What Are Speculative Stocks?

Before you put your money into the stock market, you should consider the type of investor or trader you want to be as well as how this will affect your overall investment goals. While some people choose to play it safe and lean toward large-cap conservative stocks that will benefit them over the long term, others will choose rather risky companies that could benefit them in the short term.

Because short- and long-term investors or traders have different goals, it’s crucial to understand the types of stocks and strategies that would benefit you the most.

What Are Speculative Stocks?

When you think about the word, “speculative” it is defined as making an assumption or guess based on conjecture rather than facts and data. In a similar sense, a speculative stock is a high-risk, high-reward stock with uncertain prospects.

Investors and traders can determine if a stock is speculative or not by analyzing how sustainable the company’s business model is, which will help them determine if it would be a risky buy. Speculative stocks tend to trade at a lower price than other stocks. Professional speculators are hopeful that the stock’s value will change in the near future. Speculative stocks’ volatility and high reward make them attractive to many short-term investors or traders.

Are All Penny Stocks or Small-Cap Companies Speculative?

Although many speculative stocks are emerging businesses, small-cap companies or penny stocks, both mid- and large-cap stocks can fall into the speculative category. This could potentially occur if the company loses a significant amount of value over time and becomes less stable.

There are a few industries that have a significant number of speculative stocks such as:

• Technology
• Biotechnology sectors like medical, environmental, industrial or marine
• Mining and other natural resources
• Energy production such as water, wind, oil, coal, etc.

The reason why these industries have more speculative stocks than others is because people tend to speculate that emerging companies will discover or invent new products/services that could catapult their growth and value. Speculation encourages investors to take increased risk because the incentive for investing in these companies early on is greater than the idea of missing out on these possibilities.

For example, if a medical biotech start-up company reports that it is working on a new insulin tool that is projected to be cheaper for the average person with diabetes, speculators may jump in to buy this stock when it’s low even though there is a potential risk that the company could run out of capital, go bankrupt or not have enough access to resources to create their more affordable product. Often companies may predict that a new product will work successfully and then find out that more testing needs to be done, which can take years. Lastly, a lot of biotech and pharmaceutical companies may be hopeful that their medicine or medical tool will pass regulations, but when it doesn’t they may lose market value fast.

In this sense, a stock speculation strategy could be seen as having an aspect of “gambling” in comparison to other types of investments. Unless you are prepared to take on immense risk on a smaller emerging company, it is best to look for safer, more conservative alternatives.

Difference Between an Investor and Speculator

Before you choose to be one or the other, it’s important to understand the main difference between an investor and speculator. As we mentioned above, speculators are investors or traders who have higher risk tolerance than others and, therefore, can weather the storms of the individual investment and/or economy. Professional speculators are important to markets because they bring liquidity and assume market risk. But you may be wondering, “What is the real difference between an investor and a speculator?” The largest difference is the type of research they conduct as well as their strategy.

An investor will carefully analyze a company, decide its approximate worth and evaluate the market to decide if it is a good time to buy or not. Additionally, an investor tends to wait for the stock to trade at a substantial discount and buy it when it is in a downturn in order to make a profit. Instead of focusing on trends, fads or volatile media coverage, investors look at a company’s historical data and proven business model to determine if it is under- or overvalued.

In comparison, professional speculators are more aggressive risk takers who try to benefit from undervalued emerging companies. Speculators tend to feel out media coverage and fads to see if a low-cost company could potentially have more value in the future. Speculators are short-term investors or traders that have access to liquid capital in order to weather fluctuations.

The main difference between an investor and speculator is their overall strategy.

Investors: Focused on long-term investments that have moderate risk and yields. They tend to do extensive research and consider a company’s historical data before buying a stock on a downturn for maximum profit.

Speculators: Focused on short-term investments in risky disruptive companies that could potentially have immense growth with the right conditions. They tend to follow companies that promise to produce innovative products or services in hopes that these small-cap stocks will reach a high value in the near future.

If you’re comparing how each influences the market, remember that a professional speculator will often cause prices to reach new highs or lows, while an investor will most likely balance out the market.

Types of Speculators in the Stock Market

If you’ve watched investment shows or listened to financial podcasts, you may have heard the terms: bull, bear, stag and lame duck. These are the four main types of speculators in the stock market. Depending on the financial climate and state of the economy, different types of speculators have more of an advantage or disadvantage. The differences between their stock speculation strategies include:

Bull: This type of professional speculator seeks out capital gain opportunities by purchasing undervalued stocks in order to resell them in the future when their true value is reflected in the market. In this sense, bullish speculators are hoping to find small, emerging or penny stocks that are incorrectly priced because of their volatility or low market value.

Bear: A bear’s stock speculation strategy is based on predicting when a stock’s price will fall in the near future. They aim to pinpoint when this might be. Another name for a “bear stock speculation strategy” is “shorting” the market. Shorting the market refers to bears “borrowing” securities in order to sell them to an available buyer while planning to buy them back when their price drops in the future. This is betting that the stocks will be cheaper going forward, even though they have no way of knowing whether it will be or not.

Stag: Speculators in the stock market that classify themselves as “stags” tend to be more risk-averse, because they are a combination of a bear and a bull. Stags are focused on identifying potential stock price movements. They aim to predict when large fluctuations will happen and respond accordingly. If the price of the stock is predicted to increase in the near future, a stag will buy securities to sell as soon as the price moves up, similar to that of a bull speculator. On the other hand, if the price of a security is predicted to significantly drop, they will sell the security in order to buy it back at a lower price, like a bear speculator does.

Lame Duck: Unlike the other three types of speculators, this type is more of a consequence than a method or strategy. Lame ducks could have been bulls, bears or stags at one point in their investment journey, but failed to predict the outcomes of speculative stocks. Unfortunately, lame duck refers to an investor or trader who wasn’t able to cover their losses after relying on a stock speculation strategy.

Each different type of speculator in the stock market has an influential role. The primary advantage of having speculators is that they add liquidity to markets, since they are buying and trading volatile stocks that others may not want to risk investing in.

How to Invest in Speculative Stocks

If you’re wondering how you can start investing in speculative stocks, there are a few avenues for finding possible ideas:

• Seek out speculative stock funds
• Use stock screens to weed out nonviable speculative stocks
• Follow investment newsletters to identify potential speculative investments
• Research new initial public offerings (IPOs), emerging companies, as well as penny and small-cap stocks

Overall, it’s important to do your own research when it comes to speculative stocks. When perusing various options, look for small companies that employ good management teams, promote transparent business practices, learn from past mistakes and hold strong balance sheets. Even though emerging companies as well as penny or small-cap stocks may have less data and analytics than larger companies, there is information out there. However, successful speculators need to put in the time to find those numbers.

When Is a Good Time to Invest in Speculative Stocks?

Similar to investors, speculators need to consider the type of market we are in before proceeding. In general, speculative stocks outperform in a strong bull market, especially when speculators are willing to take significant risks. However, these same stocks may underperform in bear markets because investors’ risk aversion causes less the aggressive, more conservative large-cap companies to do better since they offer long-term stability.

Every individual investor is different; therefore, it’s crucial to make your own decisions when it comes to investing in speculative stocks. Before jumping in, remember to evaluate your market, set aside specific funds that you are comfortable losing, do your own extensive research and consult investment screeners as well as newsletters for additional resources.

Using A+ Investor to Screen for Speculative Stocks

Whether you are new to speculative stocks or have been trading for years, it’s important to understand the different types of speculators, how to intelligently choose speculative securities, and the associated risks. Even though speculative stocks may sound enticing, it’s crucial to evaluate your own level of risk tolerance before choosing to invest with a stock speculation strategy. Having a well-balanced portfolio with a variety of different funds and stocks can be beneficial for any type of investor.

If you don’t know where to start, the American Association of Individual Investors (AAII) is a nonprofit corporation that aims to educate you on how to make well-informed financial decisions. We offer a large selection of stock screeners, grades, newsletters, tools and other resources, so you can take control of your investment journey. By enrolling in an A+ Investor subscription, you can gain access to an endless library of tools to weed out nonviable speculative stocks.

If you’re not sure whether speculating is something you’re ready for, we encourage our members to explore a wide variety of investment strategies and models that cater to both short- and long-term investors.

Don’t let your money depreciate in your piggy bank or savings account. Learn about our numerous educational resources, enroll in A+ Investor membership and start investing in your future today.