Gambling vs investing
Investing is generally misunderstood by a large portion of the population. A large part of it is the abysmal state of our financial education, combined with constant reporting in the news about the results of some of the largest companies in the world.
The effect this has is different depending on the person it applies to. Some see the constant ups and downs as risky and categorize all investing as gambling in their mind, never to be approached. Others see this as a way for someone to get rich if only the person puts in the time to learn the ropes and do their due diligence by investing only in successful companies. These represent 2 extreme views, and the reality lives somewhere in between them. By the way, when I say extreme, they are extreme in that they stretch a certain reality to the maximum possible, not that they are rare. One entirely foregoes investing, while the other one embraces it and follow the movement daily, if not hourly. You may recognize these attitudes since they represent the 2 most common reaction to investing. And they're both pretty wrong. To understand why, let's dive into each of them separately.
Foregoing the stock market
The biggest problem facing retirees is usually running out of money. While there are government programs available to the elderly, they usually aren't enough to sustain a lifestyle. This is at least true in Canada 🇨🇦 and the US 🇺🇸, where the CCP/OAS and Social Security exist to complement existing savings to pay for retirement, but isn't enough to sustain on. This means retirement planning requires one to save money for their retirement unless they want to live in poverty in their last years of life. But like all savings, inflation will keep grudging it away if all someone does is keep it parker in a high-interest savings account (HISA). And HISA are not that high these days with current rates. The highest rate I could find with a quick search was 1.7% at EQ Bank in Canada, which is a promotional rate good for a few months. That is way below inflation, which means a saver would have less purchasing power year after year. If taken over 30 years, that represents a very real problem.
Life expectancy is greater than ever before in history, and that's just today. Who knows what tomorrow has in store. With longer life expectancy comes greater saving needs, but we've just seen that saving accounts don't return nearly enough for a retiree to draw income from. What's the alternative? Investing in the stock market of course. Especially as someone is (relatively) young and has a long time horizon, investing in the market is the generally recommended way of growing savings, and because assets tend to grow with inflation, it brings protection against this silent threat.
Now, what if you have a pension? Things get a bit more complicated, but assuming your pension is still there when you retire, then you'll get an income from it. In this case, the beneficiary is already invested in the stock market, they are just unaware of it. Pension funds are some of the biggest investors in the world. Just don't go saying you don't invest in the stock market, your pension fund does it for you and with your money.
Getting rich picking stocks
This is the opposite view, that fully embraces the stock market and the promises of wealth it brings. The idea here is simple, pick the right companies and buy their stock. Before they stop being great companies, sell it and buy other, better companies with the gains right before they grow. If you rinse and repeat this step often enough, you're bound to have grown your money. Just look at Tesla: at the beginning of the year it was worth $86 per stock, and today it's worth $415, for an increase of 482%! That's hard to beat for a timeline of only 8 months. So it makes sense right? Numbers don't lie after all.
Well, not so fast. All of my analysis on TSLA is backward-looking. Of course, telling you to invest in TSLA in January and selling it all in October makes sense, anyone with a pulse could find the same conclusion today. Do you know what else makes sense? Looking at previous winning lottery numbers and telling everyone they should have bought that exact ticket number before it was drawn. It's true, but it's useless information.
The decisions you have to make today are forward-facing: what will Tesla's stock do in the future? As we've seen in Why is the stock market doing so well when the economy is doing so poorly, the economy and the stock market are aligned long-term, but not necessarily short term. Your guess about the company's future is just that, a guess. The only way to gain an advantage there is to have insider information about the company, which very few investors have besides executives. It's also illegal to trade on insider information, but that's irrelevant to the discussion here. The fact remains that without insider info, your chance of successfully buying a stock before it goes up, and selling it before it goes down, is pretty low. Add to that trading fees and taxes, it's even less probable. And then doing it once is good, but in order to successfully grow your savings you need consistency, and that's the last nail in the coffin. Most day-traders lose money rather than make it, and you believe you'll be able to because of something you read on Reddit or by analyzing historic chart?
Investing in individual stock is how your savings loses most of its value overnight because of a scandal (Nortel or Enron), or a new law that just passed, never to go up again. It's how your savings disappear when the company goes bankrupt or struggles because the world changed and the company is irrelevant now (Blackberry). As much as some people may want to believe that they know what they're doing, very few investors actually have the skills to do it. We're talking less than 5% here, including professional managers. Warren Buffet is such a person. Are you Warren Buffet?
Picking stocks is gambling because what determines whether you win or lose money is not your skills, but external factors in the market coupled with luck.
That's how money is lost, not built. That's just a statistical reality. This is exactly the reason why some people are afraid of the stock market, but some do a complete twist and instead of being paralyzed by it, they simply ignore it. This is why I mentioned at the beginning that these 2 views are extreme: they choose to look at the situation and make a judgement call without fully understanding it. They then live and die by it.
How to invest
If picking stocks is gambling and foregoing the stock market is foolish, what's the solution here? Like a lot of things in life, the solution lies in balance. While picking individual stocks is risky as one single company is a bankruptcy away from ruin, the market as a whole is poised to go up. Everyone needs to eat, a place to live and a way of transportation. Entertainment is as important today as it's been in history, and we have the means to access it the way we want, and for individuals to benefit from it. Technological advancement is continuing to improve productivity. Innovative companies will continue to push humanity forward, and companies that don't adapt will be replaced by new ones that do.
What does that mean? Well, just invest in the whole market! It's never been easier thanks to pioneers like Vanguard. Today, anyone can own a piece of the stock market with very low fees. This provides all the diversification one needs (to prevent catastrophe events like 1 company or 1 sector going down) while getting some upside (growth, and protection from inflation). I don't recommend any specific investment, but many broad market ETF exists and allows you to invest in over 10,000 companies by buying just 1 single ETF. We'll dive into these ETFs in more details in the future as part of the Finance 101 series.
Remember, don't gamble, invest!