Investing vs. Trading – Different Goals and Risk

I am a long-term investor and hence prefer buy-and-hold investing vs. trading. It works for me since I do not have the time to continuously monitor positions and the market to be a trader. But it is also my mindset that makes me focus on investing vs. trading. Investing is like running a marathon. There is a lot of preparation, and it is a long-term race. The goal is to build wealth over an extended period of time. Trading is more short-term oriented and focuses on the ups and down of the market. During the COVID-19 pandemic trading has become increasingly popular. The goal is to make a profit quickly but there is much more risk. Both approaches are widely followed, and in the debate between investing vs. trading your choice often depends on your tolerance for risk and personal preference.

What is Investing?

What is investing? The goal of investing is to build wealth. Investors will buy and hold stocks with the expectation that the value and stock price will rise over time. You may hold your stocks for years if not decades taking advantage of the power of compounding. Your total future return comes from three sources: the dividend yield, earnings growth, and change in price-to-earnings ratio. It’s a simple formula for total return espoused by John Bogle and it is reasonably accurate for a back of the envelope calculation. There are other considerations too. Investing requires a focus on risk-adjusted returns, diversification, staying fully investing, asset allocation, and keeping turnover low.

The idea here is that you are buying businesses that are undervalued and will generate long-term returns from top and bottom line growth. You can value stocks by P/E ratio, discounted cash flow (DCF), or even the Gordon Growth Model. I use all three. There are also different flavors of investing such dividend growth investing vs. high yield investing.

What is Trading?

What is trading? The goal of trading is to make a profit quickly. Traders will move in and out of stocks quickly often trading on daily, weekly, or monthly share price moves. Your total return is primarily from price volatility. Traders focus on factors like momentum, very low share price, social media buzz (meme stocks), news reports, industry growth, and technical factors over fundamentals. There are different types of traders including position traders, day traders, swing traders, and scalp traders.

In trading, it is usually boom or bust. You are likely betting on a handful of stocks and rapidly entering and exiting positions often based on guesses or gambles. Stock price moves are often not necessarily tied to company fundamentals and in some cases the stock may not even be profitable. Overall, the risk level is much higher for those involved in trading vs. investing. Some traders use leverage which amplifies risk. Stock prices do not always go up and timing makes a difference. 

For example, if you bought GameStop (GME) on January 26^th and sold it on April 21^st then you had a 7% gain. But if you bought GameStop one day later on January 27^th and sold it on April 21^st you had a (-55%) loss. If on the other hand, you bought shares of an S&P 500 index fund, such as SPY, on January 26^th you are up 9% and you are up 12% if you bought on January 27^th. This is a dramatic example of investing vs. trading.

Chart or Table of the Week

Today I highlight Bristol-Myers Squibb (BMY). BMY is a large-cap pharma dividend growth stock. BMY has strengths in oncology and hematology drugs. Top selling drugs include REVLAMID (multiple myeloma), ELIQUIS (cardiovascular), and OPDIVO (oncology). A major risk is that REVLAMID makes up about 29% of total revenue or roughly $12.1 billion in sales and ELIQUIS makes up about 22% of total revenue or $9.2 billion in sales. Both drugs face loss of exclusivity over the next few years. The current dividend yield is about 2.9% and the dividend is reasonably secure with a payout ratio of only 25%. BMY has raised the dividend for 15 consecutive years making the stock a Dividend Contender. The screenshot below is from Stock Rover*.

Source: Stock Rover*

Dividend Increases and Reinstatements

I have created a searchable list of dividend increases and reinstatements. I update this list weekly. You can search for your stocks by company name, ticker, and date.

Dividend Cuts and Suspensions List

I updated my dividend cuts and suspensions list at end of April. The number of companies on the list has risen to 523. We are well over 10% of companies that pay dividends having cut or suspended them since the start of the COVID-19 pandemic.

There were two new companies to add to the list this past month. These two companies were HollyFrontier Corporation (HFC) and AT&T (T).

Market Indices

Dow Jones Industrial Averages (DJIA): 34,478 (-0.80%)

NASDAQ: 14,069 (+1.84%)

S&P 500: 4,247 (+0.41%)

Market Valuation

The S&P 500 is trading at a price-to-earnings ratio of 45.1X and the Schiller P/E Ratio is at about 37.7X. These two metrics are up this past three weeks. Note that the long-term means of these two ratios are 15.9X and 16.8X, respectively. 

I continue to believe that the market is overvalued at this point. I personally view anything over 30X as overvalued based on historical data. Note that we are near or over 40X and valuation levels near the top of the dot-com era.

S&P 500 PE Ratio

Source: multpl.com

Shiller PE Ratio

Source: multpl.com

Stock Market Volatility – CBOE VIX – Investing vs. Trading

The CBOE VIX measuring volatility was down nearly one point this past week to 15.65. The long-term average is approximately 19 to 20.

Source: Google

Fear & Greed Index

I also track the Fear & Greed Index. The index is now in Fear at a value of 54. This is up 6 points this past week.

There are seven indicators in the index. They are Put and Call Options, Junk Bond Demand, Market Momentum, Market Volatility, Stock Price Strength, Stock Price Breadth, and Safe Haven Demand.

Put and Call Options are signaling Extreme Greed. In the last five trading days, put option volume has lagged call option volume by 62.95%. This is amongst the lowest level of put buying in the past two years.

Junk Bond Demand is indicating Greed. Investors are accepting 2.01% yield over investment grade corporate bonds. The spread is down further from recent levels indicating that investors are taking on more risk.

Market Momentum is indicating Greed. The S&P 500 is 7.05% over its 125-day average. This is further above the average than normal over the past 2-years.

Stock Price Breadth is indicating Greed as advancing volume is 10.03% more than declining volume on the NYSE. This indicator is near the upper end of its range over the past two years.

Market Volatility is set at Neutral. The CBOE VIX reading of 15.65 is a neutral reading.

Safe Haven Demand is in Extreme Fear. Stocks have outperformed bonds by 1.87% over the past 20 trading days. This is close to the weakest performance for stocks over the past 2-years as investors move back into bonds.

Stock Price Strength is signaling Extreme Fear. The number of stocks hitting 52-week highs compared to those hitting 52-week lows is at the lower end of its range.

Source: CNN Business

Economic News

The U.S Bureau of Labor Statistics Job Openings and Labor Turnover Survey, or JOLTs reported a record 9.3 million job openings as of the last day of April.  While the job openings rate came in at a record 6%, hires were little changed at 6.1 million. Increases came in accommodation and food services (+349,000), other services (+115,000), and durable goods manufacturing (+78,000). Decreases came in educational services (-23,000) and in mining and logging (-8,000). Payrolls increased by 559,000 in May following a 278,000 improvement in April.  The labor market is still some 7.6 million jobs short of pre-pandemic levels.

The Energy Information Administration reported an inventory decline (excluding those in the Strategic Petroleum Reserve) of 5.2 million barrels for the week ending June 4th to 474M barrels. U.S. crude oil inventories are running about 4% below the five-year average for this time of year. Crude oil refinery inputs averaged 15.9M barrels per day, a 327,000 barrels per day increase over the previous week’s average. Refineries operated at 91.3% of their operable capacity last week. Crude-oil production increased by 200,000 barrels a day from the previous week to 11M barrels per day. Gasoline inventories rose 7M barrels to 241M barrels with an unchanged five-year average for this time of year. Distillates increased by 4.4M barrels to 137.2M barrels and are about 5% below the five-year average. Total commercial petroleum inventories increased by 15.5M barrels last week. Total products supplied over the last four-week period averaged 19M barrels per day, up 16.7% over the same period last year

The U.S. Bureau of Labor Statistics reported consumer prices increased a seasonally adjusted 0.6% in in May. The all items index increased 5.0%, the largest 12-month increase since August 2008. A third of the all items increase is attributed to a 7.3% increase in the index for used cars and trucks, In addition, indexes for household furnishings and operations, new vehicles, airline fares, and apparel all increased. The food index gained 0.4%, up 2.4% over the past 12 months. The index for all items less food and energy rose 0.7% in May after increasing 0.9% in April, the index has increased 3.8% over the past 12 months. The energy index remained unchanged as a decline in the gasoline index was offset by increases in the electricity and natural gas indexes. The energy index is up 28.5% over the last 12-months.