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Isn’t investing just gambling?

We get this question a lot. We hear it from some of the most honorable people we know and, sadly, it keeps them from investing.

The truth is that most of us will never earn our way to even a modest retirement. It may be possible to store enough well-earned nuts to get ourselves through a winter or five or ten winters, but the seasons of retirement are now approaching 25, 30 or even more years! Very few American expat missionaries, teachers, and such can store up 30 years of nuts by earning and saving alone.

Investing through a 401k, an IRA (when legal to do so), 529 college funds, and taxable brokerage accounts has become a necessity for most of us if we want to stretch our Rubles, Pounds, Renminbi, and dollars through 30 of the golden years. So we’d better answer this question and we’d better get it right! Is investing gambling?

Yes! Certain kinds of “investing” can be just like gambling

Poker

Would you sit down across from a dealer at Las Vegas, stare her in the eye, push all of your chips to the center of the table, and bet you can beat her in a single hand of poker? Maybe you would if the chips were only worth a few bucks, but what if those chips represented your entire net-worth? If those chips represented your funds for 30 years of retirement, would you still bet your knowledge, skill, and luck was better than the dealer’s knowledge, skill, and luck?

Let’s take this one step further. Let’s place 5, 10 or 20 more people at the poker table. Would you still bet it all? Let’s say those 20 people are all professional gamblers. Would you bet your life savings that you can outwit a room full of professionals? Well, there are forms of “investing” that mirror that scenario quite precisely. In fact, picking individual stocks, market timing, and hedge fund investing all share some alarming similarities to gambling.

Stock-picking

When you want to buy a few shares of Company X because you predict that it’s going to increase in value, you are essentially sitting across the table from someone who is betting that Company X isn’t worth the money. That’s why she is dealing it to you. She wants to sell it to you because she thinks you are overpaying for it. You are betting you are smarter. I hate to break it to you, but you probably aren’t. She may be a broker or a hedge fund manager. “She” may even be the entire board of Company X itself. You may get lucky, but you aren’t going to win on skill alone.

Picking Company X may work out well for you, but it could also be like buying stock in Eastern Airlines. Remember them? Probably not, because they went out of business. It happens. With stock-picking, you can gain a few bucks, lose a few bucks, or even lose it all. Picking individual stocks is pretty speculative and isn’t much better than gambling.

Market timing

Selling mutual funds because you “know” the market is going to go down or buying them because you “know” it is going to go up is called market timing. Thousands upon thousands of experts get this stuff wrong every year. You are seating yourself at a table full of professional gamblers and thinking you can outplay them at their own game. While we Vagabonds are out teaching adults to speak English or feeding undernourished kids, they do this for a living and know the game a lot better than we do. Yet, we think we can outplay them, outplay the markets, and predict the future. All the research says that the professionals can’t do this regularly, why should we think we can?

Hedge funds

Every time I think people have finally been warned off of hedge funds, another one pops up. They often close in disgrace only to open up again under a slightly different name. We assume that most of our Vagabond faithful are not hedge fund investors, but if you are. Please do some research on the little wager (if a million dollars can be considered little) that Warren Buffett made with and won against the hedge fund gurus. Thankfully, the wager gave a lot to charity and hopefully put the hedge fund idea to bed once and for all.

Note about actively managed funds

We do not want to suggest that a mutual fund or exchange-traded fund (ETF) that has a manager who actively purchases a large number of individual stocks is necessarily an act of speculation or gambling. We would rather see you investing in low-cost, widely diversified index funds as we describe below, but a using low-cost, widely-diversified managed fund isn’t the end of the world.

Beware, however! If our funds’ managers are not required to invest in a large number of stocks which correlate to large swaths of the American or world economy, then we are coming close to that gambling term again. If a fund manager is investing in just 50 stocks, that’s pretty similar to stock-picking. Investing in one small sector (like technology or banking) is basically stock-picking as well. If your fund’s manager has the freedom to get in and out of the stock market or switch from one sector to another, isn’t that market-timing?

If you want to invest in manager-run, actively-traded mutual funds or ETFs or if that’s all that is available to you in your 401k, for instance, just be sure to keep your costs low, keep your monies widely diversified, and don’t switch from fund to fund in a chase for profits (which usually ends very badly).

No one at Vagabond Finances is going to criticize you for choosing actively-managed funds if you do so wisely and with your eyes wide open. We won’t even scoff at you for doing a tiny bit of market-timing or stock-picking on a whim or hunch, but doing these things are more speculation than investing. It’s like gambling to think we are smarter than the professionals seated.

Room full of gamblers
Can you beat them at their own game? There is no need to try!

So that brings us back to our question: Isn’t investing just gambling?

No! The investing we’re advocating is nothing like gambling!

Our writers at Vagabond Finances represent various countries, jobs, and experiences, but pretty much all of us would say this: invest for the long-term (decades if possible) in low-cost, widely diversified, index mutual funds or, better still for the American expat, ETFs.

You’ve probably heard of the Standard and Poors 500 or S&P 500, right? This is a list of about the largest 500 US companies. Would it be gambling to you if you could own all of them? Or would that be investing?

As Mark Zoril points out, investing in the USA is almost free. If you are careful, you can purchase one ETF without a transaction fee, a brokerage fee, and with only the annual expenses of running the ETF (which should be under 0.5%!). Because you are purchasing an ETF, you can buy just 1 share (or tiny piece) of the S&P 500 ETF, so it could cost you as little as $100 to get started. So, for $300 or so and a minuscule annual fee, you can own a portion of every company in the S&P 500.

That’s not gambling; that’s investing in the future of huge companies in the American economy. Since 1928, Investopedia says the S&P 500 on average returned almost 10% per year. We’re investing for decades not year-by-year, so let’s look at a longer period. According to Paul Merriman, going all the way back to 1928, the S&P 500 hasn’t had a losing 15-year period. It did come close gaining just 0.6% from 1928 to 1943, but it also soared 18.3% from 1985 to 1999. (And please note that our investing years usually don’t end at age 65, so a 15 year period is just as valid for a 55-year-old as it is for a 25-year-old.)

Investopedia says that SPY, IVV, and VOO are the Top 3 ETFs to Track the S&P 500 as of this writing. Buying them and holding them for the next 10 years will pretty much guarantee you to reap the gains of the largest companies in the USA for the next decade. Thinking bigger? You should be. There are ETFs that track the entire US economy, including smaller companies (and usually hold around 3,000 funds!), there are ETFs that track the world’s economy (potentially 8,000 funds), and there are ETFs for bonds as well (with 15-17,000 bonds).

Buying and holding the world’s economy or some other large swath of companies at low-cost over a period of ten years is not a “good bet,” it is a “good investment.” Could the global economy face a meltdown? Could a meteor hit the USA? Sure, but I hope you wouldn’t be thinking about your money at a time like that. Money is not the end of the race; it is merely a small but vital part of the Vagabond Path.

If we can’t earn and save our way to a modest retirement, we’ll need to invest. Our core investments shouldn’t smell of gambling or speculation. Low-cost, widely diversified ETFs may not be exciting like gambling, but trust me, your future self will thank you for investing in your future instead of gambling it away!

Mark Mason

Missions is my calling. Finances is my hobby. Helping you is my pleasure. "Mark" is my ultra-ego.