often confused with gambling, the key
difference is that speculation involves
deep analysis and taking a calculated
risk, whereas gambling depends on
totally random outcomes or chance.
There are a number of factors that
can be considered in making this dis-
tinction and they are highlighted as
follows:
Risk appetite:
Risk appetite is different for individuals
and firms. It is the capacity for loss
which can be a function of capital
available, profit target and personal
attitude to risk and uncertainty. A firm
with large capital and a large profit
target would have a high risk appe-
tite and thus seek long term volatile
investment opportunities. On the other
hand, an individual with small capital
and a relatively small profit target will
tend to have low risk appetite and
would adopt a short term investment
strategy or chose to speculate.
Nature of the asset:
Illiquid assets like landed property and
vehicles are not ideal for speculation
but good for investment as they are
can generate positive future cash-
flows. Liquid assets like Treasury bills,
sovereign and municipal bonds, cur-
rencies, equity stock and commodities
are good for investment but also ideal
for speculation.
The amount of leverage:
Leverage is the amount of debt used
to finance an asset purchase. Investors
with low risk appetite often prefer to
invest equity or own funds and gener-
ally avoid debt, while Investors with
high risk appetite and relatively high
level of financial acumen will seek
to use debt to finance speculation
with the expectation to cash in on
larger gains should their view come
out accurate.
Market segment:
The financial industry is divided into the
primary and secondary market. The
primary market is where new securities
or assets are sold to investors or specu-
lators alike. The secondary market is
available for trading existing securi-
ties or assets largely for speculative
purposes. It also provides a platform
for investors that missed the primary
market opportunity to invest. These
investors can purchase investments at
slightly higher prices from speculators
who acquired these assets from the
primary market mainly for speculative
purposes.
Arbitrage:
Arbitrage is taking advantage of price
differences in two markets to make a
profit. For an investor, arbitrage oppor-
tunities may exist at some point in
the duration of the holding period,
which usually allows the investor cash
in by selling his investment earlier than
planned. A speculator rarely buys
assets to hold as his aim from the
beginning is to seek arbitrage oppor-
tunities, which are sometimes instan-
taneous or available within minutes of
trading.
Investing usually involves the creation
of wealth, whereas speculating is a
zero-sum game as near term tem-
porary positive cash flows may exist
although ultimate wealth creation
is not often the end-result. Although
speculators make informed decisions,
speculation cannot usually be cat-
egorized as traditional investing.
With speculation,
the risk of loss is
more than offset
by the possibility
of a huge gain;
otherwise, there
would be very
little motivation to
speculate.”
April - June 2015 •
The Lion King
• 13
Investment
|
Business
