Insight

Are you speculating or investing?

28 September, 2021

There are unlimited opportunities for your money, but how do you decide which to pursue? Generally speaking it comes down to what you want from your money and whether you want to speculate or invest. Edward Eyles explores the options in this article.

This is not financial advice, factual information only.

Due to a combination of thousands if not millions of variables, we are in a truly unprecedented economic environment, and there are unlimited opportunities for your money. Shaquille O’Neil  and Mark Wharlberg are telling you to place bets on your favourite sports, and every inch of the internet is covered in another cryptocurrency offer. Meanwhile interest rates and government stimulus fuel property markets, and the daily news continues to boast share market all-time highs.

So how do you decide on which opportunity to pursue? Generally speaking it comes down to what you want from your money. If you are looking for a good time then you’re better off taking Shaq and Marky Mark’s advice. If you’re feeling risky and want to stake the kitchen renovation then you’re probably leaning toward cryptocurrencies. But If you’re in it for the long-haul, then history suggests you should consider more traditional asset classes.

When you consider your options, it’s crucial that you interrogate your own intentions, particularly with opportunities that flaunt significant short-term benefit. The herd effect is a well known behaviour amongst animals and humans, and it is also observed in financial markets1. The result of which means that by the time you’ve heard of the opportunity, it is likely too late for you to benefit from it, though this won’t stop that internal voice (and your friends) from telling you to join in the fun.

To combat the noise and evaluate the opportunities, we can consider a paper from the Journal of Behavioural Addictions2. Gambling, speculating and investing have distinct characteristics, and almost every opportunity you can think of should fit somewhere on this spectrum.

Gambling

Speculation

Investment

Activities  & instruments

Fairly distinctive from speculation and investmentFairly distinctive from  gambling, less distinctive from investmentFairly distinctive form gambling, less distinctive from speculation

Time frame

Usually shortVariableLong

Level of risk

Usually highUsually highLow

Expected returns

Usually negative with low variabilityMixed & highly variableUsually positive and somewhat variable

I don’t profess to be a cryptocurrency expert, nor do I advise on any, and writing on the subject immediately opens us up to criticism from the religious. The professional investing world is divided on the validity of a digital ‘coin’ as an asset, or a real currency.

When I hear the word currency, I think of a known value that I can use as means to pay for short-term or long-term expenses.

Of course, cryptocurrencies are ‘riskier’ than cash, yet El Salvador has recently adopted Bitcoin as legal tender3, so what are they? I’m not qualified to answer this question, however, I do know that I can’t rely on them as a steady store of value, nor can I rely on them for portfolio income or capital growth tied to its underlying financial condition (as with shares), so, personally, I can’t conclude that they have a place in a long-term portfolio.

Something that Arthur et al’s research doesn’t address is an individual’s skill or knowledge in determining whether an opportunity is gambling, speculation or investment. There are many people who believe they are, or can be, skilled gamblers. In fact, an old friend of mine used to run a horse betting scheme, where he believed he had an algorithm that could systematically determine a race winner before the gun. The system seemed to be profitable to start with, however, a few months later and his scheme was a loss maker. Gambling is gambling, the odds are often known and pinned against the person making the bet, and towards the party taking your money.

There is a world of junk out there called ‘collectibles’ that the right person can turn into money. I know a financial adviser who is experienced with a series of tabletop playing cards that he played in high school. He doesn’t play anymore, but he can take $200 of cards from Gumtree and turn it into $2,000 with a bit of effort. This isn’t a speculation for him, this is investing, because he has the skills and the knowledge to do so. If I were to try the same thing, it would be nothing short of speculation, I know nothing about the game.

There is an interesting space building in digital collectibles called non-fungible tokens (NFT). People are purchasing these ‘collectibles’ and, some, are making considerable money on sale. Was buying digital art a skilled purchase to begin with? The jury is still out, but you can guess my response.

If you’ve been around the investment world for a while then you will have likely owned some shares, and there’s a good chance you’re holding Australian and International shares in your superannuation account, along with others such as Bonds, Real Estate Investment Trusts (REITs) and Cash. These assets have been held in long-term investment portfolios for over a hundred years and have built considerable wealth for the disciplined. However, simply buying these assets does not mean you are investing, the purpose of your purchase is what will determine this.

‘Skill’ and its relevance (or lack of) in investment management has been debated for decades, and surveys show us that managers who are placing their value on outperforming the market are unlikely to succeed in the long-term4. Regardless of how you are investing, it should be done under a well-considered investment strategy.

At Shadforth there are five pillars to the investment philosophy that we implement for our clients:

  1. Risk and reward are related (investment markets reward investors for taking risks)
  2. Markets work (invest, don’t speculate)
  3. Diversification is essential (spread your risks)
  4. Costs and taxes matter (focus on what you can control).
  5. Discipline is paramount (advice + patience = great outcomes).

You can download more information about our investment philosophy here.

Edward Eyles is a Representative of Shadforth Financial Group Limited ABN 27 127 508 472 AFSL 318613

1 Markus K. Brunnermeier, Asset Pricing under Asymmetric Information: Bubbles, Crashes, Technical Analysis, and Herding, 2007, The Economic Journal, Volume 112, Issue 483, November 2002, Pages F571–F572, https://doi.org/10.1111/1468-0297.t01-17-00083

2 Arthur, J. N., Williams, R. J., & Delfabbro, P. H. (2016). The conceptual and empirical relationship between gambling, investing, and speculation, Journal of Behavioral Addictions J Behav Addict, 5(4), 580-591. Retrieved Sep 18, 2021, from https://akjournals.com/view/journals/2006/5/4/article-p580.xml

3 https://www.forbes.com/sites/enriquedans/2021/06/14/bitcoin-and-latin-american-economies-danger-or-opportunity/?sh=389171f75bfe

4 https://www.spglobal.com/spdji/en/research-insights/spiva/