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Are you Investing or Speculating?

Have you ever heard of Tulip Mania?

It’s a famous historical event that investment professionals often use to demonstrate how investors have tended to be swept up in new investing trends throughout history and how their results have been less than satisfactory.

It was Scottish journalist Charles Mackay who truly made Tulip Mania famous in his 1841 book entitled Extraordinary Popular Delusions and the Madness of Crowds.

Tulip Mania occurred in Holland during the 17th century as tulips became very popular. Although it may seem funny or hard to believe, people actually began to buy and sell (or trade) tulip bulbs similar to how we buy and sell investments today. During this time period, it grew into such a ‘mania’ that as Mackay would write, “the population, even to its lowest dregs, embarked in the tulip trade,” [1] and “many individuals grew suddenly rich.”[1] These riches drove some to sell or trade personal possessions so as to be able to buy tulip bulbs at increasingly lofty prices. Their assumption was that money would continue to pour in from all over the world as demand for Dutch tulip bulbs grew, and they would be able to sell them for a rich profit in the future. Unfortunately this never happened and in 1637 the buyers simply disappeared. Just like that, the bubble collapsed, prices plummeted, and people got stuck with tulip bulbs worth a fraction of what they paid for them.

There have been other such manias since then. We’ve had the South Sea Bubble of the 1700s, Japan’s Real Estate Bubble that built up through the 1980s, The Dot Com Bubble of the late nineties and early 2000s, and most recently the US Housing Bubble. These are just a few of the more well-known periods of significant gain, and subsequent loss of wealth throughout history. Surely there have been many lesser known historical, speculative trends as well, where the easy riches or massive tax savings that were promised, only resulted in frustrating losses.

The point of this article wasn’t intended to be about investment bubbles; but rather, to focus on the difference between investors and speculators. It’s this idea of ‘easy money’. Over the last year or so, I have fielded many questions about the likes of bitcoin and cryptocurrency and whether investing in them is a good idea. More recently, the questions have turned to Cannabis and what legalization will mean to Canadians from an investment point of view. When regular people start asking “should I buy some Bitcoin?” or “What do you think of Marijuana investments?” it reminds me of that famous story about Joseph Kennedy (John F. Kennedy’s father) right before the Great Depression. His famous anecdote was that an elevator operator gave him a stock market tip in 1928, and he took that as a signal that if hotel staff were giving market tips, then it was time to bail.[2]

When those of us in the investment industry get nervous about new trends, it’s not necessarily because we don’t believe that they have a strong future. Perhaps Cryptocurrency is here to stay and will only continue to develop as a form of currency. Similarly, Cannabis development for medical purposes is in its infancy, which means its room to grow must be immense. The question is; however, should these new paradigms involve significantly altering or even abandoning well designed investment strategies?

When attracted to new or trendy investments that appear to be making friends and neighbours piles of money (according to them); before taking the plunge, ask yourself: 

Am I interested in investing in these new forms of business because I believe in their long term growth and because I want to enjoy seeing them develop into the future (and I’m willing to put in the time should the investment not do well for a period of 3, 5, or even 10 years)? In addition, will I be adding these investments as a small component of a disciplined and well diversified portfolio? Finally, am I willing to invest more money into these strategies when they go through periods of poor performance or decline? If my faith, patience, and discipline are strong, this makes me an investor.

Or


Am I speculating that these new investments are going to continue to go up in value for the foreseeable future, with few, if any hiccups, which should allow me to turn a quick profit? Am I considering dropping some of the investment strategies that I’ve been told provide good diversification, but seem to be holding back the performance of my portfolio? Do I believe that nothing could possibly stop these new investments from going up for the foreseeable future because there’s simply too much growth potential and demand? If I’m tempted by trends and the belief that I’m missing out on big investment gains, I may be a speculator.


Perhaps there’s a little of both in your thinking, but it’s important to remember, investing for the long term has a history of working out well for investors, while speculating, (or gambling as another way of putting it) can often result in losses and disappointment. It’s those losses that occur during periods
of ‘speculation’ that often turn people away from investing seriously in equities while sending them back to the perceived safety of GICs.

Where do you think you stand?

If you’d like to discuss these issues or others, we’d welcome the conversation at LGK Wealth Management. Give us a call at (780) 426-2400 or e-mail us at gary.koss@manulifesecurities.ca
.
[1] Mackay, Charles (1841), Memoirs of Extraordinary Popular Delusions and the Madness
of Crowds, London: Richard Bentley
[2] Taking Stock of the Great Crash, Fred Langan, CBC News, October 26, 2009. https://www.cbc.ca/news/business/taking- stock-of-the-great-crash-1.789940

Call 1-780-426-2400