Why investing in the stock market is not the same as gambling

Let me put my cards on the table right away. I enjoy gambling with small amounts of money, but of course responsibly. A working lifetime of dealing with mathematics and probabilities attracted me to the fun of gambling as a hobby.

One of my favourite uses of gambling is ‘misery insurance’ for sporting events. This is the concept of betting on your opponents in a match in which you are emotionally invested - if you lose you get a cash windfall, if you win then who cares.

But I find betting exchanges the most interesting part of gambling. That’s a market where you can place or take bets in a constantly evolving market. This can provide a goldmine of information.

For example, the data enables you to work out what people think will happen in political events. Right now the markets think that the chance of a Brexit is around 30 per cent, which is not what you would see from the opinion polls.

The best part of betting exchanges is that by being able to take both sides of a bet you can buy and sell them over time, enabling you to benefit on the movements in odds regardless of the outcome.

For example, the market temporarily moved sharply in favour of remain when Obama gave his opinion, but slowly returned to normal as those betting realised it probably wouldn't have much of an effect.

If you were quick, you could be buying and selling very small bets on these movements and locking in profits.

When I enthuse about the joy of betting exchanges like this a lot of people say it sounds a lot like stock market investing. Gambling and the stock market are similar only in the sense that gardening and eating a salad are the same.

Yes, they both involve numbers, probabilities and some psychology but at its core, investing is creative and gambling is at best a zero-sum game.

Take an example from a betting exchange.

The current bet for Remain means that a £1 bet will return around £1.45 if the vote goes that way. On the other side of that bet there will be someone that you’ll be ‘laying’ the bet with.

This means they will take your £1 now but have a liability of £1.45 if we remain in the EU, but if we do leave then they will keep hold of your £1.

If you add up the liabilities and the assets of both sides they are the same. Betting is a means of moving money between people; it does not create any greater value.

Investing sometimes feels like this, but it's not.

Say you have a great idea for a new product - let's call it ‘i-widget’. It will cut the costs of the widget industry by 20 per cent, but to get i-widget up and running you need money. You are therefore delighted to receive an investment from Stable Fund Managers of £1 million.

Over the year your project suffers quite a few highs and lows and rumours that it isn't working as well as you hoped. With every fresh rumour the value of the £1 million invested goes up and down.

Due to volatility, Stable Fund Managers sell some of their investment to Venture Fund Managers who are happier with the risk.

In trading their holdings, it may feel like Stable Fund Managers and Venture Fund Managers are acting a bit like the parties in the bet. But there is a crucial difference. The money invested by both parties is not sitting idly by waiting for an outcome.

It's gone to work in the economy to develop i-widget and in doing so will create a huge amount of wealth in the industry if it works. The final benefits will be shared between the industry, you the investor and the fund managers in various proportions.

It's therefore not a zero sum game. Betting transfers wealth between parties but investment creates wealth and transfers it within the economy.

I enjoy betting, responsibly, but investment isn't a pastime, it's a long term commitment to get my money working hard in the real economy. So let's not mistake growing a lettuce for eating a salad.

 Neil Lovatt is a product director at Scottish Friendly

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