People have in mind different ideas when it comes to investing.
Some of these ideas are presented as common sense, but they are actually harmful if you are just starting your path as an investor, or if you invested some money and you not achieving the results you want.
Let's start from the basics.
What is a good definition of investing for you?
Take a few minutes to think about it and write down what you think it’s the best definition on the form you received.
(Please, really take a few minutes. That is the time where in a video I would say “pause the video and think about it”.)
Ok, now let’s see what the Oxford Dictionary is saying about it:
How is that, close enough to what you thought was a good definition?
Well, now I have a bad news for you: this definition of investing is wrong.
I don't care that is taken from the Oxford Dictionary.
This definition is putting on the same level the guy that is buying a lotto ticket with the one who is carefully analyzing a company before buying some of its shares or bonds.
To put it simply, this definitions considers investing and speculation on the same level.
Look what happens when on the same dictionary I am looking at the meaning of speculation:
So, for the Oxford dictionary, investing and speculating are almost synonyms.
In the case of speculation, it put an emphasis on the losses, while when investing on the gains but that’s it.
And this is the first reason because people lose so much money on the financial markets.
They think they are investing in some products where the risks are visible and under control, only to find out that they were speculating and putting too much of their capital at risk for no good reason.
So, the first thing we need to agree on before starting going into a lot of details, it’s a better and upgraded definition of investing, to differentiate it clearly from speculation.
Here is one that I like more:
Investing is a process which protects and grows your net worth over time, so that you can reach your financial goals and sleep well at night.
As you can see, the definition got a bit more complex than it was before. Few keys concepts were added:
- Investing is a process: it’s not about getting lucky once, it’s consistently doing the right thing (or at least trying);
- Investing is about protecting your net worth in the first place. First you play defence, then you can focus on offence;
- Investing is about finding the right level of risk for you, and avoid to be ruined at all costs;
- Investing is about having a long term perspective, and not trying to get rich quickly.
If you are not sure if you have been investing or speculating so far in your life, I prepared a table which shows the main differences between the two of them.
Investing is deeply connected with planning and be aware of your overall financial situation.
You don't need to have a super-detailed plan (an easy version of it can stay on a napkin), but it needs to be there any time you are buying a financial product.
If you can't answer to the question "Why am I buying this financial product?" and you don't have an answer different from "I want to make more money" you are speculating, even if you think that you are investing.
And, because you are not a professional trader you don't know the rules of speculation and you will just end up giving money away to the people who are more expert.
So, at least at the beginning of your investing path, stay away from speculation and focus on create a good plan and a process for your investments.