What is the difference between speculating and investing?
I keep hearing people saying that a speculation is NOT an investment, but isn't it really just investment with high risk?
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Colloquially, there's no difference except for the level of risk (which is an estimate anyway).
Classically, investment is creating wealth through improvement or production. Purchasing a house with the intent to renovate and sell it for a profit would be an investment, as the house is worth more when you sell than when you bought it.
Speculation, on the other hand, is when you hope to make a profit through changes in the market itself. Purchasing a house, letting it sit for 6 months, and selling it for a profit would be speculation.
Speculation means putting your money on a hunch that some event may occur, depending on current circumstances and some future circumstances. So either you win huge or lose a lot.
Investment is a conscious decision made on well defined research and grounded on good reasons i.e. economy, industry, company reports etc.
Here is a link on wikipedia with more details on Speculation.
Classic investing guru Benjamin Graham defines "An investment operation is one which, upon thorough analysis, promises safety of principal and an adequate return." He contrasts this with speculation which is anything else (no thorough analysis, no safety of principal, or no adequate return).
The word "adequate" is important, since it contrasts adequate returns with those that are either lower than needed or higher than necessary to reach your goals.
I consider speculation to be a security purchase where the point is to sell it to someone for a higher price. Day-trading is completely speculative.
I consider Investment to be a purchase you make for its underlying value. You are buying it at that price because you believe the present value of the future payments is higher than the price you are paying. I may sell an investment if a higher price is offered than I think it's worth, or if the business situation changes, but I don't plan on it.
Hedging is a third type of security purchase, where you are decreasing your overall risk. If you are a hog farmer, selling hog futures on the CME is hedging, because it locks in the amount you get per hog, regardless of what the price of hogs does.
Commodities markets only have hedgers and speculators. Investors don't make sense, it doesn't have an underlying value.
Investing is balancing the desire for return against the various risks that your money is faced with. There's also a recognition that an investment will be in place for some extended period of time.
Speculation is seeking short-term maximum return, without protecting yourself against risk.
"Speculation" or "Speculators" is often thrown out as a pejorative, but you need speculation to have a healthy market.
Speculation is when someone else makes an investment you don't like.
The above is tongue in cheek, but is a serious answer. There are several attempts at separating the two, but they turn into moral judgements on the value of a pure "buy and hold" versus any other investment strategy (which is itself doubtful: is shorting an oil stock more "speculation" than buying and holding an alternative energy stock?).
Some economists take the other route and just argue that we should remove the moral judgement and celebrate speculation as we celebrate investment.
In my opinion the difference is semantic. A professional, or someone wanting to present an air of competence, is more likely to talk about investing in shares, as the word investment carries with it connotations of effort, energy and a worthwhile result.
Whereas, the word speculation implies the hope of gain but with the risk of loss.
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