Learn everything there is to know about speculative trading | Motilal Oswal

Want to know about speculative trading

Speculative trading is the act of trading stocks in anticipation of their value going up. If the expected increase in value is accurately predicted, the trader will make a profit. If not, the purchase or sale may result in loss, to some extent. The nature of speculative trading is quite risky, but the potential rewards are significant. Some speculative traders may be able to make a fortune from one good prediction, while others may have to suffer losses that can end their trading careers. Read on to know more about speculative trading, how it works, its benefits and so on. 

  • What is Speculative Trading?

Speculative trading is a type of trading that focuses on you making the most of your investments in stocks at an opportune moment. Instead of following regular market cycles, speculative traders come up with their own prediction system and strategies to estimate the rise and fall of stock values. Hence, this is is also known as stock market speculation, as it involves risking your stock market investments for a huge profit.  

  • How Does Speculative Trading Work and how does it differ from investing? 

Generally, traders buy and sell derivatives and employ strategies such as short-selling, and do not possess the stock themselves. 

For example, options allow you to purchase or sell a security at a later date. A call option is a right to buy a security at a later date. Thus, if a speculative trader  expects the price of a stock to go up, they would buy a call option. If their prediction is right, they are able to purchase the stock itself at a lower price and sell at a higher price, netting a profit from the transaction. 

The key factor in speculative trading is your risk appetite and not your financial condition, as speculative traders also typically use leverage and engage in margin trading. While experience definitely makes a difference when it comes to placing predictions, speculative trading can go either way. In order to execute this effectively, speculators or traders try to find discrepancies in prices, new opportunities for profit, socio-economic events that can affect the market, and other market fluctuations. This requires close attention to factors that can change rapidly in the short term. 

In comparison, investing is done with the goal of getting a reasonable return on capital and is based on fundamental analysis and technical analysis. The risk exposure in investing is much lower than speculative trading, and the investor is usually looking at investing in companies with strong fundamentals, companies that pay regular dividends and companies that are expected to appreciate in value over time in order to secure a decent return. 

  • What are the Benefits and Risks of Speculation?  

Here is a quick look at the pros and cons of speculation in stock market trading

Benefits

Risks

Helps in diversifying your portfolio

Not all traders will strike gold, and the market fluctuations can be unpredictable 

Opportunity for maximizing gains

Losses can be heavy and the likelihood of loss is relatively high

Can garner enough profits to meet all your financial goals

Research is key, but even experts can go wrong

Can help you participate in shaping the future of the economy

Without in-depth knowledge of specific sectors, industries and companies, success is very unlikely

In Summary

While speculative trading may not be every investor’s cup of tea, speculators actually play a very important role in the market. By absorbing risk and boosting liquidity, speculative traders allow others to profit from their research and analysis. However, speculation is a highly time-intensive undertaking and asks for a niche skillset. Relatively easy investment options would be passive index funds, especially those with low fees. This is because they tend to outperform other types of funds over the long term, diluting risk even more than portfolio diversification does. 

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