Lately there has been a glut of news talking about the insane returns that cryptocurrencies have had. In the wake of the Super Bowl, you can’t turn on any media without seeing ads for sports betting. Even games I love and adore like Teamfight Tactics or MTG Arena have randomized rewards, sometimes just cosmetic and sometimes important to gameplay. Gambling and gambling-adjacent practices are everywhere, from our real world financial system to our entertainment. But all investing is a gamble, right?
Not exactly. The biggest differences between gambling and investing come in two areas: history and diversification.
History in investing is one of the most important factors. We have data for the S&P 500, freely available on Google, going back to 1996. If you want more, you can find the data dating back to 1967. The DJIA (Dow Jones Industrial Average) goes back even further, to 1896. This history shows us that over time we can largely expect positive performance from these indices. Perhaps not year-to-year every time, but decade-over-decade.
Importantly, this means by owning large swaths of the U.S. economy you can expect decade-over-decade returns to be positive. The odds aren’t perfect and there are no guarantees in life, but trusting the continued growth of economic sectors in the U.S. or around the world is a less risky stance than trusting the roulette wheel to land on red. We have data to show the growth of these sectors and the likely rate at which they will grow.
The second aspect is diversification. In gambling, your odds are based on one (or a combination) of narrow factors coming true. In investing, you have the opportunity to take multiple “likely bets” at the same time, which is called diversification. You can buy index funds, which may own hundreds or thousands of individual stocks. You can even buy multiple index funds from different asset categories, thereby increasing the number of “likely bets” you are taking. Investing in this many broad factors tends to mean that even if you have bad return or losses in one aspect of your portfolio, the other funds you own may make up the difference.
This is why financial planners often recommend diversified portfolios. We don’t know what will do well in a given period of time, but we can guess that something will likely do very well. Smartphones didn’t exist twenty years ago, but now Apple is one of the largest companies in the U.S. An example of this comes from some portfolio back-testing done on a simple 60/40 portfolio that shows consistency over time. As long as we don’t choose the greedy gamble that can pay off 100% a year, we can decide to invest money at 6.8% average per year. It’s not guaranteed, but diversification and history can help us make a good decision. Gambling and investing are not the same, especially over the long-term.
Tl;dr Gambling and investing both share the same goal – to gain wealth. Investing does this over time, somewhat predictably, and with a combination of historical data and diversification to rely on. Gambling does this all at once…or not.