Bring up the topic of market speculation to just about any casual investor, and you’re likely to get dirty looks. Speculation has become a buzzword associated with irresponsible behavior by banks and other big financial institutions. To the layperson, speculation is gambling by any other name, with the key difference that it’s done with investor money rather than personal money.
Speculation’s reputation isn’t wholly undeserved. After all, speculation has been at the heart of some of the market’s most spectacular failures. Then again, all forms of investing are a way or balancing risk and reward, and speculation is merely the “bet” that the risk in this particular instance will be well worth the risk.
We’re going to take a look at what exactly speculation is, what roles it fills in the market, and why it might be a necessary evil to keep the cryptocurrency on the bleeding technological edge.
As we briefly touched upon earlier, all investing involves measured amounts of risk in return for expected amounts of reward. Speculation is at one end of that spectrum, while virtually guaranteed investments, like bonds, are at the other. In so-called safe investments, the amount of risk is known to all parties, as are the rewards. There is no way to completely eliminate risk in any kind of investing, but low-risk investments are generally time-proven and undersigned by some kind of higher authority – usually a governmental entity. The trade-off for all this security is a relatively low payout. Since the investor is taking on relatively little risk, the rewards are again relatively small.
Speculation operates on the same principle, writ much larger. The investor takes upon him or herself a relatively large chunk of risk with the expectation that the profits gained will be worth the potential loss.
A quick word on how all of this differs from regular old gambling. While gambling can involve skill elements, no one could fairly describe it as a form of investment due to the large role of chance. In speculation, while risks are a given, there is a reasonable effort by all parties to do the homework and the legwork necessary to make the investment a success. There is no cast dice, no spun roulette wheel. In a well-executed speculative investment, the speculator understands the risk involved and believes the information or analysis he or she is relying upon is solid enough to beat that risk and ultimately reap the financial reward. In other words, chance is mitigated as much as humanly possible.
From Tulips to Bitcoins
Much of the bad name that speculation has accrued has been the result of poorly researched investments or even investments made in bad faith. There’s also the inherent risk; for every huge success story, there’s a counter story of that time someone went bust.
The ur-example is, of course, the big Tulip Mania craze that took place in 1630s Holland. Tulips inexplicably skyrocketed in price, particularly rare or exotically colored cultivars. Tulip farmers began to sell off their as-yet unproven bulbs at wild prices, pushing the market into a frenzy. As quickly as it began, however, the demand for tulips fell off a cliff, and some speculative investors were caught holding extremely heavy bag bulbs for mere fractions of the price they had paid.
There was no real way to research what color a tulip would ultimately turn out to be, apart from some general knowledge about the tulip breeder in question. So, it’s a tad hazy as to whether this falls on the speculation or the gambling side of the equation. There are other, equally hazy “investments” still floating around – racehorses immediately come to mind, as does currency arbitrage. The main speculative vehicle of our time, however, appears to be cryptocurrency.
Necessarily few folks predicted Bitcoin’s meteoric rise from a few cents apiece to thousands of dollars. However, some lucky investors made fortunes off relatively small bets. This is the financial underpinning of the crypto crazy, setting aside all the more purist stuff, like financial freedom, the destruction of trusted third parties, and universal privacy concerns. At the heart of the crypto market lie investors hoping to turn relatively small investments into heaps of digital cash – speculators.
As in every other speculative market, this class of investors gets a bad rap. Parasitic at best and market manipulators at worst, some say, pointing to the extremely volatile crypto market. As money chases dubious projects and outright scams, throwing the real valuation of these projects extremely out of whack, bystanders can only murmur and complain.
Some of these investors are indeed just gamblers, basing their “investments” on almost straight whimsy. Some are better-than-average at technical analysis, and they may even have a decent understanding of the underlying tech. All, however, are speculators, as the repeated local crashes inherent in the crypto market make clear. Crypto is perhaps the ultimate high-risk, high-gain investment arena.
Advancing the Market
Yet even the most uninformed speculator plays a role in pushing the market as a whole forward. Speculators prime the pump for legitimate and illegitimate projects alike, providing capital – which is neither good nor bad, but essential for the market’s functioning. Speculation also attracts investors to the field who don’t otherwise care about cryptocurrency. From casual buyers to big banks, the concern isn’t with privacy or tech – it’s about money, pure and simple.
Indeed, cryptocurrency may just be tailormade for speculative buying, and it’s hard to argue with that natural tendency. Cryptocurrency, unlike the tulip bulbs of old, is difficult to counterfeit or cheat. A bag of bulbs is relatively easy to swap with a similar bag, so even a well-researched investment can go down the tubes. Not so a Bitcoin, which by its very nature is signed and secured by the programming that makes it up. The market is new and fresh, and so speculators have the opportunity to reap huge rewards by betting on the right projects.
Virtually no one in this day and age is going to be able to claim thousands of percentage point gains in traditional commodities – or companies, for that matter. Cryptocurrency is simply on another technological and financial scale, completely. And this is perhaps the greatest role for the speculator in the nascent cryptocurrency market. New technology is scary. It’s unproven, and it’s in fact highly likely to fail. It also has massive, unbounded potential.
Within the lifetimes of many readers, the internet evolved from an academic and military tool to a necessary part of day-to-day life. Cryptocurrency shares that same potential. It has already gone from a niche hobby of anarchic privacy phreaks to the halls of Goldman-Sachs. Speculators absorb this enormous amount of risk, taking their lumps and their rewards as they go, and make the market more palatable to casual investors. By absorbing the shocks and growing pains of the cryptocurrency market, speculators pave the way for more established – and well-capitalized – interests to step in and solidify the market when the time is right.
Speculators have earned a bad name for themselves in some financial corners. Yet, they’re not all that different from the first pioneers to push west across the Atlantic or into the American heartland. You’ve got to be a risk-taker to be a speculator. You may even have to make some silly decisions along the way. But the absorbed risk can turn out to be extremely worthwhile – for both the speculator and the less brave souls in their wake.