If you are someone that is active on social media, particularly Reddit and other forum-based platforms, chances are that you have encountered some sort of financial advice before.
Reddit is particularly known for being home to some of the largest investment communities on the internet, particularly when it comes to stocks and options.
For complete beginners with little to no experience with financial markets, understanding some of the financial tips and tricks available on the internet can be somewhat challenging to decipher.
For this reason, learning the ropes and some of the most commonly used financial terms, can be very useful in navigating the world of online finance and investing forums.
Common Financial Terms You Should Know
While a glossary of financial terms can be incredibly exhaustive and span hundreds of pages, we can focus on a few terms that are frequently used by members of investing subreddits and other forums.
Understanding the meaning behind the terms listed below can help you better understand the tips and tricks that you may come across online and use them in practice more easily.
Stop Loss
Stop loss is one of the most frequently used levers in financial trading that gives market participants control over when to exit a particular position.
The official stop loss definition can be described as a type of order a trader places by instructing the broker to automatically sell a security if its price falls to a certain level, called the ‘stop-loss price’.
Using a stop loss order gives the trader the ability to avoid larger losses if the market moves against their existing position. There are two types of stop-loss orders:
- Fixed stop-loss – A specific price point a trader sets at which the position should be sold
- Trailing stop-loss – This follows the price movement of the asset, moving up when the price rises and locking in profits while limiting losses if the price starts to fall
Stop-loss is widely regarded as one of the most effective risk management techniques on the stock market.
Short Sell
Short selling is a type of trading strategy where a trader borrows shares of a stock from a broker, with the expectation that the price will fall and sells the shares on the market.
The goal is to buy the shares back at a lower price, return them to the lender, and pocket the difference as profit.
However, short selling is highly risky, as if the share price rises, the potential losses to the trader are virtually limitless. For this reason, short selling is typically used by highly experienced traders that also know how to hedge against some of the risk.
Hedging
Risk management is an essential part of the trading experience and hedging is one of the most important components of a proper risk management strategy.
The purpose of hedging is to protect against potential losses by taking offsetting positions in related assets.
For instance, if a trader holds stocks in a particular sector, they can hedge by taking a short position in a market index that covers the same sector.
If the stock price falls, the gains from the short position will cover some of the losses.
However, it is also worth noting that no hedging strategy can be perfect and traders will be exposed to market risk regardless of how well they are able to hedge.
Margin
In the world of financial trading, “margin” is another commonly used terminology and refers to the borrowed money traders can use to trade stocks and other instruments to increase their buying power.
Essentially, margin acts as a loan given by the broker to the trader – enabling the trader to take larger positions than their available capital would otherwise permit.
The initial amount deposited by the trader is referred to as “initial margin” and it allows the trader to open the position. On the other hand, the margin required to keep the position open is called the “maintenance margin”.
