Investing and speculating are two distinct approaches to participating in financial markets. While the objective of both is to grow capital, it is important to understand key differences between the two. Generally speaking:
- Investors hold positions for longer periods of time and assume moderate risk
- Speculators take shorter-term trades with significantly greater risk.
Characteristics of Investing
From a financial context, investing is buying of an asset for the long-term, with the expectation of the asset appreciating in value over time. (Think “buy and hold.”) A “return on investment” is achieved when the investor sells his or her position for a profit. Investment income can also be obtained via dividends and interest payments.
Although investing can be considered less risky than speculating, it involves inherent risk and investment approaches vary based on each individual investor’s risk tolerance.
Examples of common financial investments include:
- Mutual funds
- Government bonds
- Retirement plans
- “Blue chip” or value stocks
- Certificates of Deposit (CDs)
- Savings Accounts
Characteristics of Speculating
Compared to investing, speculating involves significantly greater risk and usually implies short-term trading. Speculators put their capital at risk with the intention of only holding a position for a short period before exiting. “Day traders” fall into this category.
A speculator’s objective is to make a quick profit from a price change either up or down, and speculators often incorporate both long and short trading strategies into their approaches.
Similar to investing, each trader’s “speculative” risk tolerance will dictate their approach to markets.
Examples of financial speculation include:
- Derivatives markets (Futures, Options on Futures, Options on Equities, CFDs)
- Growth stocks
- Hedge funds
- Venture capital funds
- Leveraged & Inverse ETFs
Key Differences Between Investing & Speculating
- Timeframe: Investors normally plan to hold an investment for a longer time horizon, while speculators hold positions for a much shorter time period.
- Market Direction: With few exceptions, investors normally trade the long side of a market. (Think “buy low sell high.”) Speculators trade markets both long and short seeking opportunities in both directions.
- Risk: While speculating often involves greater risk than investing, investing carries risk of its own and should never be considered low-risk or risk-free.
- Analysis Approach: Generally speaking, investors incorporate more fundamental analysis into their methodology while speculators rely more on technical analysis such as price trends, order flow, support & resistance and other technical indicators.
Can a Speculative Trade Also Be an Investment?
Sometimes it can be difficult to discern whether a trading approach is investment or speculation. Some trades can fall into both categories.
For example, based on a thorough market analysis, a position trader might take a long-term position in corn futures which he plans on holding for many months or even years. In this case, although trading a more speculative financial vehicle, this trader is approaching the market with an investor’s mindset.
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