Investing can often feel like a game of chance. Some days, the market is up. Some days, it’s down. So is investing gambling? Truthfully, it depends. Keep reading as I share some food for thought.
Is investing gambling? Thoughts to consider
Your time horizon matters – a lot
In personal finance, the term “time horizon” describes how long you plan on keeping your money invested. Data shows the shorter your time horizon, the more investing resembles gambling.
Take a look at this chart (from BlackRock), which breaks down your chances of losing money in the stock market based on different time horizons and data from 1926 to 2019.
With a time horizon of one month, you’re arguably gambling. While the odds are in your favor (you would’ve come out ahead 62% of the time based on this historical data), your chances of losing money are still significant at 38%.
At the other end of the spectrum, investing with a time horizon of 15 years is decidedly not gambling. If historical data is any indicator, you’ll come out ahead 99.8% of the time.
This is why financial advisors generally only recommend investing if you plan on leaving the money untouched for at least 10 years.
How you approach stock market investing matters, too
It’s worth highlighting the BlackRock data I shared in my previous point reflects the broad market. In particular, it reflects the S&P 500, which represents America’s 500 largest publicly-traded companies. Consequently, you shouldn’t take it to mean you can pick any individual stock and make money if you hold it long enough. In fact, active stock-picking arguably puts you in gambling territory.
As reported by CNBC, 92% of professionally-managed active funds fail to beat the S&P 500 over a 15-year period. While I can’t find reliable data on how the average individual stock picker fares, it’s safe to assume they probably aren’t beating people who manage investment funds for a living.
So why do even professionals fail to pick hot stocks reliably? Simple – because it’s really, really hard. One study found that between 1926 and 2015, only 86 stocks (less than 0.3% of all stocks analyzed) accounted for all wealth generated on the NYSE, Amex, and Nasdaq exchanges. Thousands of other stocks met undesirable fates, including grossly underperforming even bonds and being delisted from exchanges altogether.
Picking those 86 stocks from the pile of thousands would have been no easy feat.
It’s apt to say stock-picking is like being an individual gambler whereas owning indexes is like being the house.
Investing (usually) involves buying assets with intrinic value, unlike gambling
When someone spends money on gambling, they only receive an asset in return if they win. If they lose, they’ve essentially lit their money on fire. Poof. It’s gone.
When someone invests money in an asset, meanwhile, they own that asset (or at least a piece of it). Whether they make money or lose money, they’ll always retain ownership until they sell or the asset ceases to exist (i.e. when a stock’s underlying company goes bankrupt).
This is an important distinction between investing and gambling. After all, there are benefits to owning an asset even if it never makes you money. A house provides shelter even if its value declines. A stock that loses value can be used to offset taxes owed on a more profitable investment.
The only benefit one could arguably reap from an unsuccessful lottery ticket is entertainment (which isn’t an asset).
Cryptocurrency is an interesting mix
Many skeptics liken cryptocurrency investing to gambling. Among the chief arguments in favor of this viewpoint is the fact most cryptocurrencies (including Bitcoin) don’t have any intrinsic value. They’re simply worth whatever the next guy is willing to pay. Those who hope to make a profit by holding cryptocurrencies are consequently (as the argument goes) simply betting some greater fool will pay more for their tokens in the future.
Alternatively, there are people who view owning cryptocurrencies as investing in the future. It’s no different than buying tech stocks or something of that sort.
My view? I think it depends, much like in the stock market. What makes crypto unique is that (for the time being) it’s arguably the most hyped-up asset class on earth. Consequently, many people gamble on random coins they think can’t go anywhere but up. There are still people who approach the cryptocurrency space with a more rational viewpoint, though. It’s not black and white.
Greed can turn investing into gambling
Greed often makes people behave like gamblers, even when they appear to be investing.
Think back to 2008, when real estate investors in the United States were leveraging up and gobbling properties like candy. At the time, real estate would’ve seemed like a fantastic investment. In fact, some might have even called you crazy for not getting in on it. But we all know how that turned out. Relatively few people stopped and thought, “wait, this seems excessive” until it was too late.
A similar thing happened with tech stocks in the 1990s during the dot-com bubble.
This doesn’t mean real estate or tech investing equals gambling. Greed was the downfall of investors in either of these scenarios, not the asset classes themselves.
Some asset allocation decisions can turn investing into gambling, too
Choosing to invest your emergency fund instead of keeping it in cash is, in my opinion, gambling. You’re essentially betting the market won’t tank at the same time you incur an unexpected expense. This is an unreliable bet – people just assume otherwise because market returns have been stellar over the past 10+ years. At some point in the future, however, people will inevitably be left hurting when this bet doesn’t pay off.
This is just one example of an asset allocation decision that amounts to gambling. Other examples include:
- over-spending on your primary residence (betting your money is better allocated there than in stocks)
- failing to diversify your portfolio (betting the assets you’ve chosen will meet your needs better than anything else)
- continuing to weigh your portfolio heavily towards stocks in retirement when a crash within the realm of possibility would jeopardize your cash flow (betting such a crash won’t happen)
You can mitigate risk as an investor, which isn’t always possible in gambling
There are many strategies you can employ to mitigate risk as an investor, including:
- setting stop losses (capping your losses at a predetermined amount)
- diversifying your portfolio to ensure no single asset can wipe you out
- correctly assessing your risk tolerance and investing accordingly
- maintaining enough liquid funds that you’re never forced to sell at a loss
With pure gambling, on the other hand, there’s no going back once your bets are placed. The only real option you have in terms of risk mitigation is limiting the amount of money with which you gamble.
Success in pure gambling is also often binary whereas there are varying degrees of success in investing. If you bet on a particular outcome in a sports game, it will either happen or it won’t. You’ll either make money or lose all of your money. As an investor, however, a stock you purchased could fall 5% and you’d still be able to recover 95% of your capital.
With investing and gambling, different forces determine failure and success
The outcome of a bet depends heavily (sometimes entirely, depending on the type of gambling) on chance. Sometimes, it’s a literal crapshoot.
With investing, meanwhile, your success or failure depends on whether the assets you’ve purchased remain productive and/or desirable for the duration of your investing. With a stock, for example, that’s often heavily influenced by the underlying company’s leadership. You can assess factors such as this much more easily than you can assess your odds of coming out ahead prior to placing a specific bet.
Is investing gambling? Conclusion
I hope this article has helped you understand the key differences between investing and gambling. While the line between the two is often blurred, looking close enough at any activity will typically reveal which side it leans more towards.
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