Are You Investing, Trading Or Gambling?
Recently, I have been receiving a lot of questions from friends about how to start investing. In my opinion, the most important thing that one should know before he or she places a dollar in the stock market, is to understand the differences between Technical Trading, Fundamental Investing, and gambling. The difference is clear, once you understand them. Let’s start by explain what is “gambling” in the stock market.
Have you received a hot tip that a tourism operator is going to win a bid to build an integrated resort in a faraway land. You checked the stock price and saw a clear upward trend. With that, you bought the stock, convinced that the tip will help propel the stock price higher. Shortly after, you read from the news that the bid was unsuccessful, and to your horror the stock price has plunged deeply! The truth is, by the time a piece of news is released to the general public, it would have become old news. If you buy a stock without a proper strategy in mind, or proper research, you are gambling.
Now you might ask me, “But what about those who play professional poker ala the movie, 21? Is that considered gambling?” That brings me to the first of 2 strategies that professional stock investors (mind you, not gamblers) do.
There are 2 strategies that have been used by professionals to profit from the stock market – Technical Trading, and Fundamental Investing. Technical Traders make use of charts to find patterns in the stock market. Traders usually have a short time frame – it could be as short as hours or minutes between buying and selling the same stock. They typically buy or sell a stock based on buy/sell signals. Traders make use of mathematical probability called “Expectancy” to optimise their chances of winning. Simply put, a trader knows that if he were to win a trade, he expects to win, for example, $150; if he were to lose, he is prepared to lose $100. So by using a strict methodology, he is able to end with a win of $50 each time. Scale up the numbers, and you have a professional trader.
Fundamental Investing is a totally different approach from trading. Investors are typically interested in finding the “intrinsic value” of a stock. It’s just like buying a house, before you decide on the price to pay for the house; you would hire a property agent to do a “valuation” on the house. Stocks have a value too because behind a stock is a business that makes money every time it sells something. The investor is interested in finding out how much the company is worth – the value of the company. Time frame for an investor can be as long as 3-5 years, sometimes even for much, much longer. But the beauty of investing is that once your research is done right, all you have to do is to leave your money in the same stock, and let the business grow. As the business grows, so will your money. At the same time, holding on to a company for the long term also means that you will be able to collect dividends that are issued periodically.
Which method is better? Gambling is definitely NOT an option – if you would like to gamble, you can probably get a bigger thrill doing sports betting or going to the casino! Between Technical and Fundamental, it really depends on the individual and his or her character or temperament. Ask yourself these questions:
- How much time are you willing to commit to watching the stock market?
- Are you looking to make fast money (but also prepared to lose fast), or are you looking to just leaving your money alone to grow as time pass by?
Personally, I might be more biased towards Fundamentals, possibly because of my love for understanding businesses. Some people call that old fashion, but I still prefer investing in something that I can see, touch and feel.