All kinds of interesting things happened when the global economy shut down to fight COVID-19 in 2020, but one that really caught our attention was the shift from gambling to day trading.

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3 factors that can tell you if you're investing or gambling with your money Back to video

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The shuttering of sports betting led to a huge swath of gamblers moving to online trading and companies such as Robinhood Markets Inc. were all too happy to accommodate. Suddenly, one could get in on cryptocurrencies and meme stocks that were rocketing upward, or even utilize leveraged exchange-traded funds and options to torque up a bet on the short-term direction of a particular commodity, equity market, currency, etc.

Despite last year’s market correction and the reopening of sports betting, this behaviour didn’t go away and now appears to be a permanent step change. So far in 2023, retail trading accounts for nearly a quarter of all trades in the United States, which is up from the average of 10 to 15 per cent over the past decade and is now at an all-time high. In the third quarter last year, 60 per cent of Robinhood’s transaction-based revenues came from retail investors trading options.

We recently came across an interesting study on Thai investors, where traditional forms of gambling are illegal, that showed 14.4 per cent of retail investors exhibited symptoms of excessive gambling in the stock market, and 4.9 per cent were potentially addicted to trading. In the U.S., it has reached the point where retail traders are attending gambling addiction centres.

Now, most don’t realize they have a problem until they undergo some form of intervention or event that leads to self-discovery. One would think last year’s meltdown would have been a great chance for this to occur, but it didn’t based on what we’re witnessing so far in 2023.

To help, here are three factors that provide some indication whether a portfolio is built around investing for the long term or gambling on short-term events.

Time horizon

This is the most obvious factor. There is likely a problem if you find that your portfolio turnover is quite large, meaning you are frequently buying and selling positions and watching your portfolio on a daily, weekly or even monthly basis.

The issue is that this allows for things such as recency bias, the fear of missing out on what others are doing and loss aversion, that is, taking greater risks to recoup your losses. All wreak havoc on your portfolio.

Instead, good investments often take some time to play out and can be contrary to what others are doing. A great example of this was the energy trade in mid-2021, and one might argue this to be the case in today’s environment.

Binary outcomes and dualistic thinking

Betting on red or black is not a way to invest. Those betting against interest rate hikes last year lost their shirt, and yet many are doing the exact same thing again this year.

For example, watch the performance of the Nasdaq on days when positive or negative broader economic data is released. It has essentially become a way to speculate on the future direction of interest rates, essentially no different than a leveraged interest rate ETF.

To see this in action, pull up the charts for the iShares 20 Plus Year Treasury Bond ETF and Invesco QQQ Trust Series 1 ETF over the past 12 months and then overlap the Fed rate.

Zero sum and diversification

In order for you to obtain a win, someone else has to lose. I see this all the time on social media, where the “I’m right and you’re wrong” crowd dominates, such as being long Tesla Inc. and short oil stocks, or long tech stocks and short traditional sectors such as consumer staples.

Real investors don’t go all in on either and instead take a goals-based approach that is specific to their personal financial objectives and independent from everyone else. This means owning a bit of everything with different weightings to help maximize the probability of achieving one’s target.

Contrast this with those who take heavy concentrated positions in one sector, region or market. Sometimes this can be unintentional. For example, Apple Inc., Microsoft Corp., Alphabet Inc., Amazon.com Inc. and Meta Platforms Inc. now account for a combined 17.5 per cent of the S&P 500, a higher concentration in tech than during the 2000 tech bubble.

Therefore, don’t be afraid to diversify. Adding some oil and gas alongside your S&P 500 exposure last year would have gone a long way to mitigating some of the correction.

In conclusion, the longer one keeps making bets, the greater the chance they will face something called gambler’s ruin, since you are going up against an opponent with infinite wealth — the market. This reminds me of a great quote by economist John Maynard Keynes: “Markets can stay irrational longer than you can stay solvent.” Put another way, the house always wins if given enough time.

Martin Pelletier, CFA, is a senior portfolio manager at Wellington-Altus Private Counsel Inc, operating as TriVest Wealth Counsel, a private client and institutional investment firm specializing in discretionary risk-managed portfolios, investment audit/oversight and advanced tax, estate and wealth planning.

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