Which markets should I trade? A deeper look at financial markets asset classes

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If you are a newbie to world of financial markets and trading, then you may have already become overwhelmed by the wide variety of different markets offered by the Forex and CFD broker within various asset classes and sectors. Even if you have been trading for some time you may have found it difficult to focus and decide which areas to concentrate your analysis and precious time on. Even after deciding on which asset class to look at, it is then necessary to decide which individual financial market instruments or assets to trade, within the differing asset classes. You can get a better understanding of the asset classes that are available to trade with our video guide to asset classes.

In this article we aim to guide you towards asset classes that may better suit your trading style, your personal circumstances, your psychological profile, with an end to hopefully helping improve your trading strategy and results, to ultimately increase your profits.

Asset classes in the financial markets

With Contract for Difference (CFD) trading there are five main asset classes that are available to the trader.

  • Forex
  • Individual stocks
  • Stock averages (or indices)
  • Bonds
  • Commodities

Forex trading has become very popular throughout the 21st-century since the growth of Forex and CFD brokers, as well as spread betting in the UK (see our article on the similarities and differences between Forex, CFD and spread betting trading). We have a separate article on the choices open to the Forex trader focusing on currencies, Which Forex Markets Should I trade?

Individual investors have been looking at and investing in stock or share markets for centuries, back into the 18th century and at the stock indices from the early 20th century. It is really into the 21st century, however, with the advent of CFD trading and CFD brokers, that it is now possible for the individual to trade stocks and shares and stock market averages on a short-term trading basis, not just to invest. You can better understand the main differences between trading and investing with our video guide.

Bond markets can seem confusing to the new trader, but many of us invest in bonds even though we don’t realise it, via pensions schemes. However, just because we do not understand a market now, does not mean we should not investigate it. Bond markets are very popular with professional, short-term and day traders and can be an attractive way to trade.

Commodities in a very basic sense are the raw materials that go to make many of the goods we buy and use. They also include the raw inputs, like oil, that go to produce the energy we use. In many ways, commodities made up the very earliest financial markets and are still a source of price movements, that the trader can benefit from.

Currency trading (Foreign Exchange, FX, Currencies)

Much of the growth of short-term trading throughout the 20th century via CFD trading platforms has been driven by the popularity of currency trading. Given this popularity and the fact that many traders just want to trade Forex, we have dedicated a completely separate article on currency trading.

Stock Market – Individual stocks

Investing in specific stocks by individual investors has been prevalent for centuries with a growing prevalence amongst the general public since the liberalisation of financial markets in the latter part of the 20th century.

stocks trading

Stocks or shares that are tradable are a part ownership of a public listed company. Although the investor may look to benefit from both the rise in a stock price and the potential dividend from a stock, a shorter term CFD trader would look to benefit from a capital gain from either selling or buying a stock and looking for it to fall or rise in price respectively. They do not look for an income from a dividend, as these are not paid on CFDs.

So how can we go about deciding on which individual stocks or shares we want to buy or sell, to be long or short of? There are three major approaches a trader could employ in their analysis; fundamental microeconomic analysis, fundamental macroeconomic analysis and technical analysis. For a little more details on these types of analysis, see our video guide on Fundamental vs. Technical Analysis.

  • A microeconomic approach to individual stock analysis requires an ability to understand the financial information published by the individual company. For some traders this may be as little as knowing when the quarterly earnings are due to be released and what the very top line numbers are due to be. For other stock traders and investors this could amount to a far more detailed examination of the financial statement, looking into details in the balance sheet, income and cash flow statements. Depending on your personality, your knowledge of accounts and accounting, and the type of trader or investor you are, this type of analysis could have varying appeal and importance.
  • From a macroeconomic basis, stock traders will need to acquire a solid understanding of the macroeconomic factors that could impact on the stock. The trader will need to appreciate those factors impacting the domestic and the global economy, research upcoming and previous macroeconomic data. In addition, they will need to understand the Central Banks position, are they going to change interest rates at an upcoming meeting, are the minutes from a prior Central Bank meeting going to be released soon, are Central Bank speakers due to speak? In addition, a firm appreciation of bigger picture, global geopolitical risks are also important for the individual stock trader.
  • The final approach is technical analysis (or charting), which is deciding on the future market direction by analysing the price chart. Take a look at our video Introduction to Technical Analysis and further specific videos and articles here on technical analysis and in our Educational Videos The trader can apply whatever technical analysis tools and studies that fits their own strategy to the individual stock chart.

The next piece of advice for stock trading would be to trade what you know! The individual stock trader should think about trading stocks from the country they have good knowledge of, an industry they are familiar with and maybe a stock and company they know well. If you are in the UK, maybe start with looking at the large UK stocks. Maybe you work in the retail sector and have a good knowledge of this area, then concentrate your efforts here. Perhaps you are a fan of Apple products and feel you have a good understanding of their goods and the needs of their customers, then maybe trading Apple stocks is for you.

Stock indices (or averages) in the stock market

stock indices

What are stock indices? They are simply a way of reflecting the strength or weakness of a group of stocks, usually (but not solely) based around an economy. So, for example, the FTSE 100 is a representation of the strength or weakness of the UK stock market and in turn reflects the health of the UK corporate economy, representing the 100 largest stock on the London Stock Exchange.

As with individual share trading, stock index traders need a firm understanding of macroeconomic influences that could impact the economy that the index reflects, plus wider impacts from the global economy. The trader should know the schedule for future macroeconomic data releases, upcoming Central Bank events and have a broader knowledge of global geopolitical risks that could sway the stock index.

Also, a strong understanding of technical analysis and charting is a must, as stock indices are very much moved by technical analysis events, when support and resistance levels are broken or defended.

Again, the next piece of stock index trading advice is to trade what you know! Trade the index in the country where you live or have lived or know well. Become experienced with a few specific indices that you have some knowledge of and build on the know-how with further education. Understand which stock sectors are important in that index and which individual stocks can have a significant influence on the overall index. Know when the earnings reports are due out for the stocks within the index that could move the whole index, or when any announcements are due.

Bonds

Now we turn to bond markets. What are bonds? Bonds are loans, with the most often traded bonds amongst individual traders being Government Bonds. In short, Government Bonds are a loan to the Government that will be repaid at some point in the future with an income stream in between in the form of a coupon payment, which is effectively a long-term interest rate.

For a bond trader, as with stocks, we are not really interested in the income stream, but rather the capital gain that can be made by buying a bond that goes up in price and selling one that goes down in price.

Generally speaking, bonds are seen as safe-haven assets, in that they are less risky than stocks, with Government Bonds backed by a government, almost certainly to be repaid in full at the maturity date. The bond price does, therefore, go up and down with respect to the perception of global and domestic “risk off” and “risk on”. “Risk on” being a positive theme for the global economy, which sees the Bond price usually FALL, as it is a safe haven asset. Whilst with a negative outlook for the global or domestic economy, the bond price will usually RISE, as market participants have a “flight to quality” and buy safer Government Bonds.

As the coupon payment mentioned above is effectively a long-term interest rate, more than with any other asset class a good understanding of Central Banks and the impact of interest rates is essential for trading Bond markets.

Again, as with all of the asset classes, a firm knowledge of technical analysis, alongside a tried and tested trading strategy based at least in part on chart analysis is going to be critical to finding success in trading bonds markets.

Although with stocks and stock indices we have recommended trading what you know, with the bond markets it is probably safer to start with the large and liquid government bond markets. So, looking at US Treasury Bonds, European Bunds and in the UK the Gilt market.

Commodities

commodities

Commodities are simply goods that are commoditised, that is regular and interchangeable, often used as inputs in the production of other goods. Examples of commodities are Oil, Copper, Gold, Wheat and Sugar. They are usually quoted in US Dollars and broadly speaking obey the laws of demand and supply. A perception of an increase in demand for a specific commodity would see an increase in price, with a fall in demand seeing a likely price fall. A perceived increase in supply would likely see a commodity price fall, whilst news of a supply contraction would likely see an increase in the price of the commodity.

With commodity trading, specific knowledge of the commodity sector is invaluable, as this is a very specialised field. Moreover, within each commodity sector, becoming an expert in the individual market is key, with different commodities having differing nuances and specific data and organisations that are explicitly important to that commodity.

As with most asset classes, commodities react to “risk on” and “risk off” themes, with the broad, general correlation being that when the global economy does well, commodity prices do well, with the opposite also broadly true. However, this is a very simplistic view and some markets follow this rule more that others.

The commodity that does the opposite to this simple rule of thumb is Gold, which is seen as a safe haven, flight to quality asset. So generally speaking, the price of Gold goes down in a “risk on” environment and go up in “risk off” scenario.

Once more and as above, a strong awareness and appreciation of charting, together with a solid, back-tested trading plan based at least partially on technical analysis, will be important to succeeding in commodity trading.

So which financial market is right for you?

Clearly, it is almost impossible to answer this question. As individuals and traders, we are all very different and bring diverse experiences and differing personality traits to our trading. Here though are some tips that could help you on a more profitable path when deciding on which markets to trade.

  1. Trade what you know! We have said this already in this article, but when starting as a trader there is much to learn. Whether it be how the macroeconomic data of an economy impacts an asset class or in technical analysis how to draw a trend line. There is much education required, so to make things a little easier at first it is probably wise to start to trade an asset class that you have some knowledge of and are familiar with. Don’t start off Government Bond trading if you have no idea what Government Bonds are, when you may already have some experience of the stock market, for example.

So, start with what you know, so that this eases the learning burden at the start. Once you have a better understanding of the how macroeconomic, microeconomic, geopolitical and technical analysis impacts on one asset class, you can always branch into other assets classes. The skills are transferable.

  1. Trade what you enjoy! It can be fun to profit from trading, but sometimes you will be experiencing losses. It will be much easier to cope with the bad times if you actually enjoy learning about and researching the asset class you are trading. Trade what appeals to you, what you have an appetite to learn about and better understand.
  2. Become a Master of one! Although ultimately it would be great to be able to confidently trade every asset class equally well, this is probably not realistic even in the long run, let alone in the short-term when you are starting. Aim to become a Master in one asset class, concentrate all of your time an effort into gaining as much knowledge as possible on that asset class. If you want to see our educational video on asset classes, click here.

Good luck with your trading and please take a look at our complementary article on Which Forex markets and currencies should I trade?

Steve Miley

Editor in chief

Steve Miley has 29 years of financial market experience and as a seasoned expert now has many responsibilities. He is the founder, Director and Primary Analyst at The Market Chartist, the Editor-in...continued

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