Be wary of this mindset that could cost you everything

[Jorge Vazquez]

Don’t mistake speculating for investing

I was watching Superbowl 2021 with a few friends and cheering for the Buccaneers. I live in Tampa bay and it felt good watching Tom Brady score touchdown after touchdown. During a break, we saw a commercial for ‘Robinhood’, the trading application that claimed ‘You’re born an investor’. The commercial is well written and touches something deep inside of you. It's almost as if you were waiting to bestow a title upon yourself on your business card or LinkedIn bio that reads ‘Investor’ and RobinHood gives you the license to do it. Even though I loved the ad, I wanted to identify a pernicious pitfall in the thinking it promotes.

Speculating = Betting. Betting is NOT investing.

RobinHood and several other platforms make it easy for people to place a bet. Most people don’t realize when they buy a stock that they’re betting. They whitewash it by thinking they’re investing. Here is the fundamental difference between betting (speculating) and investing. If you can buy an asset and sell it the next minute for a profit every time, you’re investing. If not, you’re speculating. I’m oversimplifying things for the sake of the example but in essence, this is true. If you buy an asset at a discount, you could sell it the next minute for a profit. The deeper the discount, the greater the profit and the better the investment. Of course, just because you can sell it the next minute doesn’t mean that you do. For example, if you’re buying a distressed property, you could make a larger profit after rehabbing the property as opposed to wholesaling it in as-is condition.

If you pause for a moment and think about the last time you really invested in something, most people would have to think hard. The more you think about it, the more you realize that real investment opportunities are rare. Really rare. It's like trying to find a needle in a haystack. For example, if you bought your house in turnkey condition from the MLS, you didn't buy an investment. If you bought a certified used car from a reputable dealership in your area, you didn't buy an investment. If you bought shares on the open market, you didn't buy an investment.

To quote a cliche, an investment is a ‘Sure thing’. Anything else is speculation. You could make money speculating but you will be held hostage to many factors outside of your control. Timing being the most significant of them. Depending on the price and timing of your speculative purchase, the odds of making money vs losing money will change dynamically. With investing, it's a much simpler calculation and you don’t need to toss and turn at night wondering how to cover your margin calls. With investing, if you choose to exit, you will make a profit. The only thing that will change is whether it's a large profit or a small one.

Democratization & Liquification - The two great wealth creators of our time (for the seller)

America is a beacon of democracy. It has a universal quality. It encourages participation. Since everyone is an equal (one person, one vote), the best ideas/candidates tend to win. The level playing field a democracy creates is extremely powerful. The same concept applies to investing. Have you ever wondered why stock prices go up immediately after a company gets listed on the stock exchange? It's because of the dual power of democracy and liquification. Democracy: everybody has equal access (open market), people vote for the best companies by buying their shares. Prior to the IPO, not everybody can buy shares in the same company. It's a closed market and only select private equity players have access. The other reason prices go up after the IPO is because the stock becomes highly ‘liquid’. You can buy the shares and sell them almost instantly. The ease of trading typically adds a liquidity premium to the share price because people like owning liquid assets.

How does this impact you, the investor? Democratic and liquid investments are great wealth creators for the people who create them. They put the buyer at a significant disadvantage because he pays a premium for democracy and liquidity. Once an asset is on the exchange, there’s no surefire way to make money with it. Any news, positive or negative will get factored into the price almost instantly. The only way you could always make money with a listed stock is to have insider information which is unsurprising: highly illegal.

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So can you invest money to buy an asset that is already democratic and liquid? No. You can only speculate. There is however an extraordinary opportunity in creating a product that is democratic. For example, If you buy a property at a closed auction but decide to list it on the MLS you could add a premium to the price. In the world of real estate, the most democratic platform is the MLS. Converting real estate into a liquid asset is more complex. The closest way would be to buy or create a REIT.

The more you think about it, the more obvious it becomes. Almost every opportunity out there that is widely publicized is democratic and therefore speculative. Real investing opportunities are usually shared only with a few people. Most people don’t know about it. This is a good rule of thumb though some exceptions exist: If all and sundry know about it, the price is going to be too high and therefore it's not an investment.

If it were possible to become a millionaire buying properties straight off the MLS, anyone could do it. Buying properties from the MLS is akin to speculation (from an appreciation stand-point). Exceptions do exist. I have found properties on the MLS that make for a good investment but they are rare. Most of the time, buyers end up in a bidding war on such properties. Most of the time even distressed properties on the MLS are overpriced. This is because there is always a greater fool (mostly a newbie) who will overpay to buy the property.

How to always make money?

Do the inverse of what you read above. Look for non-democratic sources of buying assets. This is not easy to do with stocks because you need to be in the world of private equity to even know which opportunities are available. It is relatively easier to buy real estate from an non-democratic source: Off-market properties.

When you're buying off-market, you typically don't have the same opportunity to do your due diligence as if you're buying from the MLS. You need to know what you're doing. If you are skilled and willing to take calculated risks, there's ample money to be made.

One of my mentors once told me, A good education is expensive but stupidity costs a fortune. The worst thing you can do for your financial destiny is to be financially illiterate. Learn, learn and learn more. The more you know, the better decisions you will make. Great investors are not born. They invent themselves by educating themselves just like you’re doing right now.

One of my favorite Disney movies is Ratatouille. In the climax of the film, Anton the restaurant critic realizes what Chef Gausteau meant when he said ‘Anyone can cook’. He did not mean that anyone could waltz off the streets of Paris into a Michelin star restaurant and cook a befitting gourmet meal. What he meant was ‘a master chef can come from anywhere’. He meant that greatness is not the birthright of a select few. That anyone, no matter where they come from can strive for excellence and with perseverance, get there. Investing works the same way. We’re all born with the possibility of becoming ‘investors’. Most people end up as ‘speculators’ whose fortunes rise and fall like the tides of the sea. A select few become ‘investors’ whose fortunes rise, no matter what the market does.

So the choice is yours. What do you want to be: an investor or a speculator?