A critically important concept to understand is the difference between investing and speculating.

Harry Browne defined it best in his book, Fail-Safe Investing:

When you invest, you accept whatever return the markets are paying investors in general. When you speculate, you attempt to beat that return—to do better than other investors are doing—through clever timing, forecasting or selection.

As humans, we’re terribly susceptible to over-estimating our abilities. As a result, almost everyone who invests will from time to time believe—despite overwhelming evidence to the contrary—they can do better than the market itself.

You’re convinced now’s the time to buy oil. You believe that particular stock can only go up. The advice of that friend who’s a “market expert” seems so logical (and he claims he’s done so well.)

It’s difficult to go against our human nature, and so we shouldn’t completely deny our desire to speculate. But if we’re going to speculate, it has to be contained. The solution Harry Browne recommended was to maintain two investment portfolios—one “permanent”, invested according to the principles outlined in Money for Something, and one “speculative”, invested any way you like.

But we must follow the rules:

  1. The speculative portfolio can only contain money we’re prepared to lose. Those funds which are precious must be invested in our permanent portfolio, because we know that in the long run, we can not beat the market.
  2. We can never move money from the permanent portfolio into the speculative.

For myself, I speculate with about 10% of my savings, and will from time to time post articles about those investments here on the blog. As we look at those investments, it’s important to remember that they are speculative.

Related chapters from the book:

Next: How to invest over a lifetime →