Broadly speaking, financial markets are made up of investors and speculators. Investing and speculating are not the same.

The terms are often used synonymously due to common characteristics that they share and in today’s complex financial markets the line between the two has become blurred. However, there are key differences that you should understand to make sure that you are participating in something that is appropriate for you.

The main differences between speculating and investing are the amount of risk involved, the certainty of receiving your capital back and the time horizon. Investment involves the allocation of money towards the purchase of an asset with the aim of generating certain returns. These returns come in the form of periodic dividends, interest payments and/or an appreciation in value of the asset. Speculation is a financial transaction that has a substantial risk of losing all value ie a high probability of failure, but with the hope of a significant gain.

It is because speculators seek abnormally high returns from bets which can go either way, that speculating is often likened to gambling. However, it is not quite the same as gambling, as speculators try to make educated decisions on the direction of their trades and take action when the probabilities are high in their favour. However, the inherent risk involved in the transaction tends to be significantly above average and the success or failure depends primarily on chance, or on uncontrollable (external) forces or events. If you do lose money on an investment, it should be because something unexpected happened. The potential of losing the entire principal investment amount is largely what differentiates speculating from investing.

When investing, the intention is to buy an asset that will be held for a longer time horizon — more than one year — and the focus is on getting security and stable returns. On the other hand, speculating tends to be synonymous with trading because it is more focused on shorter-term moves in the market and so these traders may frequently move into and out of a position. The objective is to make quick returns and they may compromise on security in order to achieve this.

Examples of well-known and popular investments include the stock market, bonds, and mutual funds. Assets that fall into speculative territory include options, futures, foreign currencies, start-up companies and cryptocurrencies.

Speculative assets can indeed hold a place in some investors’ portfolios, but this should be based on their risk tolerance, how much volatility they are comfortable with and their financial goals. If the idea of having a high probability of losing all your principal frightens you then speculation is not for you: Stick to investing. Talk to a trusted advisor before putting your money into any venture.

Toni-Ann Neita-Elliott, CFP is the vice president, sales & marketing at Sterling Asset Management. Sterling provides financial advice and instruments in US dollars and other hard currencies to the corporate, individual and institutional investor. Visit our website at www.sterling.com.jm

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