Introduction
Since the first stock exchange in Amsterdam during the 17th Century, value investing has been widespread. “Investors” would study stocks and base their investing decisions on how the company was currently performing and its future potential. However, in the 21st century, there was a paradigm shift in what consists of investing due to the bullish stock market trends and the introduction of high volatile cryptocurrency. Proponents of stock-trading mixed investing withing speculation and masses considered the two strategies intertwined. However, there are huge differences between the two terminologies. The article “Investor vs Speculator” will help distinguish the two strategies and determine the most optimum strategy.
Investors: The rational stakeholders of the stock markets
Investors are individuals who make sound decisions. Investors invest funds in assets that cover the principal amount and secure an adequate return. An investor has high confidence and is usually quite certain that they will be able to recover the initial investment and make profits, even under unforeseen circumstances.
High confidence does not mean that risk has been completely eliminated. Instead, the investor minimizes risk by conducting due diligence on companies where the investor analyzes the organization. Evaluation of different assets, sectors, and trends is carried out. Hence, investors utilize fundamental and technical analysis to determine their investment plan.
Investor Portfolios
The rational investors diversify their stock portfolios and accumulate various forms of assets. The portfolios usually consist of the following:
Savings Accounts
These are the safest investment options with no risk. The government guarantees funds in a savings account up to a certain amount. Moreover, the rate of return (interest) is also fixed. Hence, investors know the exact amount that they’ll earn.
Government Bonds
Government bonds are also safe options since the government can easily print money and settle the obligations. Hence, principal and interest are guaranteed.
Blue Chip Stocks
Although blue-chip stocks such as Lucky Cement Limited carry some sort of risk, they are relatively safe investments. Blue-chips is referred to the categorization of those companies which are unlikely to go bankrupt, have a strong financial position, and have a positive track of earnings.
Value Stocks
Value stocks basically refer to those shares with a relatively lower price compared to their fundamentals and future potential of earnings. Investors use these undervalued shares as bargain stocks and acquire them, hoping that the market will soon realize that those shares are undervalued, and an increase in demand would push the prices higher.
Private Equity Funds
This source of investing usually comes from institutional investors who contribute massive funds for extensive periods. Investors aren’t directly involved in the investing processes, and experts and equity fund employees set the portfolio.
Speculators: Gambling and risk-maximizing individuals
Having identified the true characteristics of investors and the type of investments they make, the next question which arises is who speculators are.
Speculation is where capital is committed with the “hopes” that a return would be made. Benjamin Graham identified speculating as “any investment not covering principal and an adequate return.” There is no certainty that the initial investment will be recovered.
Speculative Techniques
What activities differentiate speculation from investing?
Derivatives trading
Derivatives trading includes options, futures, and Contract for Differences (CFDs). The use of leverage makes derivatives speculative.
Short selling
This technique is usually speculative unless it is some part of a hedging strategy. Short selling involves betting on a drop in a share’s price even though there is no certainty that the price will fall.
Startup Investing
Investing in startups is also considered highly risky and very speculative since such organizations have minimal revenue and no track record. Unless they’ve developed an effective business model, there is no guarantee of return on investment.
Investor vs Speculator
Investor vs Speculator! Both are involved in unique practices. But what exactly are the differences between the 2. The differences will be discussed in terms of risk level, due diligence, and orientation.
Risk level
Speculators take huge risks, similar to gambling, when guessing the return instead of basing it upon fundamentals. On the other hand, investors take very minimal risks y by basing investment decisions on a reasonable judgment. This reasonable judgment is established through a fundamental analysis of the company.
Due Diligence
Benjamin Graham, the father of value investing, talked about due diligence in his book, “The Intelligent Investor.” He said,” An investment operation is one which, upon thorough analysis, promises safety of principal and an adequate return. Operations not meeting these requirements are speculative.”
Investors carry out intensive due diligence before making their investment decision. However, speculators do not perform due diligence and base their decisions on guesses.
Timeline
Timing of investment is also a factor to keep in mind. Investors usually make long-term investments and believe that shares will reach their actual value in the long run. However, speculators make short-term investments.
Orientation
Prominent differences can be noted in terms of orientation. Speculators. Being greedy in nature, try to seek abnormal profits, and are profit-oriented individuals within the market. However, investors are value-oriented individuals who try to determine the intrinsic value of shares and base their decisions on how under or over-valued the shares are.
The most optimum path: Value Investing or Speculation
There are huge differences between the two modes. However, which path minimizes risk and maximizes the return. Keeping in mind Ben Graham’s view on the market, “In the short-term, the market is a voting machine, in the long-term, a weighing one,” value investing seems like the most rational and least risk-taking path.
Value Investing has multiple benefits. It makes the most out of compounding by reinvesting profits into the company. Furthermore, obtaining stocks that are selling below their intrinsic value can lead to maximized returns in the long run. Lastly, a prime benefit of value investing is low volatility since the long run is being targeted. On the other hand, speculation has been discouraged since it results in unreasonably high/low prices. In the 21st century, economists believe that the rise in oil barrel prices to $100 was more due to speculation than due to demand/supply conditions. These unreasonable and volatile prices lead to the formation of bubbles that inversely impact investors and result in recessions. Hence, the investor approach is the most rational path.
