- Bernard Baruch, an American financier, mention that speculation has its origins in the latin word ‘speculate’, which means to spy and observe. He has defined a speculator as a man who observes the future and acts before it occurs.
It is fundamentally wrong to think that crypto generated speculation. While it is true that speculation has been the subject of much debate, it has a place in investors’ portfolios.
If we look from the efficient market hypothesis, we will conclude that the market is always reasonably priced and that speculation is unreliable. Even some market experts argue that speculation is gambling.
Viewed from another angle, a healthy market, along with the entire financial system, consists not only of hedgers and arbitrageurs, but also of speculators. Since a market fluctuates according to a number of variables, there is an opportunity for capital appreciation.
Sometimes it can be hard to draw the line – the strangest thing about the intersection between gambling, speculation and investing is that the same asset can, in theory, be both an investment and a gamble.
The primary goals of gamblers revolve around winning the bet, without any additional elements. On the other hand, strategy, planning ahead and following the market behind an asset determine whether you gamble, speculate or invest.
John Maynard Keynes, a well-known economist, once said that speculation knows the future of the market better than the market itself. The concept can be defined as executing a financial transaction that carries a serious risk of loss of value, but also carries the potential for significant monetary gains.
It is quite logical – if there were no profit expectations, there would be no motivation for anyone to engage in such an activity.
For example, you can buy shares of a high-quality company with predicted long-term upside potential. In other words, you have just made a ‘safe’ investment. On the other hand, a speculator prefers to look for opportunities where significant price movements are likely to occur.
Innovation led to speculation. In the 1860s, technological advances in communications, transportation, and storage helped create world markets for many commodities, such as cotton or wheat. The economic needs of many companies have influenced the growth of the stock and securities market.
As markets became more complex, professional speculators emerged. Initially, it was thought to be just another name for gambling. However, research and scholarly literature in the last decade of the 19th century favored speculation centered on its constructive side and the nature of today’s commodity markets.
Economists played a vital role in convincing policymakers that speculation is more than a bunch of mindless cons; they succeeded in presenting its beneficial effects against hostile public opinion. That change introduced a number of speculative financial products such as futures, which are used for short selling.
Speculators are concerned with predicting price changes and profiting from the price fluctuations of the asset. They typically operate in a shorter time frame than a traditional investor.
Unlike hedgers as risk-averse investors or arbitrageurs who try to profit from market inefficiencies, speculators use rapid portfolio diversification by buying stocks or futures contracts with the expectation that they will gain in a short period of time, such as days, weeks or months. will rise.
There are different types of speculators in the market. Individual traders can be speculators if they acquire a financial instrument for short periods with the intention of profiting from price changes.
Proprietary trading firms, known as prop stores, can be speculators, as they use leverage to buy securities and profit from rising and falling prices. The same goes for market makers who take advantage of differences in bid and ask spreads.
It is important to understand that speculators are common players in all markets. However, it can be difficult to understand the main difference between calling someone an investor instead of a speculator.
Keep reading, an explanation is just around the corner.
To start with definitions, while an investment refers to acquiring an asset with the aim of generating income or appreciation in the future, speculation is about making a financial transaction with a significant risk of loss of value, but with the expectation of a significant profit.
As you can see, the difference is in the term ‘risk’. While it is clear that investments also carry a certain level of risk, the potential to lose the entire amount is what sets these two concepts apart.
For example, an investor decides to buy 10 successful companies with the plan to hold their shares for at least 10 years with the expectation that they will continue to perform well in the market. While there are some risks involved, it sounds more like a safe bet in the stock market.
Speculators are more dynamic; they normally use trading strategies that tell them when to buy and when to sell. Investors can become speculators if they get caught up in the frenzy of broad ups and downs in the market.
Popular investment choices include bonds, US Treasury Bills, mutual funds, and stocks. Futures, options, cryptocurrency, startups and foreign exchange live in the speculative realm.
In the crypto world, the speculative nature is more visible due to the state of the market. It is a very volatile market, so the cycles of hope and disappointment are more extreme than in its traditional counterparts.
By moving quickly from bull to bear markets and crypto winters, the speculation periods turn out to be longer. Since the crypto market is still in its infancy, speculative periods should follow the process a particular technology goes through before gaining mass adoption.
Since speculation periods are longer, the general public considers the entire market to be unreliable. However, speculation, whether on crypto or traditional markets, has produced overnight success stories, average profits, or total losses.
For example, a Tulip Mania hype took place in the Netherlands in the 1630s. Tulips quickly exploded in price, especially those that were rare or interestingly colored. Tulip farmers began selling their bulbs at unreasonable prices, sending the market into a frenzy.
Long story short, the demand for tulips fell as quickly as it rose. Speculators who saw a good opportunity came up empty-handed.
A logical question arises: why is crypto speculation bad and tulip speculation forgotten? Perhaps because a lot of time has passed, tulips have managed to become a stable market. We often forget that crypto is happening now, that it is trending, along with technological innovations emerging rapidly and a currently unregulated cryptocurrency market.
The problem is that users are not trained enough; crypto newcomers are vulnerable to security and investment-related risks. Speculation is a technique that requires a high level of knowledge and market monitoring before putting everything into it. If not, it would be an obvious guess.
Both speculation and gambling are risky activities because you can never be sure which way the wind will blow. They may be siblings in that sense, but speculating and gambling are definitely not twins.
If the two were synonymous, we could compare crypto speculating to playing poker. It helps if you get a good hand and if you are good at counting cards. Therefore, if a cryptocurrency maintains a good reputation and if you can closely monitor the market, you have better chances of making a profit from crypto speculation.
Lack of regulation is not the main difference as gambling is widely regulated and follows many rules worldwide. Casinos and sports betting are regulated in every state.
The original cryptocurrency Bitcoin, like any type of cryptocurrency, can be used for gambling, but it is indeed a decentralized currency. For example, the US dollar is a fiat currency; you can gamble with it, but also buy stocks, groceries or a piece of real estate.
The real difference stems from the traditional definition of speculation: it is more like risky investing than gambling. What crypto traders do sometimes looks a lot like gambling, but on a higher level it is speculating.
Carlota Perez, an economist, demonstrated the link between financial bubbles and technological development. At major technological milestones in history, speculative bubbles have been vital to how society integrates new technologies into the economy.
As a new technology fuels hype, large price swings and momentum trading take a stand. All the money generated from investor speculation flows directly into new projects. This ultimately comes down to the establishment of the technology in the marketplace.
The crypto bubble market is often compared to the famous dot.com bubble in the 90s.
The dot.com bubble refers to a rapid increase in share capital fluctuations of US technology stocks generated by investments in technology companies in the late 1990s. The value grew exponentially during the bubble, but entered a bear market in 2001.
The bubble caused the collapse of several companies and much attention was paid to the losses of speculative investors due to failed projects.
On the other hand, there was less discussion about how the financial capital market was unlocked and how the money invested in the middle of the bubble amounted to the development of fiber optic cable, algorithmic search and other key technologies.
Many financial experts stated that crypto is the new thing dot.com bubble. The fact is that the cryptocurrency market is driven by technological advancement and speculation as two major factors supporting its growth.
One difference between cryptocurrencies and the inventions of the late 1990s is the fact that crypto-related products are mostly based on open source code. When creators don’t have to ask permission to build something new, it’s a powerful tool for market success.