Do You Know The Difference Between Investing And Speculating?
As an investor, whenever you find a good company selling at very undervalued prices, you can make large gains fairly quickly. But in most cases, gains from sensible investments don't happen that fast. Even so, it's thrilling when that does happen although, it's not quite the same feeling as doubling your money in only a week or two. Finding those short, fast gainers is the art of speculation.
Most investors don't understand the difference between the two, and many wrongly think that speculation is a dirty word. However, investing and speculation are both honorable pursuits, but they have different game rules and different perspectives.
Speculation may be well worth giving some consideration, especially if you have always been cautious, because conservative investors tend to be especially canny at speculating without tripping over their own high hopes.
It may come as a surprise to you to learn that Warren Buffett is a talented speculator. That's what he was doing when a few years ago he suddenly amassed a huge position in silver.
So what is the difference between investing and speculation? The obvious difference is in time. Speculations tend to be special opportunity plays that unfold much faster, tho not always. Investments tend to pay off more slowly, but again, not always.
The principal difference between investing and speculating is in the purpose for holding the stock, or bond, or whatever. The goal of investing is an income stream and a growing net worth. And in the case of good companies that either don't pay dividends or pay very small ones, an investor will look at return on equity - which is the company's profits compared to what the shareholders put in (the shareholders' equity) - because that is a measure of just how well the managers are building value.
The purpose of a speculation is solely to buy an asset and then sell it to someone else for a profit, and to do it very soon. The basis of speculation is the other guy's wants, not the value of the asset.
Speculation is inherently more risky than investing, because you are trying to gauge how someone else will feel about your asset down the road. Very often, speculators don't even care about the existing value or condition of the speculative asset. That increases risk. But in the stock market, you can cut that risk down when you speculate by paying heed to the asset value and making your play at the right time.
There is one other great difference between investing and speculating. Value investing takes a lot of courage. You tend to be going against the crowd if you want to buy a company when it's cheap, or sell it when it's popular and the price is up. But scary as it may be, if you've done your assessment of the company's worth well enough at the outset, it is the safest form of investing. The price of a well-chosen value stock may bounce around for a while, but you have a very, very high probability of being right within a year's time.
Because investing is safer over the longer run, you can put serious money on your investment choices, be that your retirement funds or even your entire nest egg - because given time and caution in making sound choices, the risk that you will lose money is quite low.
In speculation, the risk of being wrong in the long run is usually somewhat higher, since you are looking for the immediate trend to pay off. The risk on each choice is higher than with investments, because you are not waiting around for the asset's inner worth to prevail. You won't be collecting dividends or growing shareholder equity, even though the asset may be capable of both. But whenever you speculate, you are buying in order to sell, and thus, you count on other people's perceptions and moods. You are trying to guess what people will want and how they will react. Thus whenever you speculate, you need to be prepared to have some trades go wrong, and it is your strategy that keeps you healthy. You need to be sure not to place too much of your money on any one trade.
With investments, each trade's quality is most important. With speculation, the strategy is most important. So if you crave a bit of excitement or merely want to try your hand at speculating, it can be rather interesting and profitable as well, just as long as you are cautious and do not get greedy and try to break the bank!
* * * * *
Most investors don't understand the difference between the two, and many wrongly think that speculation is a dirty word. However, investing and speculation are both honorable pursuits, but they have different game rules and different perspectives.
Speculation may be well worth giving some consideration, especially if you have always been cautious, because conservative investors tend to be especially canny at speculating without tripping over their own high hopes.
It may come as a surprise to you to learn that Warren Buffett is a talented speculator. That's what he was doing when a few years ago he suddenly amassed a huge position in silver.
So what is the difference between investing and speculation? The obvious difference is in time. Speculations tend to be special opportunity plays that unfold much faster, tho not always. Investments tend to pay off more slowly, but again, not always.
The principal difference between investing and speculating is in the purpose for holding the stock, or bond, or whatever. The goal of investing is an income stream and a growing net worth. And in the case of good companies that either don't pay dividends or pay very small ones, an investor will look at return on equity - which is the company's profits compared to what the shareholders put in (the shareholders' equity) - because that is a measure of just how well the managers are building value.
The purpose of a speculation is solely to buy an asset and then sell it to someone else for a profit, and to do it very soon. The basis of speculation is the other guy's wants, not the value of the asset.
Speculation is inherently more risky than investing, because you are trying to gauge how someone else will feel about your asset down the road. Very often, speculators don't even care about the existing value or condition of the speculative asset. That increases risk. But in the stock market, you can cut that risk down when you speculate by paying heed to the asset value and making your play at the right time.
There is one other great difference between investing and speculating. Value investing takes a lot of courage. You tend to be going against the crowd if you want to buy a company when it's cheap, or sell it when it's popular and the price is up. But scary as it may be, if you've done your assessment of the company's worth well enough at the outset, it is the safest form of investing. The price of a well-chosen value stock may bounce around for a while, but you have a very, very high probability of being right within a year's time.
Because investing is safer over the longer run, you can put serious money on your investment choices, be that your retirement funds or even your entire nest egg - because given time and caution in making sound choices, the risk that you will lose money is quite low.
In speculation, the risk of being wrong in the long run is usually somewhat higher, since you are looking for the immediate trend to pay off. The risk on each choice is higher than with investments, because you are not waiting around for the asset's inner worth to prevail. You won't be collecting dividends or growing shareholder equity, even though the asset may be capable of both. But whenever you speculate, you are buying in order to sell, and thus, you count on other people's perceptions and moods. You are trying to guess what people will want and how they will react. Thus whenever you speculate, you need to be prepared to have some trades go wrong, and it is your strategy that keeps you healthy. You need to be sure not to place too much of your money on any one trade.
With investments, each trade's quality is most important. With speculation, the strategy is most important. So if you crave a bit of excitement or merely want to try your hand at speculating, it can be rather interesting and profitable as well, just as long as you are cautious and do not get greedy and try to break the bank!
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posted by Bob Moser at
6:44 PM
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