What is speculative capital, and how does it work?

What is speculative capital, and how does it work?

Speculative capital includes the funds which an investor put away for the sole purpose of speculation. It means that those funds are intended for high risk/high reward investments. As a result, traders often associate this capital with extreme volatility, as well as a high probability of loss. Most speculators have short-term investment horizons. Thus, they often use high degrees of leverage to obtain profits.

 

Speculative capital is the opposite of patient capital as investors intend later to be long-term and oriented to well-researched investments.

 

Considering the above-average probability of loss in speculative trading, it is especially important to stay emotionally unattached to certain trades and exercise good risk management. Novice investors often hold onto a position until it loses nearly all of its value.

 

However, in the light of their limited experience, amateur traders should regard all their tradable capital as speculative capital. In other words, they should only invest whatever amount of money they can afford to lose without taking serious material casualties.

 

How much amount should the speculative capital include?

 

When it comes to risk tolerance and financial goals, all investors are different. So, the amount of “speculative” capital will vary widely across investor archetypes.

 

It’s maybe better to identify speculative capital with the amount an investor is willing to lose without jeopardizing their financial goals or investment plans. In fact, whenever there is a chance for loss, a trader is speculating. Even default-free government T-bills may be speculative as in that case, investors are speculating on inflation.

Some traders use mental accounting to achieve success. It is a common strategy that refers to the tendency people have to separate their money into different accounts. Such separation is usually based on miscellaneous subjective criteria, including the intended use for each account or the source of the money.

In theory, individuals may assign different functions to each asset group, and the result can be a detrimental and irrational set of behaviors. Some investors prefer to chase trends. So, a financial planner can earmark a certain portion of inflows or assets for speculative transactions. This approach satisfies investors’ desires for chasing returns while not risking an entire portfolio.

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