Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 373

To speculate or not to speculate

“Tips! How people want tips! There is greed involved, and vanity.”

-Edwin Lefevre, Reminiscences of a Stock Operator, published in 1923

The launch of electronic brokerages spawned day-trading for regular people back in the 1990s, and the advent of low-cost and free brokerage took things to a whole new level this year.

But speculating on markets goes way back. It was almost a century ago that journalist Edwin Lefevre wrote the investing classic Reminiscences of a Stock Operator, documenting the perils of stock market speculation.

And it has been more than 80 years since Ben Graham, the father of investing and Warren Buffett’s teacher at Columbia Business School, first split the world of markets into two classes: investors and speculators.

Graham said an investor is someone who wants preservation of capital and an adequate return. Everyone else is speculating. It’s a distinction that is more important than ever today.

The Australian Securities and Investments Commission (ASIC) recently conducted a review into 2020’s sudden surge in stock market speculation as ASIC grew increasingly concerned about the risks being borne by small investors.

The findings of the review were extraordinary

Not only are small investors trading more amid the COVID-driven volatility in markets, but many are setting up brokerage accounts for the first time. More people getting involved in markets is normally something for the industry to celebrate but there are some concerning features about the new generation’s taste for risk.

For starters, the average daily securities market turnover by retail brokers has doubled this year. ASIC studied a period of six weeks at the start of the COVID-19 crisis in Australia when the Australian Securities Exchange indices fell by more than a third from their record high.

During the period, turnover from retail brokers hit a daily average of $3.3 billion, up from $1.6 billion in the previous six months.

More surprising was the finding that as the markets fell, retail clients were buying. Over the period, retail broker clients bought $53.4 billion worth of shares and sold $48.4 billion.

The net buying behaviour coincided with another interesting statistic: many of the buyers were in the market for the first time. ASIC tracks ‘unique client identifiers’ in the market. During the early part of the crisis, an average of 4,675 new identifiers appeared in the market every day. The rate of creation of new accounts was more than three times higher than before the crisis.

The results were clear: a heady combination of working from home, access to cheap broking accounts and volatile markets tempted many to try their luck.

But for most, it didn’t work out. ASIC concluded that if all retail investors held all their positions for only one day, total losses for the six weeks would have hit $230 million.

It’s a salient lesson and one Vanguard has been prosecuting for decades. Market speculation – whether through day trading or mere market timing – poses clear risks to financial health.

The first risk is that people are notoriously bad at timing itself. Timing the market is always tempting. If we could only pick the highs and lows, we could dramatically improve returns. But hindsight makes timing an illusion. The future remains uncertain and repeated studies have shown that even professional investors struggle to time the market.

The ASIC study bears this out. Two thirds of the days on which retail investors were net buyers were followed up by a day of falling share prices. Half of the days when they were net sellers were followed by an up day.

Here’s another problem faced by many direct investors: concentration. People who take a trading approach to their investments can end up with a collection of assets that have been accumulated over time without regard to how they fit together as a portfolio.

This can lead to a portfolio that is overweighted to a particular asset type or industry, increasing the risk of permanent loss of capital should things go wrong.

ASIC also notes that many investors are being tempted into high risk products that use leverage to supercharge returns.

Geared products increase the profits from favourable market movements but magnify the losses when things go the wrong way.

ASIC says some 75% of trading in one geared exchange traded product earlier this year was by retail investors, who pushed it to become one of the most traded products on the market.

This appetite for risk also tempted some into volatile, speculative investments based on commodity prices. Some oil futures products lost 80% of their value in a few weeks, potentially wiping out investors who never intended to actually take delivery of the oil.

Have you been tempted by the wild west mentality of 2020? Have you found yourself straying from your investment principles and taking a punt?

Five simple rules for investors

Here are five ways to get things back on track.

First, remember the difference between investing and speculating. Investing means holding assets that will provide you with an adequate return over a long period of time in a mixture of income and capital growth. It doesn’t mean chasing short term profits.

Second, revisit your original investment plan – or create one – and bring discipline back to your investing. Having clear, appropriate investment goals and a considered roadmap to achieve them is the core to successful investing. Portfolios need to be built from the top down – considering risk, return and diversification – and not built up as a collection of individual assets.

Third, be diversified. Diversification protects you against permanent loss from something going wrong in a single investment. Diversification means owning different investments in different industries, different countries and different asset classes.

Fourth, keep an eye on how much is leaking out of your portfolio in fees. Fees include brokerage, advice fees and fund manager fees. These all eat at your capital. Fees are the single best predictor of outperformance of a managed fund. The lower the fee, the better the outperformance.

Fifth, remember that earnings usually grow over time and that compounding works.

Sticking to the core principles of successful investing can get your investments back on track to deliver your goals.

 

Robin Bowerman is Principal and Head of Corporate Affairs at Vanguard Australia, a sponsor of Firstlinks. This article is for general information and does not consider the circumstances of any individual.

For more articles and papers from Vanguard Investments Australia, please click here.

 

RELATED ARTICLES

Online broking: same game, different players, lower cost

banner

Most viewed in recent weeks

Have the rules of retirement investing changed?

In retirement, we still want to reduce stock volatility while generating cash flows. The two needs have not changed, but the reward expected in the old days from interest payments has gone. What should we do?

18 Aussie names for your watchlist

A Morningstar stock screener reveals a cross-section of companies with competitive advantages that are trading at material discounts to estimated value. This is a list of 18 highly-rated names worth watching.

Buffett and his warning about 'virtually certain' earnings

While many investors are happy to invest in any online companies, Warren Buffett focusses more on the quality of future growth, buying companies whose earnings are 'virtually certain' in 10 or 20 years from now.

Hamish Douglass on what really matters

Questions on the stock market/economy disconnect, how to focus long term, technology's growing role, income in a low-rate world, Modern Monetary Theory and endless debt and the tooth fairy.

Kate Howitt: investing lessons and avoiding the PIPO trade

Kate Howitt identifies the stocks she likes and the disappointments, gives context to the increasing role of retail investors, and explains why the market is more of a 'voting not weighing' machine than ever before.

Welcome to Firstlinks Edition 379

It is trite and obvious to say the future is uncertain, and while COVID-19 brings extra risks, markets are always unpredictable. However, investing conditions are now more difficult than ever, mainly because the defensive options for portfolios produce little income. We explore whether investing rules have changed with new input from Howard Marks.

  • 15 October 2020

Latest Updates

Weekly Editorial

Welcome to Firstlinks Edition 381

There is a popular belief that retail investors do not even achieve index returns due to poor timing of investing and selling decisions. The theory is that they buy after markets rise as confidence grows, then sell in panic when markets fall, and miss the recovery. This 'buy high sell low' tendency loses the advantages of long-term investing and riding out the selloffs. But the evidence for this belief is not convincing.

  • 29 October 2020
Investment strategies

Gemma Dale: three ways 'retail' is not the dumb money

There is a popular view that retail investors panic when markets fall, but in the recent COVID selloff, they were waiting in cash for buying opportunities. What's equally interesting is the stocks they bought.

Investment strategies

Unlucky for some: 13 investment risks to check

Risk isn’t something to be avoided altogether. To achieve returns beyond the government bond rate, some level of risk must be accepted. Assessing which risks to take and calibrating them is the investor's challenge.

Responsible investing

Four reasons ESG investing continues to grow

Although Australian investors are among the most ESG-aware in the world, with the vast majority wanting responsible and ethical investments, there are still some misconceptions to dispel.

Shares

Why caution is needed in Aussie small companies

Over the last 20 years, smaller Australian listed companies have outperformed larger companies but with greater volatility. Following a strong run in the last six months, the smaller end is looking expensive.

Financial planning

The value of financial advice amid rise of retail investors

Financial advice has moved well beyond simply recommending investments, with five major components to quality advice. Helping clients avoid potentially disastrous mistakes is often underestimated.

Economy

The 2020 US presidential elections

The US is days away from a presidential election with major repercussions for economic policy and investments in the US and the world. Views from First Sentier Investors and BNP Paribas Asset Management.

SMSF strategies

Can your SMSF buy a retirement home for you now?

It sounds appealing to acquire a property now through your SMSF with the hope of residing in the property once you retire, but there are issues and costs to check that may vary by state.

Sponsors

Alliances

© 2020 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use.
Any general advice or class service prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, has been prepared by without reference to your objectives, financial situation or needs. Refer to our Financial Services Guide (FSG) for more information. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.