market based on the strength of recent price trends for an asset.

Momentum traders look for stocks that display breakouts on their charts which may lead to a quicker rise or fall in the market price.

If you apply this as your trading style and view charts over longer time periods, like weekly charts, a few hours a week could be enough.

Position traders

This kind of trader also holds positions for several weeks or months, focusing on long-term price movements. Position traders may focus their attention on markets and assets with stronger trends and less volatility.

If you choose to apply this trading style, you may want to monitor charts over longer time periods as well.

Here’s a quick exercise to check if you understand which products suit different trading styles:

There’s no right or wrong choice when it comes to your trading style. The amount of time you have to manage your trading will help define what works for you.

Everybody can be successful. A full-time day trader can make great profits while a momentum trader using weekly charts can be just as profitable. You need to decide which suits your personal circumstances.

Keep in mind though that trading, especially with leveraged products, can result in losses. Some of them may even be greater than your initial outlay.

How much money do you have?

To get started as a trader, you may need to have a fair amount of free capital at your disposal. You might want to consider using funds that are over and above what you use to pay for your expenses and put toward your savings.

The stark reality is that many traders will likely lose money when they start. It could even happen more than once and is part of the difficult (and potentially expensive) learning curve of becoming a trader.

If you put all your investing budget into trading and lose it, you could be left with nothing. Using smaller amounts to trade protects your long-term financial wellbeing from the volatility of the market.

Leverage can result in high losses, but traders take on this risk because success also offers potentially superior returns. While the total amount of capital you use to speculate on the markets may be small overall, the returns can be significant.

Only once you get better at trading and are consistently profitable might you consider increasing how much you dedicate to speculation. This is where understanding your risk appetite becomes very important.

Many active traders also hold long-term portfolios where most of their wealth is invested. A strategy some traders use is to keep at least half of their investments in broad-based, market-tracking products like ETFs and investment portfolios.

However, the question remains – are you financially and emotionally prepared for a drawdown that could wipe out more than half of your capital?

What is drawdown?

Drawdown is when you have a string of losing trades or investments that dent your capital. This happens to many traders, often multiple times, over the course of their trading career.

While long-term investors can often hold out against drawdown from falling markets, traders need the discipline to exit losing trades quickly. Having a pool of capital that can withstand eventual drawdowns can be helpful.

Let’s use an example to illustrate this. Say you have a trading portfolio of £10,000. You lose £500 on six of your trades – £3000 in total. Your portfolio is now only worth £7000. This indicates a 30% drawdown.

Here’s a quick exercise to check your understanding:

Your trading style, risk tolerance and product selection will determine how large of a drawdown you could expect. A trader using aggressive leverage of say 20% could potentially see drawdowns as high as 50%, whereas a trader using unleveraged shares might expect a smaller drawdown that could be as low as 10%.

If you’re uncomfortable with the idea of losing so much of your capital, you may want to focus on your long-term investments instead. You can also practise your trading strategies with our demo account until you feel more comfortable and confident.