Online Trading & Investing by retail investors in South Africa & globally has growing very quicky in the recent few years. Many young people now call themselves investors & traders.
But investors and traders or speculators are both very different from one another in their goals, risk taking & use of money etc.
So, we will be discussing traits that distinguish investors from speculators and the motive for them doing what they do.
And we will try to understand if you are a speculator or an investor. We will discuss how they are different, what to avoid.
Definition of an Investor
An investor is someone who acquires underpriced or fairly valued assets and securities with the intention of keeping them to produce value for him in the future.
An investor only buys an asset that he intends to keep for the long term.
Investors usually have a goal in mind such as retirement or buying a Home. They build a portfolio that helps them to achieve that goal and they don’t get distracted by the need to make quick money.
The most important thing is that serious investors pay most attention to downside risks, and not only worry about the gains.
Investors can invest in equities, bonds, real estate, businesses or any other asset.
Definition of Speculator
A speculator is an individual or organization who risks their money to purchase an asset with the intention of quickly selling it once its value appreciates.
For example, speculators who trade shares are not interested in how the company is managed & only care about the price of the share. They may not even understand the business of the company.
One of the major aspects of speculation is too much risk, and using margin in attempt to amplify their returns.
Investors vs Speculators – The differences
- Markets they patronize
The financial market is a big place comprising the Capital market, Forex market, Money market, etc.
A typical value investor mostly invests in value Stocks & Bonds. But investors could invest in any business where the downside risks are calculated.Â
A speculator on the other hand can patronize various markets more like scavenging for anywhere he can take advantage of a price increase or decrease and make quick money. They normally deal in complex products & use margins to gain high returns. But their risk is also higher.
For example, many retail speculators in South Africa trade in the forex market, stocks and other markets. There are estimated to be over 200,000 non-professional retail day traders in SA who mostly speculate in the forex market.
A speculator would also sell any securities, and don’t care about the direction as long as they can make a profit from the drop.
Investors invest in safe or very low-risk securities, while speculators engage in risky trades that can make them profits quickly.
- Margin
Investors always buy an asset outright, and never use margin money or a loan.
For example, an investor buying a stock or any other asset always pays in full with their own money. If the stock of a company is valued at R100 & the investor wants to buy 10,000 shares, then he she will pat R1 million in full to acquire it.
Speculators, even the very big organizations, want to make big money from their bets so they use margin. Individual speculators, especially those in the forex market, use high leverage to make quick money.
Speculators use margin money, and their money is only a small percentage of their actual position. For example, if the margin that the speculator is using is 25%, and the price of a stock is R100, then a speculator is only using R25 of his own money. The rest is a loan from the brokerage.
This is very risky, especially for retail traders who cannot afford to lose their money.
For example, CFD brokers & retail forex brokers in South Africa offer exceptionally high leverage to their customers. As per comparative data by Safe Forex Brokers, the CFD brokers offer as high as 1:1000 leverage to South African traders, and some even offer Unlimited leverage.
Most of the retail traders trading forex lose because of high leverage, and this has made major regulators put restrictions on leverage CFD brokers can offer to retail traders. But there are no such leverage cap restrictions in SA.
Using margin & leverage is very risky.
- Time Horizon
An investor could keep an asset for years or even forever, as long as the original reason for investment does not change.
Investors are not in a hurry to sell and close their positions. Even if the value of the asset appreciates like in case of stocks, they hold on to it and would rather benefit from the dividend that will be paid to them periodically. They are unwilling to sacrifice the stock that pays them dividend.
A speculator on the other hand, enters and exits the markets in very short intervals. He will not think twice about selling the asset once its price appreciates after all that was the purpose for his acquiring the asset in the first place.
- Appetite for Risk
Investors generally shy away from risk and only take it on when utterly necessary.
Investors in the Stock market & prefer diversification know that there is possibility of buying a stock and it loses value and that is why they diversify their investments.
Diversification is in itself a means of managing risk. With a diversified portfolio, the probability that all the stocks and other assets will lose value at the same time is low.
The stock market might be riskier than the money market but it is certainly less risky than complex structured derivatives where speculators like to do business.
A speculator on the other hand does not shy away from risk. Some even go as far as using derivative based instruments such as Contract for Difference (CFDs), naked futures, options etc. which involve using leverage and margin to try and earn more profit from his speculative activities.
There are various speculative instruments on offer at JSE derivatives market and with CFD brokers for SA based Speculators; these include eCFDs, Stock, Index, Commodity, Bond Futures & Options, Interest Rate Futures; CFDs on Global Stocks, Indices, Forex pairs and Commodities. Single Stock and Index, Commodities F&O, Commodities CFDs, Forex CFDs, NAS100 CFDs are popular speculative options in SA.
The seemingly high-risk appetite of a speculator could earn him higher returns than an investor in the short term but he/she might end up losing all the money in the long term, or even in the short term.
There have been many cases reported of big traders taking speculative bets using margin. And end up losing millions when the market drops 15-20% because they are unable to meet the margin requirements.
- Amount of Research carried out
An investor who is investing in stocks carries out a full fundamental analysis of a company and sector this includes analyzing – company’s historical data, balance sheets, cash flow statements and income statements. He/She must also follow current data, reports, corporate events, news & announcements to make sense of current state & future expected performance of a company; before deciding to invest in its stock. Investors must fully understand the company’s business and underlying sector/industry in which they are investing. Fundamental analysis involves a wider view of the economy, sector and the company; which all experienced investors do before investing.
A company’s balance sheet shows if the Company has enough Assets to cover its liabilities and owners’ Equity. Investors are of the view that some company stock may be priced below their intrinsic value by looking at the asset to liabilities, EPS, P/E ratio and comparing the stock with other similar companies in the same industry and if such a stock could be more valuable tomorrow, if the underlying business is solid or if the underlying sector has strong potential or demand in future like EV Market, Solar Energy Market.
A speculator has a different point of view.
He carries out a technical analysis of the company’s stock. This involves looking at charts and candle stick patterns with a view to predicting where the price of the stock will go next. This is why you always see traders looking at charts.
The effectiveness of technical analysis is debatable as some speculators claim it works for them but at the same time statistics show that a high percentage of retail traders don’t make any money in the market.
Conclusion: Don’t be a Retail speculator
Investors always take care of the downside risks, and thoroughly analyze the securities they are buying. While speculators take on more risks to try to make higher rewards.
Investing is a way to build wealth & income. Speculation should be left to seasoned professionals and trading firms who have the capital and higher risk capacity.
