What is Investing, Trading, and Speculating: Advantages and Disadvantage

If you are beginning your journey in stock markets, then you should know the difference between the following activities: investing, speculating and trading. All of these involve using your money in the stock markets to earn profits, but the method and approach is completely different. Let’s understand a little more in detail about each of these and how it is different from the other two.

What is investing in stock market?

When we talk about investing in the stock markets, it usually refers to a long time process, which is done with the aim of amassing wealth over a long period of time, instead of generating profits on a daily basis to serve as a source of income. Investing in stock markets requires you to lock in your funds for a period ranging from one year to many decades. The idea is to sell the stocks once their prices have appreciated significantly and they have resulted in profits much more than their purchase value.

Investing in stock markets has made many stock investors famous, with some notable names being Warren Buffett, Rakesh Jhunjhunwala, Radhakrishna Damani, Peter Lynch etc. All these investors have identified the right stocks to add to their portfolio and have kept them for duration spanning over multiple years, generating wealth for them.

The benefits of investing is that you can avail benefits of corporate disbursals such as dividends, rights issues, bonus issues share split etc. which a trader or a speculator will not be able to take.

However, the disadvantage of investing is that in times of a slowdown or a recession, your wealth is bound to reduce and also that investing for long term may not always ensure profitability.

For example, if the share markets are down and the value of your portfolio has gone into a loss. Then, it might not be profitable for you until the markets recover and come back on track.

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What is Stock Trading?

A compared to investing trading is a short term activity, in which the buying and selling occurs over a time period ranging from one day to a few months. Traders often look at asset classes which can give higher profits quickly and let of assets including stocks which are not performing well.

The actions for a trader are based more on the momentum and the sentiment for the stock rather than the financials or fundamental aspects associated with the same. The market forces which lead the stock prices in a particular direction are more important for traders, unlike investors, for whom the company’s stability and the future of the industry and economy plays an more important role.

Trading is more time consuming, expensive and requires regular attention as against investing. Also, when we talk about trading, the earned profits come from multiple avenues in smaller sizes as compared to long term investing where the aim is to earn bigger profits through lesser number of selective investments.

The benefits of trading is that a trader can earn profit in both types of markets- rising markets as well as falling ones by investing in derivative instruments such as futures and options. Also, trading can give you a regular source of income, which can be withdrawn on a daily weekly, monthly basis.

A disadvantage of trading is that traders often are not eligible for long term gains and company’s actions such as dividend disbursals etc.

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What is Stock Speculating?

Speculating, unlike investing is a bet placed on the expected price movement of the stocks in future. Speculating can also be called ‘financial gambling’. A speculator guesses the future occurrences and bets on the prices of assets, without actually wanting to buy these assets such as stocks. This is done through derivative instruments such as futures and options.

For example, if you believe that the year 2020 has been very poor for a company XYZ and that the release of the company’s quarterly results will further push down the prices of its stocks, then you can place a bet to sell the shares of the company and then buy them on a later date at a smaller price. This is called speculation.

On the contrary, if you feel that a company which is lesser known right now will post outstanding results which will lead to rise in its stock prices, then you can buy the futures of that stock and sell them later at an even higher price.

The disadvantage of stock speculations is that the risk is often higher than trading as there is no guarantee or surety that the anticipated event will happen and hence, a speculator can lose the amount with which the futures or the options were purchased.

On the other hand, benefit of speculation is that there are chances of huge profits, which can also help people in hedging their positions in the market.

For example, if you have bought the shares of a company hoping for the share prices to go up, but you are also fearful of a sudden drop in the prices, then you can choose to buy a put option for the same share for a small amount of premium, which will give you the right but not the obligation to sell the shares at a later date for a fixed price. This way, the potential loss in the trade of the shares can be compensated by the profits in the speculated position.

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CONCLUSION:

Investing, trading and speculating might have different strategies, methods and instruments to be used, but the ultimate goal of all these activities is to earn money from the stock markets. The markets give opportunity to everyone equally to make money and it depends on every individual how they make use of this opportunity offered by the markets.

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