invest Archives | Page 4 of 181

Mar

2025

How to Use a Trailing Stop-Loss Properly

By Rebecca Lake | Growing Wealth, invest, Investing, Terminology | Comments Off

A trailing stop loss allows investors to create a built-in safety mechanism to insulate themselves against downward pricing trends. It’s an important exit strategy that day traders can use to manage their risk.

Understanding how a trailing stop order works and how to use it properly can help cap potential losses when day trading investments.

What Is a Trailing Stop-Loss?

A trailing stop-loss offers a flexible approach to minimizing investment losses. A trailing stop order trails the price of the underlying investment by a percentage or a specific dollar amount. So, if an investor buys shares at $50 each, they might impose a trailing stop limit of 10%. If the stock’s share price dipped by 10% they’d be sold automatically.

To understand trailing stop-loss, it helps to have a basic understanding of how limit orders and stop orders work.

A limit order is an order to buy or sell a security once it reaches a specific price. If the order is to buy, it only gets triggered at or below the limit price. If the order is to sell, the order can only get executed at or above the limit price. Limit orders are typically filled on a first-come, first-served basis in the market.

A stop order, also referred to as a stop-loss order (yet another of the stock order types), is also an order to buy or sell a particular investment. The difference is that the transaction occurs once a security’s market price reaches a certain point. For example, if you buy shares of stock for $50 each, you might create a stop order to sell those shares if the price dips to $40. Once a stop or limit order is executed, it becomes a market order.

Stop orders help you either lock in a set purchase price for an investment or cap the amount of losses you incur when you sell if the security’s price drops. While you can use them to manage investment risk, stop orders are fixed at a certain share price.

💡 Quick Tip: How do you decide if a certain trading platform or app is right for you? Ideally, the investment platform you choose offers the features that you need for your investment goals or strategy, e.g., an easy-to-use interface, data analysis, educational tools.

How a Trailing Stop Order Works

Using a trailing stop to manage investments can help you capitalize on stock market movements and momentum. You determine a preset price at which you want to sell a stock, based on how a particular investment is trending, rather than pinpointing an exact dollar amount.

You can decide where to set a trailing stop limit, based on your risk tolerance and what you expect an investment to do over time. What remains consistent is the percentage by which you can control losses as the investment’s price changes.

Example

So, assume that you purchase 100 shares of stock at $50 each. You set a trailing stop order at 10%. If the share price dips to $45, which reflects a 10% loss, those shares would be sold automatically capping your total loss on the investment at $500.

Now, assume that the stock takes off instead and the share price doubles to $100 with the same 10% trailing stop in place. Your stop order would only be triggered if the stock’s price falls to $90. If you had set a regular stop order at $40 instead, there’d be a much wider margin for losses since the stock’s price has further to fall before shares would be sold. Thus, trailing stops enhanced downside protection compared to a regular stop order.

3 Advantages of Using a Trailing Stop Order

There are several benefits that come with using a trailing stop limit to manage your investments.

1. Tandem Movements

First, trailing stops move in tandem with stock pricing. As a stock’s per share price increases, the trailing stop follows. In the previous example, when the stock’s price doubled from $50 to $90, the trailing stop price moved from $45 to $90. In effect, it’s a hands-off tool — which can be great for some investors.

2. Confidence

Implementing a trailing stop limit strategy can offer reassurance since you know shares will be sold automatically if the stop order is triggered. That can offer investors some confidence in what may be a chaotic market environment. That, for many, can be very valuable.

3. Take Emotion Out of the Equation

Trailing stop limits rely on math rather than emotions when making decisions. That can also help you avoid the temptation to try to time the market and either sell too quickly or hold on to a stock too long, impacting your profit potential.

💡 Quick Tip: How to manage potential risk factors in a self directed investment account? Doing your research and employing strategies like dollar-cost averaging and diversification may help mitigate financial risk when trading stocks.

How Do You Set up a Trailing Stop Order?

If you’re day trading online, it’s relatively simple to set up a trailing stop loss order for individual securities. Because the orders are flexible, you can choose where you want to set the baseline percentage at which stocks should be sold. For example, if you’re less comfortable with risk you might set a trailing stop at 5% or less. But if you’re a more aggressive portfolio, you may bump the order up to 20% or 30%.

You can also control whether you want buy or sell actions to happen automatically or whether you want to place trades manually. Automating ensures that the trades happen as quickly as possible, but performing them manually may be preferable if you’re more of a hands-on trader.

Example of a Trailing Stop-Loss Order

Though we’ve already given some quick examples of how a trailing stop-loss order might work in a practical sense, let’s run through it again.

Say that you buy 100 shares of Company A stock for $10. You set up a trailing stop-loss order at 10%, meaning that if Company A stock falls to $9 or below, a sell order will automatically be executed. The next week, Company A stock’s value rises to $12 — the trailing stop loss order follows. The week after, Company A’s stock loses 15% of its value, falling from $12 to $10.20.

The stop-loss order kicked in when the stock lost 10%, so your shares were sold at $10.80, saving you $0.60 per share, for a total of $60.

Again, this can be helpful if investors want to “lock in” their gains and cash out stocks with a positive return.

Are There Any Downsides of Using a Trailing Stop?

Investing is risky by nature, and no strategy is foolproof. While trailing stops can help minimize losses without placing a cap on profits, there are some downsides to consider.

Accessibility

Depending on which brokerage account you’re using, you may face limits on which investments you can use trailing stop loss strategy with. Some online brokerages don’t allow any type of stop loss trading at all.

Potential to Lock-in Losses

If a stock you own experiences a two-day slide in price, your stop loss order might require your shares be sold. If on the third day, the stock rebounds with a 20% price increase, you’ve missed out on those gains and locked in your losses. If you want to repurchase the stock you’ll now have to do so at a higher price point, and you’ve missed your chance to buy the dip.

Velocity Challenges

If share prices drop too quickly there may be some lag time before your trailing stop order can be fulfilled. In that scenario, you might end up incurring bigger losses than expected, regardless of where you placed your stop price limit.

No Market for the Security

It’s possible an investor finds themselves holding a stock that nobody wants — meaning that it has no liquidity, and can’t be traded. This is unlikely, but in this case, a stop-loss order couldn’t execute as there’s no one to trade with.

Market Closure

If you’ve set up trailing stop-loss orders, they can’t and won’t execute when the market is closed. Security prices can go up and down after-hours, but market orders can only be executed during normal operating hours for stock exchanges.

Using a market-on-open order may be another tool to consider if investors are concerned about this scenario.

Gaps

On the same note as market closures, pricing gaps — which may occur due to after-hours pricing movements, for instance — can and do occur. A stop-loss order may not help in those cases, and investors may lose more than anticipated as a result.

How to Use a Trailing Stop-Loss Strategy

Using trailing stops is better suited as part of a short-term trading strategy, rather than long-term investing. Buy-and-hold investors focused on value don’t need to worry as much about day-to-day price movements.

With that in mind, there are a few things to consider before putting trailing stop orders to work. A good starting point is your personal risk tolerance and the level of loss you’d be comfortable accepting in your portfolio. This can help determine where to set your trailing stop loss limit.

Again, if you’re a more conservative investor then it might make sense to set the percentage threshold lower. But if you have a larger appetite for risk, you could go higher. You can also tailor thresholds to individual investments to balance out your overall risk exposure.

Technical Indicators

Becoming familiar with technical indicators could help you become more adept at reading the market so you can better gauge where to set trailing limits. Unlike fundamental analysis, technical analysis primarily focuses on decoding market signals regarding trends, momentum, volatility and trading volume.

This means taking a closer look at a security’s price movements and understanding how it’s trending. One indicator you might rely on is the Average True Range (ATR). The ATR measures how much a security moves up or down in price on any given day. This number can tell you where to set your trailing loss limit based on whether price momentum is moving in your favor.

In addition to ATR you might also study moving averages and standard deviation to understand where a stock’s price may be headed. Moving averages reflect the average price of a security over time while standard deviation measures volatility. Considering these variables, along with your risk tolerance and overall investment goals, can help you use trailing losses in your portfolio correctly.

Applying Your Stock Trading Knowledge With SoFi

Whether you plan to use trailing stop strategies in your portfolio or not, making sure you’re working with the right brokerage matters. Ideally, you’re using an online brokerage that offers access to the type of securities you want to invest in with minimal fees so you can keep more of your portfolio gains.

Keep in mind, though, that utilizing stop-loss orders isn’t foolproof, and that there can be pros and cons to doing so. It’s also a somewhat advanced tool to incorporate into your strategy — if you don’t feel like you fully understand it, it may be worth discussing with a financial professional.

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For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

FAQ

How does a trailing stop-loss work?

A trailing stop-loss is a built-in mechanism that automatically sells an investor’s holdings when certain market conditions are met — specifically, when a stock loses a predetermined amount of value.

What is a disadvantage of a trailing stop-loss?

There are several potential disadvantages to using trailing stop-losses, including the fact that they won’t execute during market closures. Securities may lose value during that time, and traders could experience a pricing gap as a result.

What is a good trailing stop-loss percentage?

A good stop-loss percentage will depend on the individual investor’s risk tolerances, but many investors would likely be comfortable with a 5% or 10% trailing stop-loss.

About the author

Rebecca Lake

Rebecca Lake has been a finance writer for nearly a decade, specializing in personal finance, investing, and small business. She is a contributor at Forbes Advisor, SmartAsset, Investopedia, The Balance, MyBankTracker, MoneyRates and CreditCards.com. Read full bio.

Photo credit: iStock/akinbostanci

SoFi Invest®

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

Mar

2025

What Is the VIX Volatility Index? How Investors Can Use It

By Rebecca Lake | Growing Wealth, invest, Investing | Comments Off

The Cboe Global Markets Volatility Index, known as the VIX for short, is a tool used to measure implied volatility in the market. In simple terms, the VIX index tells investors how professional investors feel about the market at any given time.

This can be helpful for gauging and assessing risk in order to capitalize on anticipated market movements. Depending on which way the VIX is trending, it may throw off buy or sell signals to investors.

The volatility index is sometimes referred to as the “fear index” or “fear gauge” because traders rely on it as an indicator of the fearfulness of sentiment surrounding the market. While not a crystal ball, understanding the VIX and how it works can provide a useful predictor of investor behavior.

What Is the VIX Index?

The VIX Index is a real-time calculation designed to measure expected volatility in the U.S. stock market. One of the most recognized barometers of fluctuations in financial markets, the VIX measures how much volatility investing experts expect to see in the market over the next 30 days. This measurement reflects real-time quotes of S&P 500 Index (SPX) call option and put option prices.

Stock volatility represents the up and down price movements of various financial instruments that occur over a set period of time. The larger and more frequent price swings, the higher the volatility.

Implied volatility reflects market sentiment and which way it expects a security or financial instrument’s price to move.

💡 Quick Tip: All investments come with some degree of risk — and some are riskier than others. Before investing online, decide on your investment goals and how much risk you want to take.

How Does the VIX Work?

The VIX Index is a forward-looking trend indicator used to quantify expectations for future volatility. Cboe designed the index to estimate expected volatility by aggregating weighted prices of S&P 500 Index puts and calls over a wide range of strike prices.

In options trading, the strike price represents the price at which a trader can exercise an option. Call options give an investor the right to buy shares of an underlying security; put options give them the right to sell shares of an underlying security.

The Cboe Options Exchange (Cboe Options) calculates the VIX Index using standard SPX options and weekly SPX options listed on the exchange. Standard SPX options expire on the third Friday of every month. Weekly SPX options expire on all other Fridays. VIX index calculations include:

• SPX options with Friday expirations

• SPX options with more than 23 days and less than 37 days to their Friday expiration

The index weights these options to establish a constant-maturity, 30-day measure of the amount of volatility the S&P 500 Index is likely to produce. The VIX index works differently from the Black Scholes model, which estimates theoretical value for derivatives and other financial instruments based on a number of factors, including volatility, time, and the price of underlying assets.

The VIX is one of seven inputs used by CNN to determine its Fear and Greed Index.

What Does the VIX Tell You?

In securities trading, the VIX index is a measure of market sentiment. The volatility index has a negative correlation with stock market returns. If the VIX moves up that means investor fear is on the rise. The S&P 500 tends to see price drops in that scenario as investors may begin to sell off securities to hedge against expanded volatility that may be on the horizon.

On the other hand, when the VIX declines, that could signal a decline in investor fear as well. In that situation, the S&P may be experiencing lower levels of volatility and higher prices as investors buy and sell with confidence. This doesn’t necessarily mean that prices will remain high, however, as volatility is fluid and can increase or decrease sharply due to changing market conditions.

The volatility index can be read as a chart, with each day’s reading plotted out. Generally, a reading of 0 to 12 represents low volatility in the markets, while a range of 13 to 19 is normal volatility.

Once the VIX reaches 20 or above, that means you can typically expect volatility to be higher over the coming 30 days. For perspective, the VIX notched a 52-week high of 34.88 and a 52-week low of 12.73 as of August 11, 2023.

Example of VIX in Action

The beginning of 2020 saw a gradual rise in the level of concern surrounding the coronavirus and its potential to become a public health crisis. As more cases appeared in the United States, the financial markets began to react. The VIX index, which had hovered around 20 or below since January 2019, began to climb in the third week of February. By March 16, it had reached a peak of 82.69 and the Dow Jones had dropped 12.93%.

After the market crashed, the VIX began to slowly decline. By early November 2021, the volatility index was once again implying volatility on par with pre-pandemic levels, measuring 18.58 as of November 24.

💡 Quick Tip: When you’re actively investing in stocks, it’s important to ask what types of fees you might have to pay. For example, brokers may charge a flat fee for trading stocks, or require some commission for every trade. Taking the time to manage investment costs can be beneficial over the long term.

How Investors Can Trade the VIX

Investors interested in trading the VIX index have a few options for doing so. Cboe offers both VIX options and VIX futures as a starting point.

VIX options are not exactly the same as traditional stock options. They trade nearly 24 hours a day, five days a week during extended trading hours. Investors can trade a call option or put option to make speculative investments based on anticipated volatility in the markets.

Cboe introduced VIX futures in 2004 to allow investors to trade a liquid volatility product using the VIX index as a guide. The difference between options and futures lies largely in the execution.

With options trading, the investor has the right but not the obligation to buy or sell a particular investment. A futures contract, on the other hand, requires the buyer to purchase shares and the seller to sell them at an agreed-upon price.

With VIX options or VIX futures, you’re making investments based on what you expect to happen in the markets based on how the volatility index is trending. Options and futures are speculative investments that carry more risk than some other types of investments. If you’re looking for another way to trade the VIX, you might look to VIX exchange-traded funds (ETFs) or volatility ETFs instead.

Volatility ETFs

Exchange-traded funds hold a basket of securities but they trade on an exchange like a stock. VIX ETFs and volatility ETFs often hold futures contracts or track the movements of a volatility index.

Choosing volatility or VIX ETFs in lieu of trading VIX options or VIX futures directly doesn’t eliminate risk. But it can help you to spread the risk out over a diverse group of investments. If you’re already trading stocks and other securities through an online brokerage account, VIX or volatility ETFs may be included as an investment option.

The Takeaway

The volatility index or VIX is a highly useful tool for measuring market sentiment. While it’s impossible to predict exactly which way the market will move, the VIX index can help with interpreting implied volatility when making investment decisions.

That’s information you can use whether you’re trading options or less risky investments such as stocks or ETFs.

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About the author

Rebecca Lake

Photo credit: iStock/dolgachov

SoFi Invest®

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

Mar

2025

Wash Trading: What Is It and How Does It Work?

By Rebecca Lake | Growing Wealth, invest, Investing | Comments Off

Wash trading is a practice which involves entering into securities transactions for the express purpose of giving the appearance that a trade has taken place although their portfolio has not substantially changed. Also referred to as round-trip trading, wash trading is a prohibited activity under the Commodity Exchange Act (CEA) and the Securities Exchange Act of 1934.

In some cases, wash trading is a direct attempt at market manipulation. In others, wash trading may result from a lack of investor knowledge. This may be the case with wash sales, in which an investor sells one financial instrument then replaces it with a similar one right away. It’s important to understand the implications of making a wash trade and what one looks like in action.

Key Points

• Wash trading involves investors engaging in the simultaneous buying and selling of securities to create the illusion of trading activity.

• Wash trading involves the simultaneous buying and selling of the same or similar securities.

• This practice can be a form of market manipulation or result from a lack of investor knowledge.

• The goal of wash trading is to influence pricing or trading activity, often through collaboration between investors and brokers.

• Wash trading is illegal and can result in penalties, including the disallowance of tax deductions for losses.

What Is Wash Trading?

Wash trading occurs when an investor buys and sells the same or a similar security investment at the same time. The Internal Revenue Service (IRS) also refers to this as a wash sale, since buying the same security cancels out the sale of that security. It’s also called round-trip trading, since you’re essentially ending where you began — with shares of the same security in your portfolio.

Wash trades can be used as a form of market manipulation. Investors can buy and sell the same securities in an attempt to influence pricing or trading activity. The goal may be to spur buying activity to send prices up or encourage selling to drive prices down.

Investors and brokers might work together to influence trading volume, usually for the financial benefit of both sides. The broker, for example, may benefit from collecting commissions from other investors who want to purchase a stock being targeted for wash trading. The investor, on the other hand, may realize gains from the sale of securities through price manipulation.

Wash trading can be a subset of insider trading, which requires the parties involved to have some special knowledge about a security that the general public doesn’t. If an investor or broker possesses insider knowledge they can use it to complete wash trades.

How Does Wash Trading Work?

On the surface level, a wash trade means an investor is buying and selling shares of the same security at the same time. But the definition of wash trades goes one step further and takes the investor’s intent (and that of the broker they may be working with) into account. There are generally two conditions that must be met for a wash trade to exist:

• Intent. The intent of the parties involved in a wash trade (i.e. the broker or the investor) must be that at least one individual involved in the transaction must have entered into it specifically for that purpose.

• Result. The result of the transaction must be a wash trade, meaning the investors bought and sold the same asset was bought and sold at the same time or within a relatively short time span for accounts with the same or common beneficial ownership.

Beneficial ownership means accounts that are owned by the same individual or entity. Trades made between accounts with common beneficial ownership may draw the eye of financial regulators, as they can suggest wash trading activity is at work.

A telling indicator of wash trading activity is the level of risk conveyed to the investor. If a trade doesn’t change their overall market position in the security or expose them to any type of market risk, then it could be considered a wash.

Wash trades don’t necessarily have to involve actual trades, however. They can also happen if investors and traders appear to make a trade on paper without any assets changing hands.

💡 Quick Tip: How to manage potential risk factors in a self-directed investment account? Doing your research and employing strategies like dollar-cost averaging and diversification may help mitigate financial risk when trading stocks.

Example of a Wash Trade

Here’s a simple wash trade example:

Say an investor who’s actively involved in day trading owns 100 shares of ABC stock and sells those shares at a $5,000 loss on September 1. On September 5, they purchase 100 shares of the same stock, then resell them for a $10,000 gain. This could be considered a wash trade if the investor engaged in the trading activity with the intent to manipulate the market or to unfairly claim a tax deduction for the loss.

Is Wash Trading Illegal?

Yes. The Commodity Exchange Act prohibits wash trading. Prior to the passage of the Act, traders commonly used wash trading to manipulate markets and stock prices. The Commodity Futures Trade Commission (CFTC) also enforces regulations regarding wash trading, including guidelines that bar brokers from profiting from wash trade activity.

The IRS has rules of its own regarding wash trades. The rules disallow investors from deducting capital losses on their taxes from sales or trades of stocks or other securities that are the result of a wash sale. Under the IRS rules, a wash sale occurs when you sell or trade stocks at a loss and within 30 days before or after the sale you:

• Purchase substantially identical stock or securities

• Acquire substantially identical stock or securities in a fully taxable trade

• Acquire a contract or option to buy substantially identical stock or securities, or

• Acquire substantially identical stock for your individual retirement arrangement (IRA) or Roth IRA

Wash sale rules also apply if you sell stock and your spouse or a corporation you control buys substantially identical stock. When a wash sale occurs, you’re no longer able to claim a tax deduction for those losses.

So, in short, yes, wash trading is illegal.

Difference Between Wash Trading & Market Making

Market making and wash trading are not the same thing. A market maker is a firm or individual that buys or sells securities at publicly quoted prices on-demand, and a market maker provides liquidity and facilitates trades between buyers and sellers. For example, if you’re trading through an online broker you’re using a market maker to complete the sale or purchase of securities.

Recommended: What Is a Brokerage Account?

Market making is not market manipulation. A market maker is, effectively, a middleman between investors and the markets. While they do profit from their role by maintaining spreads on the stocks they cover, this is secondary to fulfilling their purpose of keeping shares and capital moving. Without market makers, trades would take longer to execute and the markets could become sluggish.

How to Detect & Avoid Wash Trading

The simplest way to avoid wash trading as an investor is to be aware of what constitutes a wash trade or sale. Again, this can mean the intent to manipulate the markets by placing similar trades within a short time frame, or it can mean inadvertently executing a wash sale because you’re not familiar with the rules.

In the latter case, you can avoid wash trading or wash sales by being mindful of the securities you’re buying and selling and the time frame in which those transactions are completed. So selling XYZ stock at a loss, then buying it again 10 days later to sell it for a profit would likely constitute a wash sale, if you executed the trade in an attempt to be able to deduct the initial loss.

It’s also important to understand how the 30 days period works for timing wash sales. The 30 day rule extends to the 30 days prior to the sale and 30 days after the sale. So effectively, you could avoid the wash sale rule by waiting 61 days to replace assets that you sold in your portfolio to be on the safe side.

💡 Quick Tip: Look for an online brokerage with low trading commissions as well as no account minimum. Higher fees can cut into investment returns over time.

Wash Trading in Crypto Trading

Cryptocurrency can be a target for wash-trading activity. In the EOS case, wash trades were suspected of being used as a means of driving up investor interest surrounding the cryptocurrency during its initial offering. High-frequency trading has also been a target of scrutiny, as some believe it enables wash trading in the crypto markets. Whether wash trading rules and regulations specifically apply to crypto, however, is a bit murky.

The Takeaway

Wash trading involves selling certain securities and then replacing them in a portfolio with identical or very similar securities within a certain time period. This is done so as to avoid making substantial changes in your portfolio. Wash trading is illegal in practice but it’s also avoidable if you’re investing consciously and with a strategy in place.

Understanding when wash sale rules apply can help you to stay out of trouble with the IRS. If you’re unclear about it, you can consult with a financial professional for guidance.

For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

Photo credit: iStock/mapodile

About the author

Rebecca Lake

SoFi Invest®

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SOIN0723114

Mar

2025

What Are Capital Expenditures?

By Rebecca Lake | Financial Independence, Growing Wealth, invest, Investing | Comments Off

Capital expenditures, or CapEx, refers to the money a company spends or invests to promote its future growth. This is different from operating expenditures, which deal with the day-to-day costs of running a business. Both show up on a business accounting statement, and both matter for maintaining a healthy bottom line.

From an investment perspective, understanding capital expenditures and how a company spends its money can be useful for evaluating stocks when deciding where to invest. More specifically, the capital expenditure formula is often part of a fundamental analysis approach to gauge a company’s overall financial health and stability. Understanding how to calculate capital expenditures can be helpful when comparing stocks.

Capital Expenditures: Definition & Overview

Here’s a simple definition of capital expenditure: A capital expenditure is any amount of money that a company spends to further its growth.

Capital expenditures typically include the purchase, improvement, or maintenance of physical assets, though it can also refer to intangible assets, such as patents or trademarks. It includes assets that a company will own over more than one accounting period, many of which can depreciate in value over time.

Types of Capital Expenditures

The type of capital expenditures a company has depends on the industry it belongs to and the nature of its business. So, if you’re sector investing, the analyses may vary. Generally, capital expenditure examples can include:

• Land

• Buildings or warehouses

• Equipment

• Machinery

• Business vehicles

• Computer hardware and/or software

• Furniture or fixtures

• Patents

• Licenses

Capital expenditures are most often long-term investments that have a shared goal: to help promote or further business growth. For example, a manufacturing company may decide to upgrade its equipment to speed up production and increase efficiency. The return on that investment comes later, when the company increases its output and generates bigger profits.

Capital Expenditures vs. Operating Expenditures

In accounting, capital expenditures are separate from a company’s operating expenditures. An operating expenditure is money a company spends to maintain normal business operations.

Examples of operating expenditures include:

• Rent or lease payments for business property

• Utilities

• Insurance

• Employee payroll

• Inventory

• Marketing costs

• Office supplies

Bottom-up investors use both capital expenditures and operating expenditures to measure how a company spends its money, but it’s important to avoid confusing them. In a nutshell, capital expenditures represent long-term investments in assets that will be used in the future, while the operating expenditures represent short-term outlays.

💡 Quick Tip: The best stock trading app? That’s a personal preference, of course. Generally speaking, though, a great app is one with an intuitive interface and powerful features to help make trades quickly and easily.

How to Calculate Capital Expenditures

Companies calculate capital expenditures and include it on their cash flow statements under the section noted for investing activities. If you have access to a company’s cash flow statement or other key company financial information, you wouldn’t necessarily need to calculate capital expenditures because the relevant numbers would already be included.

But if you don’t have cash flow information available, or you simply want to do the math on your own, there’s a capital expenditures formula you can use. This formula is simple, though it does require that you have certain information about a company’s financial situation, including:

• Depreciation and amortization for capital expenditure assets

• Current period PP&E (Property, Plant & Equipment)

• Prior period PP&E

Property, Plant & Equipment refers to assets listed on a company’s balance sheet. In simpler terms, these are the assets that help generate revenue and profits for the business. So again, this can include things like equipment, machinery, vehicles, office equipment or land. Of those assets, land is the only one that typically doesn’t depreciate in value over time.

If you have these three pieces of information, you can then apply the capital expenditures formula. The formula looks like this:

CapEx = Current period PP&E – Prior period PP&E + Current period depreciation

Here’s how it works using hypothetical numbers. Say you’re evaluating a company that has a current period PP&E of $70,000, a prior period PP&E of $50,000 and $20,000 in current period depreciation. Your capital expenditures formula would look like this:

CapEx = $70,000 – $50,000 + $10,000
CapEx = $30,000

These calculations are relatively easy to do if you have all the relevant details from a company’s balance sheet. Once you can calculate capital expenditures, you can use the formula to evaluate investments.

Capital Expenditures and Fundamental Analysis

Fundamental analysis is one strategy for comparing investments and it’s typically used when investing for the long-term. With this type of analysis, the emphasis is on what makes a company financially healthy. This is something you may be interested in when trying to evaluate a stock appropriately and decide whether to invest in it.

A fundamental analysis approach considers a company’s assets and liabilities. But it also utilizes certain financial ratios that measure how money moves in and out of the company. Some of the most important ratios include:

• Price to earnings (P/E) ratio

• Earnings per share (EPS)

• Current ratio

• Quick ratio

• Return on equity (ROE)

• Book-to-value ratio

• Projected earnings growth (PEG)

All of these ratios measure a company’s value, which is important if you’re using a value investing approach. The goal there is to identify companies that have been undervalued by the market but have long-term growth potential. By investing in these companies and holding on to them, investors can benefit from price appreciation as they rise in value over time.

So where do capital expenditures fit in?

In terms of gauging a company’s value, capital expenditures offer insight into projected growth over the long-term. When a company regularly invests money in purchasing or upgrading assets, that can be a sign of financial strength and an eventual increase in value. On the other hand, a company pulling back on capital expenditures may hint at cash flow struggles that are impeding future growth.

One thing that’s important to keep in mind is that capital expenditures aren’t a foolproof indicator of a company’s long-term growth potential. It’s possible that a company may spend money with good intentions, only to have them backfire.

In an earlier example, we mentioned a manufacturing company purchasing new equipment to boost production. If that investment doesn’t pan out as expected–if, for example, the equipment requires constant maintenance and repairs that eat into profits or it falls short of expectations for increasing production speed–that could inhibit the company’s growth plans.

The Takeaway

Capital expenditures can be particularly helpful to investors if you favor a value investing approach or you lean toward buy-and-hold investing. Understanding how a company is investing in itself for the long-term can help you decide whether it makes sense as part of your portfolio.

Once you’re ready to invest, it’s important to choose the right tools for doing so. There are many out there, with numerous pros and cons. It’s a good idea to do your research when finding the right platform to invest, just like you would when researching specific investments.

For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

Photo credit: iStock/akinbostanci

About the author

Rebecca Lake

SoFi Invest®

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SOIN0623026

Mar

2025

What Are Commodities? How Do They Fit Into the Stock Market?

By Rebecca Lake | Growing Wealth, invest, Investing | Comments Off

Commodities are the raw materials that are the building blocks of most types of production, whether for commercial, military, or industrial goods. Different types of grain, livestock, metals, and energy sources (such as crude oil) are some of the most common commodities.

Although commodities may offer some advantages to investors, commodities are considered a high-risk market, as prices can fluctuate based on numerous factors that are hard to anticipate: e.g. weather events; regional political changes; supply chain issues, and more.

Nonetheless, investing in commodities can be useful for diversification because commodities tend to have a low correlation with traditional asset classes like stocks and bonds. Commodities are considered alternative investments, and thus they may be better suited to some investors than others.

Key Points

• Commodities are raw materials used in production, including grain, livestock, metals, and energy sources like crude oil.

• Investing in commodities can offer diversification as they have a low correlation with traditional assets.

• Commodities can be traded on commodities exchanges through futures contracts or through investment vehicles like mutual funds and ETFs.

• Commodities prices are influenced by factors like supply and demand, weather events, and geopolitical changes.

• Commodities trading carries risks due to price volatility and external factors, making it important to consider personal risk tolerance.

What Is a Commodity?

A commodity is a raw material that can be bought, sold, or traded according to its value in producing other types of goods. Some commodities, like sugar or beef, may be consumed directly.

Understanding Commodities

Many of the things you use or consume in everyday life start off in commodity form. For example, the gas you put in your car is created by refining crude oil.

The hallmark of a commodity is that a unit of one type of commodity rarely differs substantially from another unit of that commodity. Thus one bushel of corn is equivalent to any other bushel of corn. One bar of gold is interchangeable with any other bar of gold.

This is quite different from traditional investments like stocks and bonds, where the quality of one stock can vary widely from another; or where one bond may get a triple-A rating and another is rated as junk.

Another difference is that the market forces that impact the movement of stocks or bonds often don’t apply to commodities, which are driven by supply and demand. So an inflationary period could hurt the performance of stocks or bonds, but might benefit commodities when the prices of certain goods rise.

This is one reason why commodities are considered alternative investments, which are not correlated with the movements of more traditional assets and thus can offer investors some diversification.

Trading Commodities

While stocks are traded on a stock exchange, such as the New York Stock Exchange (NYSE) or Nasdaq, commodities and commodities futures are traded on a commodities exchange, such as the New York Mercantile Exchange (NYME) or the Chicago Mercantile Exchange (CME).

The Chicago Board of Trade has established standards of measurement and grades of quality for different types of commodities that facilitate commodities trading. For example, there are 5,000 bushels of #2 yellow corn per corn contract, and corn can be traded on the spot or cash market, or the futures market.

💡 Quick Tip: While investing directly in alternative assets often requires high minimum amounts, investing in alts through a mutual fund or ETF generally involves a low minimum requirement, making them accessible to retail investors.

Alternative investments,
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Start trading funds that include commodities, private credit, real estate, venture capital, and more.

Commodity Types and Examples

Broadly speaking, commodities can be divided into one of two categories: hard or soft.

• Hard commodities generally must be mined or otherwise extracted from the earth.

• Soft commodities are sourced naturally either through agriculture or cultivation.

Hard and soft commodities can serve different purposes in the global economy and supply chain. Within these broader categories, you can further distinguish specific types of commodities from one another.

	Types of Commodities	Examples
Hard	• Energy • Precious Metals • Industrial Metals	• Aluminum Copper • Crude Oil • Diesel • Gold • Lead • Natural Gas • Nickel • Palladium • Platinum • Silver • Tin • Zinc
Soft	• Agricultural Products • Livestock	• Cattle • Coffee • Corn • Cotton • Orange juice • Palm Oil • Pork • Soybeans • Sugar • Tea • Wheat

Types of Commodities

Examples

Hard

• Energy

• Precious Metals

• Industrial Metals

• Aluminum Copper

• Crude Oil

• Diesel

• Gold

• Lead

• Natural Gas

• Nickel

• Palladium

• Platinum

• Silver

• Tin

• Zinc

Soft

• Agricultural Products

• Livestock

• Cattle

• Coffee

• Corn

• Cotton

• Orange juice

• Palm Oil

• Pork

• Soybeans

• Sugar

• Tea

• Wheat

Hard and soft commodities may be traded globally but have a smaller geographic footprint in terms of where they’re sourced from.

For example, nearly 100 countries around the world produce crude oil, but five countries are responsible for 52% of the supply. China, meanwhile, is the world’s largest producer of wheat, generating around 17% of total production.

How Are Commodities Traded on the Stock Market?

Commodities are most often traded on an exchange using futures contracts. A commodity futures contract is an agreement to either buy or sell a specified quantity of a commodity at some future date at a predetermined price. It’s important to note that commodities futures are not regulated by the Securities and Exchange Commission.
Futures are not the only way to trade commodities, however. Investors may also choose to pursue:

• Direct investment via cash (on the spot market)

• Mutual funds

• Exchange-traded funds (ETFs)

• Exchange-traded notes (ETNs)

• Commodity-linked stocks and bonds

Of these options, direct investment tends to prove the most difficult for individual investors. Trading commodities through direct investment requires the exchange of physical goods. However, physically holding one ton of wheat or 1,000 head of cattle isn’t a realistic expectation for most commodities traders.

Mutual funds and ETFs can offer an easier access point to the commodities market while allowing investors to diversify. Rather than tying up investment dollars in a single commodity, an investor may diversify across several different types of commodities within a single fund or ETF.

Regardless of how someone invests in commodities, there are real risks to weigh. Commodities can be highly volatile as there are a variety of outside factors that can influence the direction in which prices move.

💡 Quick Tip: Did you know that opening a brokerage account typically doesn’t come with any setup costs? Often, the only requirement to open a brokerage account — aside from providing personal details — is making an initial deposit.

What Determines Commodities Prices?

Supply and demand play an integral role in determining how commodities are valued. When supply exceeds demand, e.g. if there were a drop-off in the demand for copper, the price of that commodity would also likely drop. But if a new technology like AI emerges, creating demand for precious metals, that could drive some commodities prices up.

Global events, such as widespread flooding or war can also trigger fluctuations in commodity prices.

Volatility in commodities pricing can have far-reaching effects on the global economy. Research from the International Monetary Fund (IMF) suggests that swings in commodity prices, meaning what a country pays for its imported commodities vs. what it collects for exported ones, have the potential to hinder long-term economic growth, particularly for those countries that are significant exporters.5

The IMF also determined that instability in commodity prices may also increase volatility in domestic inflation. Rising prices for basic domestic goods, such as food or energy, can be especially burdensome in countries that have developing economies.

The Takeaway

What are commodities? Commodities are all around you, from the clothes you wear to the foods you eat, to the technology you use at home and at work.

Within the financial markets, commodities play an important role in price regulation for consumer goods. As an investor, commodities trading can open up new avenues to diversification, though it’s wise to consider how these investments align with your personal risk tolerance.

Ready to expand your portfolio's growth potential? Alternative investments, traditionally available to high-net-worth individuals, are accessible to everyday investors on SoFi's easy-to-use platform. Investments in commodities, real estate, venture capital, and more are now within reach. Alternative investments can be high risk, so it's important to consider your portfolio goals and risk tolerance to determine if they're right for you.

Invest in alts to take your portfolio beyond stocks and bonds.

FAQ

What Is a Commodity vs. a Stock?

A commodity is a raw material that’s used to create something else, such as crude oil that’s refined into gasoline or wheat that’s used to produce bread. Whereas a stock represents an ownership share in a company.

Are commodities riskier than stocks?

Commodities can be riskier than stocks because they’re often speculative in nature and their pricing can be highly volatile. Some types of commodities may prove more stable than others, though it’s important to consider how supply and demand may affect pricing.

What is the safest commodity to invest in?

There are no “safe” investments, and there is always the risk of loss when investing. With commodities, choosing one that is more insulated from fluctuations in pricing can be beneficial, but this can be difficult to predict. Gold and some precious metals may fare well when inflation rises, or there’s increased uncertainty in the markets about interest rates. Again there are no guarantees.

About the author

Rebecca Lake

Photo credit: iStock/deyanarobova

SoFi Invest®

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

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Start trading funds that include commodities, private credit, real estate, venture capital, and more.

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