I hear it all the time, “the stock market is just another way to gamble.” But is it a gamble or a calculated risk?
Let’s back up a minute and talk about balloons. Yep, ballons!
What happens when you keep pumping air into a balloon, over and over and over and over again? It eventually pops, right?
So what do you think happens when you keep pumping money into a company (or index) over and over and over and over again? Eventually, it too pops.
Some companies become so overpriced, for whatever reason (usually has to do with profits), that investors begin to sell their stake in them – the stock pops!
If a company is selling for $50 per share (hypothetical) but it is only worth $20 per share on paper, eventually a sell-off will ensue. The company at $50 just cannot keep up with its profits.
Or maybe they were committing accounting fraud, who knows!? But either way, they’re just too expensive for whatever the reason.
Now, take that same company and multiply it by thousands. Why? Because there are thousands of companies in the stock market. Sure, some might be undervalued (worth $50 but selling for $20). But some are also overvalued (worth $20 but selling for $50). When the balance tips in favor of overvalued companies, you get a bubble. Or balloon, you choose the wording.
When there are more overvalued companies than there are undervalued companies, things get risky when buying. This is when a lot of investors will sit on the sidelines in cash… or, they might buy bonds instead. They see the bubble (or balloon) expanding, and they know it will eventually pop (sell-off).
So what in the hell is my point?
Retail investors (you and me) are always the ones to get caught with our hands in the cookie jar at the top of markets. What happens is this: Joe Blow, your market wizard neighbor, sees that company ABC (hypothetical) has been moving up for a month or more. So what does he do? He says “WOW! This is fantastic. Easy money!”, and he buys shares of company ABC.
This is fine if Joe Blow bought the shares at a decent price. But if he did not buy at a decent price, then Mr. Market and Smart Money might decide to sell their shares soon because the company is now overvalued. And when Mr. Market and Smart Money sell shares, it’s usually in extremely large blocks – millions, if not billions of dollars worth. This, of course, drives the share price of company ABC down. Joe Blow is now bankrupt because he invested his whole life savings into company ABC.
Getting back to the original question, “Is the Stock Market Just a Big Casino?” The answer is a resounding NO, in my opinion.
The problem with most (the average) retail investors is this… they fail to do their homework. They don’t perform technical and/or fundamental analysis on the companies they buy into. They, in essence, have no idea what’s going on. So instead of chocking it up to a learning experience, they simply say dumb things like “the market is a big casino. It’s all just a gamble.”
I firmly believe investing is a calculated risk, and not a gamble. This is just my opinion. I relate it to buying a house; would you go out and buy house without researching home values in the area? If you don’t, you might pay thousands more for the house than you needed to. This basic concept applies to the stock market as well.
With all that said… you are never going to win them all. I don’t know of anyone who ever has. Even Warren Buffett has lost on investments.
But with solid analysis (technical, fundamental, or both), I believe it is a calculated risk and not a slot machine.