Have you ever heard someone say that if you invest in the stock market you mine as well be gambling? Although there is risk with any investment I always have to pause when someone says that the stock market is like one big casino where investments are wagers and returns are based on chance. As someone who has worked in the casino industry as an auditor and regulator, I will be the first to tell you how untrue that statement is and here’s why:
The Power of Longevity
In a casino environment, it’s imperative to keep guests within the facility as long as possible. Have you ever noticed that there are typically no windows or clocks around the gaming floor? In addition, most properties strategically place their restrooms and restaurants in locations where you have to walk across the gaming floor to get to. Go to some of the bigger Las Vegas casinos and they manage to design the floor plan to easily direct you into the gaming area with signage placed a bit more discreetly showing you the way out. At the end of the day, as a player you are statistically at a disadvantage to the house in every game on the floor. Therefore the insider casino mantra will always hold true: “the longer you play, the greater you lose.”
Investing in the stock market is exactly the opposite of this idea. History has shown that the longer you invest, the greater your returns. Since inception, the average annual return for the S&P 500 is approximately 10%. Year over year there will be fluctuations and bear markets, but over the long-term you have to stay in the game to reap greater returns. Warren Buffet said it best, “over the long term, the stock market news will be good.” Maintaining a disciplined saving plan and continuously invest with a long time horizon in mind. In fact, unless you are re-balancing your portfolio you shouldn’t even look at your investment performance day to day, week to week or even month to month. Trust the process and the insider investor mantra will always hold true: “the longer you invest, the greater you win.”
In a casino, gambling is a series of discreet wagers. Although you can increase your bets and watch your chips grow, you never capture the waterfall effect that is compounded market returns.
The most powerful finance concept for an investor is compound returns. Many times I’ve sat in front of a group of friends explaining (with the urgency of some type of addict) the importance of investing early to capture the power of compound returns. These conversations are typically met with blank stares until I can break down the impact that compound returns have on the value of your investments. Let’s look at an example, and say you have $100,000 saved for retirement. For simplicity sake, we’ll assume you never save another penny and that $100,000 earns 7% annual returns for 30 years. You would end up with $761, 225.50 after 30 years of investment returns. Now, let’s take that same example of a $100,000 and say you earned 8% annual returns instead of 7%. Now your savings have grown to $1,006,265.69. This shows the profound impact of compound returns due to a modest 1% increase in your annual investment return. With 7% you’ve done fantastic, with 8%, you’re now a millionaire. Take a look at Bank Rate’s simple savings calculator to test out the power of compound returns to your retirement nest egg. It’s easy to see that long-term investing in a balanced and diversified portfolio is key to attaining your net worth goals and by far will outweigh the short-term ups and downs of the market that lead many people to consider it gambling.
Risk vs. Reward
Have you ever sat at a blackjack table and played a few winning hands? Suddenly the rush of beating the house fills your body and you feel incredible. Your chip stack is growing and you feel as though you’ve discovered the secret to quick cash. Keep sitting at the table a while and pretty soon that magnificent feeling is sure to dwindle away into an empty hatred for gambling as the dealer collects the last of your chips. That is the very reason that players are so attracted to gambling, it’s a high risk high reward environment. Your entire wager can be lost (and likely it will) or it will double and you’ll see an immediate 100% return.
Now let’s consider investing in the market. I’m not talking about chasing penny stocks (which likely is closer to casino gambling), but investing in a diversified and balanced portfolio that is heavily weighted toward large cap blue chip companies. Sure there’s risk of an economic downturn or a large market correction. But history has shown that over the long-term the market will always create positive returns. Every investment that you “wager” has the risk of depreciating in value, but over the long-term the potential reward is much higher with your funds benefiting from compound returns. Based on the risk-reward ratio can you really consider investing in the market as gambling?
If you’re a thrill seeker and live life on the edge, the casino is the place for you. For the more conservative folks… let’s just maintain a healthy blood pressure, sit back, drink a beer and watch that money work for us.
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