6

Every other week money is deducted from my paycheck to purchase mutual funds inside my 401k, every so often I dump money into an individual investment account to purchase stocks, mutual funds, and ETF's.

The myriad of commercials I see on TV every day, the multitude of articles I read on the internet, as well as my discussion with friends refer to this activity as "investing."

My question is, in each of these scenarios an individual typically purchases some sort of security (a stock, a mutual fund, an ETF, or as I guess some bonds can be traded, bonds) that they hope to sell to a different person or entity at a later date for a higher value. Is this activity speculation, or investing? Am I wrong when I correct my friends and refer to their activity as speculation, not investing?

My mind considers situations like "If I buy this equipment, I could produce more widgets, or sell more widgets," as an investment. I.e. an investment is something that allows you to produce more, earn more, sell more, etc., which of course has risk associated with it.

Trading stocks, mutual funds, ETF's, or buying a commodity like "gold" to me seems like a 100% passive activity where you hope and plan that in the future someone will give you more money for your stock, mutual fund, ETF, or gold, than you paid for it. This to me seems like speculation.

4

This depends on what your definition of the word is is.

Strictly speaking, you are only investing in a company when you buy stock from them somehow. This is usually done during an IPO or a secondary offering. Or, if you are someone like Warren Buffet or an institutional investor, you strike a deal with the company to buy shares directly from them. Otherwise, your money goes to someone else.

Merriam-Webster defines speculate as

1b: to review something idly or casually and often inconclusively

However, it also defines it as:

2: to assume a business risk in hope of gain; especially : to buy or sell in expectation of profiting from market fluctuations

The typical use of the term stock speculation vs stock investing involves definition 1b. This alludes to the idea that little to no research was done about the stock. This may be due to a lack of time, interest, knowledge, etc., or it may be due to a lack of information. The former usually has a negative connotation. The latter may have a negative connotation, though usually the connotation is one of greater risk.

Strictly speaking, definition 2 includes investing as you define it along with investing in securities/commodities.

  • Okay... I like this answer... and I think it answers my question. I'd be curious to hear more thoughts on the use of "investing" in commercials, literature, amongst friends, etc. which is fundamentaly definition 2 at heart, as you put it. – Glorified Plumber Sep 18 '11 at 17:46
  • 1
    @Glorified Investing is a rather broad term. Definition #2 of speculate encompasses investing as you describe. With both terms context is important. When we speak of investing in stocks, we are talking about a "proxy" to investment in the issuing company. That's because we don't have access to make a purchase during an IPO. The stock market is called a secondary market as a result. The stocks sold during an IPO allow a company to make the type of investment you describe. If you've researched your stock purchase, you are investing as you describe it, but it's done by proxy. – George Marian Sep 20 '11 at 8:07
2

Every investment comes with a risk. There is also a bit of speculation involved. In there is an anticipation that one expects the value to go up in normal course of events.

By your definition "If I buy this equipment, I could produce more widgets, or sell more widgets," as an investment.

Here again there is an anticipation that the widgets you sell will give you more return. If you are investing in stock/share, you are essentially holding a small portion of value in company and to that extent you are owining some equipment that is producing some widget ....

Hence when you are purchasing Stocks, it would be looked as investment if you have done your home work and have a good plan of how you want to invest along with weiging the risk involved.
However if you are investing only for the purpose of making quick bucks following so called hot tips, then you are not investing but speculating.

2

I'd argue the two words ought to (in that I see this as a helpful distinction) describe different activities:

"Investing": spending one's money in order to own something of value. This could be equipment (widgets, as you wrote), shares in a company, antiques, land, etc. It is fundamentally an act of buying.

"Speculating": a mental process in which one attempts to ascertain the future value of some good. Speculation is fundamentally an act of attempted predicting.

Under this set of definitions, one can invest without speculating (CDs...no need for prediction) and speculate without investing (virtual investing). In reality, though, the two often go together. The sorts of investments you describe are speculative, that is, they are done with some prediction in mind of future value.

The degree of "speculativeness", then, has to be related to the nature of the attempted predictions. I've often seen that people say that the "most speculative" investments (in my use above, those in which the attempted prediction is most chaotic) have these sorts of properties:

  • Held for short period (day trading or, worse, high-frequency trading being the extremes)
  • Based on technical analysis rather than fundamental analysis (or worse, gut feeling).
  • Use stocks with high volatility, such as penny stocks
  • Rely solely on returns via a sale or short, as opposed to things like dividends.
  • Are not diversified.

And there are probably other ideas that can be included.

Corrections/clarifications welcome!


P.S. It occurs to me that, actually, maybe High Frequency Trading isn't speculative at all, in that those with the fastest computers and closest to Wall Street can actually guarantee many small returns per hour due to the nature of how it works. I don't know enough about the mechanics of it to be sure, though.

  • The comment you make about CD's is more what I consider "investing" versus purchasing a stock, commodity, or derivative of either, which pushes gain 100% to the hope that someone will give you more money than you paid at some time in the future. – Glorified Plumber Sep 18 '11 at 17:48

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