Forex vs Stocks
Which is better for traders?
Forex trading has been around for 20 years, but it's still relatively new compared to stock trading which has been around for over 200 years.
But while the top 25 stock exchanges around the world sees a total trade volume of $317 billion a day⁽¹⁾, the foreign exchange market sees over $2 trillion⁽²⁾ in spot transactions alone (not including derivatives like futures and options). The currency market is much, much bigger than the equity market.
For most retail traders (like you and me), the currency market has many advantages over the stock market, few just a few disadvantages. Let's take a look at them now.
Stock exchanges are only open for about 7.5 hours on weekdays.
The Forex market is open 24 hours a day and doesn't close until the weekend. With three main trading sessions (Tokyo, London and New York), you can be active at any time that suits your schedule.
Brokerage Commissions and Fees
Stock brokers typically:
- Charge much more in commission fees than Forex brokers, and
- Favor big traders over small traders
For example, the minimum stock trade commission might be a flat $20. This means that even if you just want to buy 1 unit of stock, you still have to pay the full $20 fee.
Meanwhile, a currency trade of similar volume would cost around $5, and the commission is scaled accordingly to the size of your trade. If you wish to trade a smaller lot size, the commission fee would be proportionately reduced.
What's more, many Forex brokers now offer commission-free accounts that only charge a spread fee. Depending on your trading approach, this may allow you to eliminate a large portion of your trading expenses.
Perhaps the biggest benefit of Forex over stocks is the amount of financial leverage you can get on your account.
With most equities or securities brokers, the highest leverage you can get is 2:1 or 3:1. With stock CFDs you may be able to get up to 20:1.
With a Forex broker however, you can typically get leverage of up to 100:1, or even 500:1 in some countries. The more leverage you have access to, the more options you have. (See: Leverage explained)
To be an effective stock trader you'll likely need to work with a $25,000 account or larger. This is because of higher margin requirement, at 100% or 50% of the notional trade volume.
As a foreign exchange trader, you can get the same buying power with just $5,000 of capital, as the margin requirement is 5% or often even less. This means that it is much cheaper to get started, and mistakes are less costly when practising on a live account, which is advantageous for beginners.
There is no such restriction for currencies; You can execute sell trades any time, and as often as you'd like. The lack of short-selling limitations gives currency traders much more operative flexbility.
Since the market capitalisation of a publicly traded stock is relatively small, its price can be heavily influenced - or even manipulated - by big money investors and fund managers. If a company is valued at $300 million for example, a $100 million investment fund can easily manipulate its price.
Compare this to the currency markets, where liquidity is so deep that it takes hundreds of millions of dollars to nudge prices by a few points (pips). This is a market that is much less susceptible manipulation.
Another point to consider, is that information asymmetry is much more prevalent in the equity market. Before a company announcement for example, there will already be teams of people who have access to the announcement information.
While insider trading is illegal, it's very difficult to prove and quite easily disguised. Equity traders are thus subject to another such source of unfairness that do not affect Forex traders quite as much.
Centralised Exchange vs OTC
Since stocks are traded over a centralised exchange (for example the NYSE and Nasdaq), all pricing information is transparent and consistent. The price feed you see on the trading platform is the same one that everyone sees.
This is not the case in the Forex market, which is traded over-the-counter (OTC). Each broker functions as a "mini exchange" so you will occassionally see slight pricing differences across brokers for the same instrument/symbol.
Thankfully, this is not much of a problem because there is financial incentive for Forex brokers to reduce such discrepancies as much as possible.
A limit order guarantees your trade is executed at the exact price you specify. If your order cannot be filled at the price you want, it will not be executed. This is how limit orders work in a stock exchange.
In the currency trading however, limit orders work differently. They do not guarantee your order is executed at the exact price you specify. When a limit order is triggered, it immediately becomes a market order and your trade will be filled at the best available price at that moment. This is a small but, potentially significant difference.
To learn more about the different types of trade orders, check out this page.
1x - 20x
20x - 500x
Centralised exchange vs OTC
When comparing Forex vs Stocks, the former:
- Allows one to start with less capital
- Costs less
- Is more flexible and provides the trader with more options
However, these benefits comes at the "cost" of:
- Slight pricing differences among brokers and
- The inability to use exact limit orders
In my opinion, these downsides are insigificant and do not materially affect the vast majority of traders. For most people therefore, Forex is overwhelmingly the better option.