MARKET COMMENT
Why Investing Beats Gambling

By David Kuo (TMFDragon)
November 22, 2004

I was disappointed the other day when a friend told me that he thought the stock market was nothing more than a casino for the rich.

I was disturbed on two separate fronts. Firstly, I was saddened to hear that there are some people who believe the stock market is the preserve of rich people only. Nothing, of course, could be further from the truth given the rapid growth in the number of low-cost online brokers that has made owing shares more affordable.

However, what disappointed me more was discovering that there are some people who still fail to grasp the differences between gambling and investing in shares.

Perhaps the most significant difference between gambling and investing lies in the concept of winners and losers. When you gamble, you are participating in a game of chance with the explicit intention of winning. But by implication, there will also be losers.

Moreover, it is the losers that provide the spoils enjoyed by the winners. Consequently, there is a transfer of money from loser to the winner, simply because there is nowhere else that the money can come from.

However, when we buy shares, the value of those shares is a reflection of how the market perceives the company will perform in the future. If the company does well, then the profits that we make by owning its shares is generated by the extra value that the company creates.

Accordingly, those profits are not the result of someone else's losses but instead by the company doing well. In addition, even at the point when we sell our shares to another investor, both parties win at the time of exchange. That's because each person is better off by attaining something preferred to what has been voluntarily given up.

Another significant difference between gambling and investing is that the longer you gamble the greater are your chances of losing. This is simply because in most games of chance, the expected return is not in the gambler's favour. For example, horseracing odds are deliberately calculated to produce a profit for the bookie regardless of the outcome of the race.

By contrast, the expected return from investing in shares is in favour of investor. Therefore, the longer you invest in shares the greater is your likelihood of turning in a profit. Historically, shares have delivered a long-term return of 11% per year, and in my view, it makes sense to "bet" on shares performing well in the future.

Additionally, one of the best ways is to invest in shares is through an index tracker, which will provide exposure to a wide range of companies. It will also remove some of the short-term unpredictability that can give rise to the misconception that shares are a gamble.

More on online brokers and index trackers.