Are you an investor, speculator or a gambler?

Warren Buffett rightly states, “Only when you combine sound intellect with emotional discipline do you get rational behavior.” In today’s scenario of economic uncertainty and market volatility, it’s imperative to understand the emotions that drive an investor’s decisions. Is it greed, fear, optimism, or something else? Each one of them responds differently to the stock market, which helps us to categorize them as speculators, gamblers, or investors. 

Investing, gambling, and speculation are indeed three different ways of investing in stocks. Before moving on, let us understand each one of these for clarity. 

Speculation

Speculation is derived from the Latin word ‘speculere,’ meaning to look at from a distance. That is precisely what the speculation represents wherein the individual looks into the future out of the window of the present. When a speculator anticipates that the price of a stock is going to rise, he will buy it for selling in the future at a profit. He buys or sells shares in the hope of having a more significant potential gain than the amount he would risk. He is ready to take on these risks as he is aware that the more danger he assumes, the higher are his potential gains. However, he is also mindful of the fact that he may lose more than his potential profit. Under speculation, the investor does take calculated risks, but the outcome is uncertain. Typically speculation is short term in nature, though some investments may have a long term horizon too. The expectation of a speculator is more on high returns rather than high probability returns. Speculation is practiced in markets where the high volatility in the prices of securities.

Some of the mistakes made by a speculator

• Thinking one is investing when you are speculating. Very often, several people don’t know how to pick a fundamentally strong stock or to invest systematically in the market. They may be convinced that they are investing, while in reality, they are speculating.

• Speculation in the stock market by getting seriously involved is quite dangerous both financially and emotionally.

Gambling

The gambler is usually looking at getting rich quick or with the least effort. They aren’t paying attention to probability, and they never work out the odds. Gambling in the stock market might get you lucky once in a while; however, in the end, there’s a substantial risk of losing. In the case of gambling, the probability of losing an investment is usually higher than the possibility of winning more than the investment. When compared to speculation, gambling has a much higher risk of losing the investment. The gambling instinct is a part of human nature, and one needs to suppress this to avoid fooling yourself into confusing speculation with investment.

Investing

Investing is, however, very different from gambling or speculating. Investing involves a process of being secure in fundamentals, carrying out some research, and having confidence in a company’s financial details. A careful investor makes decisions based on sound information, not stirred by hope or emotion.

The prudent Investor builds his portfolio after careful deliberation by buying small stakes in the companies which display growth potential. The companies grow, and the shareholders receive their share of profits. What most people fail to understand is that the stock market can be a great money multiplier provided one makes the right choice of investments and stay invested for long. 

Investing also involves risk, including the potential loss of principal, since no strategy can guarantee a profit, and few protect against damage in periods of declining values. The key to investing is not to get emotionally involved.

This primary research though may look time-consuming but will lead you to sow the right seeds of investment that will multiply to give reliable results. Hence, investing is far more rewarding in every way as compared to gambling or speculating. And, if you are looking at wealth creation, then investing is the approach that you should adopt.

Therefore the critical elements in investing would involve a

• A thorough analysis of the company and soundness of its underlying business before investment.

• You need to protect yourself against severe losses;

• One must expect adequate returns, not extraordinary performance.

The grid highlights the differences between investors, speculators, and gamblers.  

Where do you fit in?

A person can be all three at the same time. You might have the majority of your portfolio in conservative investments, speculate with a small portion, and take occasional trips to the Casino. Most of us are both investors and speculators in our investment lifestyle. You can be successful in both roles as long as you keep the difference evident in your mind. For every buy or sell decision, ask yourself if it is an investment or speculation — then treat it accordingly.

One must keep in mind that investing and speculation involves risk and reward. If the investment goal is for consistent returns from the market, then you should start investing instead of speculating. Investors play a crucial role in maintaining liquidity in the market. In contrast, speculators, on the other hand, play a role in absorbing excessive risk and providing required cash, at the time when investors do not participate.