Financial speculation is a bet on the valuation of an asset with the objective of obtaining profits well above the market average in a short period of time, assuming, for this, greater risks than ordinary investors.
This definition applies at the individual level, that is, to explain who would be a speculator within the stock market.
Financial speculation in the stock market
We can also define financial speculation in the economy more broadly, looking at the market as a whole. In this perspective, financial speculation is the movement of asset appreciation based on the belief that an economic scenario will continue to be favorable to new price increases.
In some cases, this perception is the result of excessive optimism. In the case of stocks, it is a kind of cycle in which the price hike itself ends up attracting more investors that, due to the law of supply and demand, end up leading to new price hikes.
The formation of the speculative bubble
As financial capital is more volatile than the real economy, it is possible that this cycle of rising stocks occurs without corresponding to an increase in production, that is, without a solid base in the economy that justifies such heating.
This movement may be triggered intentionally by some sectors of the market or not. When it reaches an extreme point, it can lead to a crash, that is, a bursting of the speculative bubble, with a sudden devaluation in the values of assets, which can have consequences for the economy as a whole.
Financial speculation in the 1920s, which was marked by great euphoria in the United States, is one of the factors used to explain the New York Stock Exchange crash in 1929, which gave rise to the Great Depression, considered the most serious crisis in the century XX.
How is the cycle of financial speculation?
Moment of optimism
An economy, when it is up, tends to generate prospects for continuous growth. This occurs in the economy as a whole, which sees the emergence of new entrepreneurship initiatives, the search for capital, the granting of credit, the attraction of investors and the strong appreciation of shares.
In the case of stocks, when prices start to rise, the tendency is for them to reach a peak and, from there, stabilize.
High prices attract more investors
However, instead of reaching a stable level, the appreciation cycle may continue, with high prices attracting new investors, many of whom are not used to the financial market, but who are motivated by general optimism.
The maintenance of this cycle can cause the stock price to reach artificial levels, that is, thinking about the shares of a particular company, its value may be much higher than what that company offers in the real economy, that is, in terms of production and wealth generation.
The bubble burst
When more experienced investors, who have more information to base their movements on the financial market, including speculators, realize that the high is reaching its limit, they usually sell their shares, thus maximizing their profit in this appreciation movement.
But it is when the euphoria passes and society realizes that the appreciation was exaggerated that the crash usually happens, with the sudden drop in prices, since the bad news provoke a mass flight of investors.
Is it possible to profit from financial speculation?
The stock market became more popular mainly after the emergence of the home broker, which allows any investor to enter this world of buying and selling securities from home.
As the small investor does not usually have the same range of information as professional investors, he is more likely to have losses than profits if he tries to venture into financial speculation, that is, in betting on highs in the short term.
For this reason, experts tend to recommend that small investors avoid falling into the temptation to speculate in the stock world.
The safest way for the small investor is to place diversified bets on the shares of various companies, based on in-depth analysis of them and the market in which they operate, and to think about the appreciation of money with a long-term perspective. This behavior minimizes investment risks.
Is financial speculation a crime?
Financial speculation is not a crime, but a game in which players better placed on the market and who seek high profits in the short term take advantage of the economic euphoria.
Before the bubble burst, however, some speculators are interested in the stock continuing to rise, even though they are aware that the rise is unrealistic. Their goal is to further maximize the profit they can make from selling their shares at the peak of appreciation.
Although, in essence, speculation is not a crime, there are cases where some speculators act fraudulently so that the price bubble continues to inflate. Among the practices used by them are fraud in the balance sheet of companies and in the distribution of profits, lobbying banks and governments and the manipulation of information that is passed on to the press.
That is why speculation and information are two interconnected concepts. The malicious speculator is an agent that acquires and generates information in order to interfere with market trends and fluctuations.
Even the speculator who has no interest in damaging the economy also makes use of a lot of information, because only then can he understand the upward trends and know the exact moment to sell his papers to obtain a higher profit acting in a short-term perspective.
Cross financial speculation
Despite its name, cross-financial speculation is not a type of investment, but a form of money laundering. It is a set of operations matched on the stock exchange to simulate profits and losses. It consists of buying and selling the same bonds, on the same day, using oranges.
The operation is done in a way that generates losses for one party and a false profit for the other. The loss-making party can benefit from a reduction in income tax, while the other party’s false profit from the other party clears money obtained illegally.