Warren Buffet has two rules for investing in the stock market:
Rule Number 1: Never lose money.
Rule Number 2: Never forget Rule Number 1.
One of the world’s most successful investors’ philosophies seems like an excellent introduction to discuss the differences between investing in the stock market and speculating.
Simply put, investing involves acquiring an asset with the goal of appreciation and income. Speculating is about assuming substantial risk with the expectation of significant gain.
One involves an in-depth fundamental analysis of the investment. The other is more of a hunch, a roll of the dice, a gambler’s “put everything on black” mentality with the hope of getting lucky.
One is science. The other is art.
Speculating vs. Investing in the Stock Market
Speculating among younger, less experienced investors is on the rise. The COVID-19 pandemic certainly helped to fuel this. Many millennials ─ lacking diversions such as sports, bars, and other recreation ─ turned to day-trading without any experience or skill. Many used their stimulus checks to fund their day-trading experiment, and a lot of these amateur investors even made money. However, it’s virtually impossible to do this consistently. Here’s why.
Speculating is a bet. Inexperienced investors tend to invest in things and companies that make them feel good. They purchase stocks in anticipation of making a quick killing.
Emotional buying is one of the worst strategies an investor can employ. Equally dangerous is not having a game plan. For example, you may love technology, but investing everything you have only in technology stocks can be catastrophic when the sector suffers.
Investors must strategically think when buying and selling investments to be successful over the long term. Investing is purposeful and should be done with an investor’s short and long-term goals in mind. Some of the most basic rules of investing for the best chance of success in the stock market include:
- Focus on the long-term
- Diversify your portfolio
- Don’t buy (or sell) because everyone else is
- Never try to time the market
- Follow a disciplined investment approach
- Don’t let emotions cloud your decisions
Benjamin Graham, the Father of Value Investing and Buffet’s mentor, writes in his book, The Intelligent Investor, “If I observe the 65 miles per hour speed limit, I can drive the distance in two hours. But if I drive 130 miles per hour, I can get there in one hour. If I try this and survive, am I ‘right?’ Should you be tempted to try it too because you hear me bragging that it ‘worked?’ Flashy gimmicks for beating the market are much the same. In short streaks, so long as your luck holds out, speculating works. Over time, it will get you (financially) killed.”
A good example of this is what happened to the stock market in 2020 and continues in 2021. During the height of the pandemic, the market dropped approximately 35 percent. Then, everything recovered. It was like catching trout in a fish-laden stream; you could not miss. People made money, but it also gave many a false sense of invulnerability. After all, how many times have you heard someone thrust out their chest and proudly exclaim, “I made a lot of money this year in the market.” Unfortunately, we have heard this before – think back to the dot.com craze in the 1990s that eventually gave way to the dot.com bust.
Why Experience, Training, and Patience Makes a Difference
Registered Investment Advisors (RIAs), such as Access Wealth, approach investing differently. For starters, the approach is scientific and strategic. Investment advisors conduct an in-depth fundamental analysis of every investment they recommend, which could include mutual funds, ETFs, bonds, and stocks. Rather than investing based on a hunch, an RIA analyzes data and purchases investments in anticipation of long-term, steady growth.
On the other hand, amateur day-traders typically employ technical analysis when evaluating stocks, ETFs, commodities, etc. Technical analysis is the forecasting of future financial price movements based on an examination of past price movements. It can work, but technical analysis alone is not enough to earn profits over the long term.
Investment advisors understand that patience is a virtue. They are trained to make decisions based on in-depth analysis and not react to short-term market swings. They build portfolios that align with an individual’s goals giving them the best chance to succeed over the long term.
Unlike many investors who try to do it themselves, RIAs typically have access to a team of knowledgeable professionals with years of experience. At Access Wealth, we have an Investment Committee that regularly meets to discuss and analyze investments currently used by the firm as well as constantly evaluate alternatives. We choose investments that fit the Committee’s mission to help clients meet their financial goals by providing them with investment strategies focused on the long-term perspective of the markets while delivering appropriate risk-adjusted returns as measured against industry-standard benchmarks.
There is a significant difference between how investment advisors build portfolios and how a day-trader builds a portfolio. One of the best ways to invest for the long-term is to invest in a diversified portfolio where not all the investments go up together and not all the investments go down simultaneously. This method helps to protect your portfolio from large market swings. Your asset allocation should be directly tied to your personal and financial goals.
Speculators, by definition, never make investments hoping those investments do not all go up at the same time. On the contrary, that is precisely what they hope for. This also means everything can go down together. The latter is never contemplated by the speculator who thinks that successful investing is where everything always goes up. But as Benjamin Graham said, “You must never delude yourself into thinking that you’re investing when you’re speculating.”