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A word about Speculation
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We have already established that investors are motivated by two powerful forces:  fear and greed.  Not only do fear and greed cause investors to over-react to short-term events, they also result in speculation.

Fear and greed cause investors to chase returns.  Buying high and selling low destroys wealth.  Even sophisticated investors are vulnerable to the seduction. 

In the late 1990's anyone could make money investing in technology stocks.  Any firm with a ".com" or a ".net" in its name saw its stock value soar.  In early 2000 investors woke up.  They recognized that not only had these internet firms not made any money--they were never going to.  And the bottom fell out of the tech sector.

Then investors woke up and said "You can't make money investing in the stock market.  Wall Street is a losers' game.  Buy real estate.  It never goes down in value."  We know how that story ended.

Since the mid-2000s the price of gold has increased dramatically.  Values of commodities and real estate are not driven by earnings like the stock market, but they are impacted by speculation.  The price of gold cannot continue to appreciate indefinitely.  At some point the music will stop, a chair will get pulled and some investors will get hurt.  It took investors who bought gold the last time it peaked in 1980 until sometime between 2007 and 2008 to break even.

The good news is that volatility and speculation that are the greatest source of wealth creation for small investors.

<NEXT:  Rethinking Risk>



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