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Investment or SpeculationInvestment or speculation: What's the difference?Many non-professional traders in the retail Forex community and other trading and investment communities seem to get confused about the difference between an investment and speculation. In this short article I am going to attempt to define both investment and speculation and provide some examples of each so that the question is that actually an investment or is just it speculation? will hopefully be a little easier to answer in the future. Speculation, as the word implies, involves taking calculated risks on things that you can't be certain about. But I believe there is a little more to separate investments from speculative gambles than uncertainty as the future will always be at least a little uncertain and that is true of the safest investments too. I believe that the real difference between an investment and speculation is how one intends to profit from the asset in question. If an asset is bought with a view to profiting from the revenue that the asset can generate then that, in my view, is an investment. However, if an asset is bought in the belief that the market value of the asset will soon appreciate and one is planning to profit from selling it once it has risen in price then that, I believe, is speculation. Of course not all financial purchases can be classed as either investments or speculative gambles, there are other reasons people make these purchases, such as hedging other positions for example. But in this article I will only concern myself with investing Vs speculating. Trading currencies: Investment or speculation?In the case of the Forex market, currency trading is almost always speculation. I often like to think of the Forex market as the world's largest poker game. Occasionally large corporations and financial institutions buy currencies to hedge and protect themselves, or because they need a large amount of foreign currency to pay a foreign bill or make a foreign purchase, but as currency trading goes, it's almost always just pure speculation. Almost no FX trader buys a currency to collect interest payments and such like. To be sure, many traders do engage in the carry trade but such trades are usually highly leveraged and the trader is therefore first and foremost betting that the currency they have bought won't fall in value against the currency they used to buy it. FX traders are speculators and speculation is essentially gambling, albeit a form of gambling that involves calculated risk and educated guesses rather than sticking the lot on red number 7. Buying shares: Investment or speculation?Shares are one of those assets classes that are bought both for speculative and investment purposes, although there are no doubt a lot of small equity traders who confuse their speculative bets for real investments. Whether one is investing or speculating when they buy shares really depends upon why they are buying them. If you buy shares because you believe that the companies future earnings per share justifies the price you are paying for the shares then you're probably an investor. If however, you are buying shares in the belief that the price will soon rise and you hope to sell them for more than you paid for them in the near future then you're essentially speculating; you're really just hoping that someone will pay you more tomorrow than you paid today. Investors who buy shares will therefore care a lot about the fundamentals: things like the company's earnings, the net cash position on the company balance sheet and the value of the company's tangible assets minus its debts and liabilities etc... Speculators on the other hand will be primarily concerned with whether or not the price of a share is rising or whether it's likely to jump in the near future. Trading commodities: Investment or speculation?Like Forex traders, commodity traders are almost always just speculators. In fact, the commodities futures market was originally setup so that farmers and other commodity producers could guarantee the price they would receive for their goods in the future by shifting the risk onto speculators. Commodities aren't investments as they generate no revenue, traders can't buy commodities for their yields or their intrinsic value as there is none. Commodities are therefore usually just purchased for either their usefulness or for speculative purposes. Buying property: Investment or speculation?Like shares, property is one of those classes of assets that are bought by both investors and speculators alike. And again, whether one is an investor or a speculator will depend upon why they buy the property. If someone buys a property because they believe that the returns the property can generate in the form of rents justifies the price tag then they are an investor and even if the property falls in value it shouldn't matter to much to them as the property was bought for its rental yield, not its expect future resale value. Property speculators on the other hand are more concerned with what they believe their properties will be worth in the future as they are essentially gambling that whatever they pay for it today, someone else will pay them more for it in the future. |
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