Re: [Pen-l] Speculation

[Jim Devine <jdevine03@xxxxxxxxx>]

I'd define speculation as the opposite of hedging. Hedgers try to
minimize risk by (in effect) buying insurance. A farmer hedges by
"locking in" the price of some of her cop in the spring because she
doesn't know what the price will be in the fall.

A speculator, on the other hand, wants to take on risk to earn a high
return. This can involve leveraging (buying assets using a lot of
borrowed money), which increases the return (after interest).

Another take on speculation comes from Minsky, who defines speculative
finance as taking on debts to invest in projects or assets that cover
only the interest payments on the debt, so that the speculator doesn't
pay down the debt by paying any principal.

This differs from hedge finance, in which  income flows are expected
to meet financial obligations (both interest and principal) in every
period. It also differs from Ponzi or Madoff finance, in which income
flows won’t even cover interest cost, so the firm must borrow more or
sell off assets simply to service its debt. The hopes is that the
value of the speculative assets purchased will rise enough to allow
payment of interest and principal.

In general, a speculator takes a big risk in hopes of making a big "killing."
-- 
Jim Devine / "Segui il tuo corso, e lascia dir le genti." (Go your own
way and let people talk.) -- Karl, paraphrasing Dante.
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