A Beginner’s Guide to Online Trading in South Africa
Trading, like any other business, involves risk-taking. But higher risks don’t always guarantee higher returns, therefore proper strategy analysis is required.
Online Trading involves trading financial instruments in the market using computers and electronic systems. Traders can buy and sell financial securities like stocks, bonds, derivatives, CFDs, etc. via an exchange or over-the -counter.
Prior to the introduction of online trading, most of the trading was carried out physically, wherein traders had to either call the brokers or visit the exchange to trade securities. However, with the invention of “The Internet” and introduction of advancements like one-click ordering, discount brokerages, high speed trading and algorithms, modern trading is refined without much hassle; and useful tools & more data are available to retail traders to analyze security prices.
We try to understand the various facets of online trading in South Africa. We will be also taking a brief overview on how one can start trading online.
What Instruments can you Trade online in South Africa
The different instruments South African traders can trade are:
- Stocks – Stocks are the shares of a company available for public trading in a stock exchange like JSE. These shares are first allotted when the company decides to go public and launches an Initial Public Offering. They are then launched in the exchange and are traded in the secondary market or the stock exchange. Traders can either buy or sell within the day (intraday) or take delivery of the shares in their account. It is one of the most liquid asset class in SA and is also known as the equity (equal to a share of the company) market.
- Bonds – Bonds are units of total debt raised by the government or corporates from the Investors and are considered less risky than buying shares as bond repayment is given priority over shareholders payment. These bonds are listed on JSE’s Debt Board which is the most liquid bond market in Africa. For example: If a company requires 100 million Rand to fund a new acquisition, they may issue R1000 Rand bonds through JSE debt market available at a minimum purchase of 10 such units (minimum investment = 10*1000 = R10,000). The issuer of the bonds pays periodic interest on the loan/debt amount and returns the invested amount at the maturity date. It is the largest market in terms of capital raised and is a crucial to any country’s economy. But it must be noted that not all bonds are equal, some have higher risk than others. Normally, the riskier bonds will have higher interest rates. Government bonds are considered less risky than corporate bonds and normally pay lower interest rate than corporate bonds.
- Debentures – Debentures are also loan issuing instruments, however here the capital can be raised during the ongoing business cycle. Also, the rates are higher when compared to bonds as they have no collateral backing unlike bonds. Debentures are riskier than bonds and should only be invested by experienced investors if investments are done in non-stable corporations after considered debt to equity ratio. These can be exchanged with other investors or traded on JSE.
- Derivatives – Derivatives are one of the relatively new financial products available in South African financial markets introduced in 1988 by SAFEX which is now part of JSE.
The price of derivative moves according to the price of an underlying asset; which can be a stock, bond, Currencies, commodities, etc. The price of a derivative is usually close to 5-10% of the underlying asset and profit earning capacities are more in that case. However, they can be very risky instrument if you are using high leverage & positions can quickly take a toll! Therefore, before trading derivatives proper knowledge and practice is always advised. It is used for hedging or speculating prices of the underlying assets. Futures, Options, Quanto F&O, eCFDs of Commodity, Interest Rate, Currency, Bonds are types of derivative products traded in the JSE derivatives exchange.
- Commodity – Commodity trading is one of the oldest forms of trading. Commodities like gold, silver, oil, aluminum, etc. have been traded in the global financial markets for many years. It helps the producers in discovery of the prices of the commodities produced and also acts as a beneficial platform for buyers of the products. Commodities are heavily impacted by weather conditions and with the total produced to expected ratio. Therefore, sharp uprise and downfall is common in this market. Commodities are usually traded heavily in derivatives market like JSE SAFEX to mitigate principal loss risk or speculation.
- Forex – FX or Foreign Exchange is a trading market that deals in the rate at which one country’s currency is converted into another country’s currency. There are several economic, geopolitical, and historical factors which decide the FX rate between two currencies. By volume, it is the biggest asset class and is open 24*7 (every day of the year). FX rates have direct correlation to the well-being of a country’s economic condition. Therefore, it becomes a very important parameter to judge the status of a country’s policies. Forex trading on currency pairs can done through a CFD instrument or derivative instrument by retail traders through JSE or FSCA licensed CFD brokerages.
- ETF and REITs – ETF or Exchange Traded Funds are pool of investor funds invested in pool of stocks, bonds, commodities or major indices of a stock exchange. For example, an ETF may only be invested in large-cap stocks listed on the JSE. A REIT on the other hand is a managed fund which invests in the real estate sectors; however investors can start taking ownership of such real estate investments by putting in a portion of the amount. For example, if a real estate asset costs 1 million rand, 10 investors with 100K Rand individually can own it collectively.
Above are the main instruments and asset classes traded online in the SA markets.
Pros and Cons of Online Trading
There are some advantages and disadvantages of the online trading:
Efficient – Given that we are now a few clicks away sitting at home for trading a security, the entire process has become very smooth. One definite reason why online trading is valuable for all is that a lot of time is saved which can be used for analysis and taking better trading decisions. Therefore, efficiency helps in better performance of money management across assets.
High Speed Trading – Algorithms and high frequency trading are the new buzz words across all markets. Traders these days create algorithms which place orders automatically into the trading platforms. This would not have been possible without internet and algorithmic advances. Therefore, online trading makes it possible to create high frequency trading strategies and potentially higher profits for investors.
Multiple Choices – Online Trading has opened choices like various instruments for retail traders at low cost, which has increased participation across the markets. It has also brought new concepts like multiple trading terminal portal and historical data analysis. This has helped traders in analyzing the markets better and making multiple orders at the same time on different accounts and on different assets.
Information Bias – Most retail investors form investing decisions based on limited information which causes bias while trading securities. Institutional Investment firms with their networks and depth of capital are more equipped with information creating a lag period for any retail trader and causing less profit margins or even losses.
Technical Failure – If there is any technical glitch or error in the server of the broker, trading may be halted for several hours. This has happened multiple times across platforms and has left traders high and dry with potential loss positions. Therefore, in future too, it cannot be guaranteed that such events will not take place. Online Trading has its own set of drawbacks and in terms of catastrophic events, this is one of the riskiest operational risks.
Online Scam – Traders should be aware about scams that are carried out by fraudsters online. These fraudsters claim to know it all and take upfront payment for suggesting stocks that will create huge losses for traders. Traders usually lose money following such tricks. With increase in traders, online scams have increased too, and it must be carefully dealt with.
How can you Trade online?
Let’s look into practicality and how one can trade online:
- Choose a regulated broker – For trading stocks, equity derivatives, ETFs; choose a broker which is licensed and approved by the JSE Exchange.
For trading CFDs & forex, you should choose a forex broker in South Africa that is regulated by FSCA. The broker you choose should have a clean history and initial deposit should be minimum. The broker should also have a comprehensive plan which takes care of the exchange fees, brokerage commission & there should also be protection of your capital in case of broker’s bankruptcy. Trade execution time and added features should also be taken in consideration.
- Open Trading Account – Trading account is opened post submitting all the KYC and FICA documents. Accounts are usually activated within 2 business days at most brokers.
- Platform Overview – Get a proper overview of the platform as different brokers have different platforms and features. Brokers these days provide charting and fundamental analysis tools within their platform, check all the features, and develop an intuition on the customer service provided by the platform.
- Create a Strategy – Create a trading strategy based on an individual asset class. For example: one can start with trading equities. One can start with buying and selling of highly volatile stocks to make directional trend profits over a holding period of one to two weeks. One can also follow company events and trade in stocks which have any upcoming event lined up for them. Any strategy that you follow must be tested & you should not follow any strategy blindly without risk management in place.
- Execution Style – Gain proper knowledge on what are the different types of orders like stop loss orders, limit orders, kill or fill orders, etc. to gauge an understanding as to which order types suits your trading style.
- Keep Learning – As in all fields, knowledge is never enough, and one needs to update knowledge in a field time and again. Reading books and consulting authorized advisers & experienced professionals can help in trading and that should be continued to better understand the markets.
Is it safe to Trade online?
Trading, like any other business involves risk taking. But higher risks don’t always guarantee higher returns, therefore proper strategy analysis is required.
Experience plays a key role in markets; however, it also requires patience and years of learning. Novice traders should first start with investments in index traded funds, so that they understand market microstructure and also factors deciding market movements.
Minimum fees, timing the trades, flushing out emotion, information bias, sentimental data analysis and execution efficiency are some of the factors which define any unsystematic market risk. Therefore, traders should practice risk mitigation very cautiously and results will only reflect in a trading account with increased discipline in trading styles.