Think investing is like gambling? You’re dead wrong. Here’s why

This weekend, it happened again.

I try to avoid it, but once in a while, some poor unsuspecting person gets caught in one of my passionate monologues dispelling common money misconceptions.

Risks are everywhere in life, not just in the stock market.Credit: Simon Letch

To be fair, these mini-lectures are not totally unsolicited. Usually, it starts with a seemingly innocent question followed by strong (unfounded) assertions that I feel compelled to correct. Why? Maybe it was all that debating I did in school, or my law degree. Who knows?

This weekend’s topic? Investing is like gambling. Let’s put this one to bed.

What’s the difference between gambling and investing?

The difference is not in the product but in the process. The two questions to ask are: what is the asset being bought, and why?

For example, the person betting on horses or sports is gambling. There is no asset being purchased. But if someone buys art, they own the asset – that’s an investment. Or is it?

Here, the second question kicks in – why did they buy it? Were they hoping it’d be a good investment (which is speculation)? Or did they make an informed decision about its value or potential? The difference is in the skills and knowledge of the person purchasing the asset.

There’s a broad range of products – such as art, jewellery, sneakers and trading cards – that could technically be an “investment” or “gambling”.

People who use specialised knowledge to assess an item’s potential value are making an investment. But if I bought the same product without that knowledge or skill, I’d be gambling. I’m simply “hoping” it’ll work out. I’m speculating, not investing.

Take property as another example. Many people are speculating when they buy property. Are they forming an educated opinion about the value of the property as an investment? Or are they hoping it works out, largely based on sayings like “property is always a good investment”?

What it comes down to is this: are you winging it, or do you have a good understanding of what you’re doing? If you’re just hoping for the best, you’re essentially taking a gamble.

But there’s always that unknown, uncontrollable element of risk, right?

People assume that the risks of investing are totally outside their control. And while there is a degree of inherent risk, the amount you expose yourself to is actually heavily dependent on your skills and capabilities as an investor.

I find driving a useful analogy. There are inherent risks to driving – especially a sports car on a highway – but the more experienced driver is better able to assess and manage risk than a beginner. The more skilled you become, the more chances you can take because you’ve refined your ability to mitigate risk.

Say you want to put $10,000 into sharemarket investments. If you buy into an individual company, there are risks inherent to that company, industry and the overall market.

You could mitigate some of that risk by buying an ETF, which exposes you to broader market returns. But there are risks inherent to that too, from the market and the platform you use to buy the ETF.

Every course of action comes with risk – the only choice you get is which risks you’re willing to take.

What’s key is your ability to identify and mitigate these risks. The reason you hear horror stories about people losing money is because they often take inappropriate levels of risk relative to their ability.

In other words, if you don’t know how to drive a car, don’t start out on a highway in a Ferrari.

But it’s just safer to avoid the risk, then?

There is no way to avoid risk. You only get to choose which risks you take.

By not investing, you aren’t avoiding the risks of investing – you’re simply choosing the risks that come with not investing (i.e. not having sufficient wealth to meet long-term needs, not being able to afford retirement, depending on your ability to work for financial security, etc).

This applies to every financial decision you make. Have a job? It has risks. Keep money in savings? That has risks too. Buying property? There are risks. Investing in shares? Risks again.

But what about all the people who lose money in investments? Well, did they lose money because “investing is risky” or because they didn’t know how to mitigate risk? Also, consider the risks of the alternative – what about all the people who don’t invest and struggle financially later in life?

Every course of action comes with risk – the only choice you get is which risks you’re willing to take.

Paridhi Jain is the founder of SkilledSmart, which helps adults learn to manage, save and invest money through financial education courses and classes.

• Advice given in this article is general in nature and not intended to influence readers’ decisions about investing or financial products. They should always seek their own professional advice that takes into account their own personal circumstances before making any financial decisions.

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