Earlier we looked at the strategy of value investing in the stock market and how it works. Now we will explore speculative investing as a strategy for investing in the stock market.

Unlike value investors who buy shares on the basis of long-term growth and returns having evaluated the share and business, speculative investors buy a stock anticipating that its price will go up within a short time or that  it is about to pay out good dividends. For example, using the PesaPortfolio we purchased shares in NIC Bank one month before their rights issue was to begin in anticipation that the share’s price would rise because of investor interest from the rights issue.

Speculative investing is associated with higher risk than value investing as a stock’s price may not rise as anticipated or could rise then drop suddenly. Such stocks whose price is prone to sudden spikes or dips are known as speculative stocks.   A principle of speculative investing in stocks is technical analysis. This is analyzing the past price or volume fluctuations of a share in order to determine whether to buy it or not. Technical analysis is purely market based meaning it only examines a share’s market data without taking into account aspects of the business.

The underlying principle behind speculative investing is speculation (obviously)– carrying out risky financial transactions with the aim to profit in the short-term from the fluctuations in the market value of a good or financial instrument. Speculation is not limited to stock markets, and happens in other markets e.g. Kenya’s land and housing markets. The common symptom of speculation is that prices of the good(s) under speculation rise within a relatively short period.

In the Kenyan stock market, occurrences such as the release of earnings, dividend announcements, re-branding exercises and changes in management  often coincide with rising stock prices as speculative investors respond to these occurrences.

American economist Benjamin Graham, co-author of the book Security Analysis published in 1934 and considered to be the bible for serious stock investors, listed the types of speculative investments in the stock market:

• Short-term Selectivity – Buying stocks of companies which the speculative investor believes are about to release higher than expected earnings. We witness such investments in the Kenyan stock market where the price of a share climbs shortly before a company releases it earnings on the back of speculative share demand. For example, one week before Scangroup announced its 2012 full year results on 18^th April, the share rose to an 11 month high in what analysts confirmed was from speculation that its full year earnings would be higher.

• Long-term selectivity – Buying stocks with high returns in the past or those with promising impending product releases. The rationale for the speculative investor here is that the product released may become a hit and drive up the stock’s price. On high past earnings, the speculative investor uses these to conclude that a company will likely release higher earnings going forward with a resultant rise in the stock’s price.

 Speculative Investing in the Kenyan Stock Market

There is a general consensus that most investors in the Kenyan stock market are speculative investors seeking short-to-medium term capital gains and dividends from their shares. Before disappointment from the Safaricom IPO in 2008 and the collapse of a handful of stock brokers dampened local investor interest in the stock market, the NSE was rife with speculative investment.

As more and more Kenyans put their money in the stock market to experience short term capital gains on the back of the successful Kengen IPO in 2006, stock prices rose carrying the NSE 20 Share Index to an all time high of 6,000 points in 2007. Today this index is at 3,809.78 points. When stock prices ceased rising after the 2007 general elections, Kenyan investors left the stock market as the opportunity for short-term capital gains diminished. A report by the Capital Markets Authority (CMA) has revealed that the holding of shares by local investors at the bourse has fallen to 69.5 percent from 78.1 percent two years ago.

Advantages of Speculative Stock Investing

• Stock Market – High speculative investing in stock markets raise overall stock prices and the performance levels of the stock market as was the case with the NSE in 2007.

• Returns – With rising stocks on high speculation, investors earn higher returns and companies benefit through more access to equity capital.