Notes on Books
A Beginner’s Guide to the Stock Market: Everything You Need to Start Making Money Today by Matthew R. Kratter
Date Read: Dec 10, 2020. My Rating: 6/10
BRIEF OPINION
It’s a decent book to get started with stock markets. I have some previous knowledge of stocks from various podcasts and interviews that I listen to. The general advice of Warren Buffet and Jack Bogle is to invest in “index funds.”
This book gives an introduction to the terms of the stock market and a brief explanation of how to use various concepts and options based on one’s risk appetite. But the book seriously lacks numbers or research to support methods put forward. The author uses the book as a plug for his course and topics are not covered in-depth for a book with a “guide” in its title. A beginner’s guide should be longer than 77 pages. The author believes in psychology influencing the stock market rather than believing in fundamental analysis or the actual stock value. The alternative theory of fundamental analysis or security analysis is mentioned only once in the last chapter. Pick up the book and get it over with to learn some basic concepts and practical applications.
MY NOTES
- When you are first getting started, you should try out many different trading and investing strategies and see what works for you.
- The stock market is the greatest opportunity machine ever created.
- Market cap — or market capitalization — refers to the total value of all a company’s shares of stock. It is calculated by multiplying the price of a stock by its total number of outstanding shares. For example, a company with 20 million shares selling at $50 a share would have a market cap of $1 billion.
- The stock market is a “forward-looking mechanism” or “discounting mechanism.” That is, participants are always looking forward and prices are always adjusted according to the anticipation of future events. (The stock is “skating” to where the company is going to be in a few months.)
An inexperienced trader will be tempted to buy a stock like this (good earnings report but sharp decline) when it is down, but this is almost always a bad idea. It can take time for new information to get priced into a stock, which means that this stock could continue to move lower for days or even weeks.
- Investors vs Traders: Investors like to buy and hold for many years whereas Traders like to buy and sell stocks more quickly, maybe holding them for only an hour, a day, a week, or a month.
- Every stock has a bid price and an offer (or “ask”) price. The bid is the price at which someone is willing to buy the stock. The offer is the price at which someone is willing to sell the stock.
“You sell to the bid, and you buy from the ask.”
- A liquid stock is defined as a stock where you can buy or sell a lot of shares without moving the stock too much. Liquid stocks in the U.S. usually have a bid-ask spread of just a penny or two. Eg: Microsoft.
- It’s usually best to stay away from illiquid stocks. They have a low trading activity or interest in the issue which makes it difficult to sell/liquidate.
- Market Order vs Limit Order: Market orders are transactions meant to execute as quickly as possible at the current market price. Limit orders set the maximum or minimum price at which you are willing to buy or sell.
If you are going to trade before the market opens or in the after-hours market, always use a limit order.
Part I: Indexing, Dividend Stocks, and Value Investing
- Index: An index is simply a collection (or “basket”) of stocks. Let’s say that we take the 500 U.S. stocks with the largest market caps and toss them into a big basket. That basket is called the S&P 500.
Technical Note: indices like the S&P 500 are market-cap weighted, which means that the companies in them that have larger market caps are given higher weightings and thus have a greater influence on the index. If Apple has a bad day, the S&P 500 will go down more than if the Campbell Soup Company has a bad day.
- Blue Chips or Blue Chip Stocks: A stock of a company that is large, mature, profitable, and fairly stable. Eg: 30 companies on the Dow Jones Industrial Average (DJIA), and most of Nasdaq 100 companies.
- Exchange-Traded Funds (ETF): A collection of tens, hundreds, or sometimes thousands of stocks or bonds in a single fund. If u are buying an ETF, you’re indirectly investing all the companies in that ETF. An ETF trades just like a stock. You can buy or sell it all day long in your brokerage account. Each ETF represents a certain index. So the ETF for the S&P 500 trades under the ticker SPY. The ETF for the DJIA trades under the ticker DIA.
- Cost Averaging: By buying a stock or index/ETF at different times, you are allowing the wiggles of the stock to smooth themselves out, since you are always buying at different price.
Most investors are probably better off starting with the SPY since you can invest as little as a few hundred dollars. For a long-term investment with very little risk, do indexing in ETFs and forget about it.
- Dividend Stocks are companies that pay out regular dividends (usually every 3 months). Dividend stocks are usually well-established companies with a track record of distributing earnings back to shareholders. Investing in dividend stocks is one of the best ways to build wealth.
- A successful company will raise its dividend every year. There is an elite group of companies that have raised their dividends every year for the past 25 years and such companies are called Dividend Aristocrats. Some Dividend Aristocrats include Coke, Colgate-Palmolive Company, and McDonald’s.
There’s an easy way to own a piece of every Dividend Aristocrat: just buy some shares of NOBL. It is the ProShares S&P 500 Dividend Aristocrats ETF. It trades just like a stock, and you can purchase it using any brokerage account. Owning a basket of dividend stocks over a long period is one of the best ways to build wealth.
- An easy way to pick stocks like Warren Buffet is ‘copying him’. Another way is to invest in Berkshire Hathaway.
The single most important decision in evaluating a business is pricing power. If you’ve got the power to raise prices without losing business to a competitor, you’ve got a very good business. And if you have to have a prayer session before raising the price by 10 percent, then you’ve got a terrible business.
By Warren Buffet
- Value Investing is about buying something for less than it is worth.
- P/E ratio (price to earnings ratio): for a stock can be obtained by simply dividing the stock price (“P”) by the earnings per share (EPS (“E”)).
Today people often confuse value investing with buying stocks with low P/E’s. Until you become an advanced investor, don’t ever buy a stock with a P/E of 10 or less.
- Another mistake that new investors make is buying ‘bargain stocks’ (previously good stocks that hit low P/E values and are not performing well). Company’s stocks that hit 5-year low P/E values are called, ‘cheap stocks.’ Some analysts recommend cheap stocks. In November 2015, the P/E of Bed Bath & Beyond (BBBY) hit a five-year low of 12.00, with the stock trading at around 60. Unfortunately, there is a very real tendency for cheap stocks to get even cheaper. By December 2018, the P/E of BBBY had fallen to just 5. And the stock had also crashed from 60 to 11.
- Think like Wayne Gretzky: you must “skate” to where earnings are going to be, not to where they have been.
- Yesterday’s hot tech company is rarely a good deal when its share price has gone down a lot. Think of Yahoo or Blackberry.
Part II: Growth Stocks, and IPOs
- Growth Stock: the stock of any company that is expected to rapidly grow its revenues or earnings.
Great companies that are rapidly growing (growth companies) will always trade at high P/E’s. Ignore the High P/E.
- The wonderful and magical thing about a stock at an all-time high: Every single holder of the stock has a profit. This happens because people tend to invest more due to good sentiment. Whereas the exact opposite happens with the stock hitting 52-week lows. A stock hitting all-time lows will face “downward pressure” when it tries to rally because people will sell as soon as they see some profit and investors lose faith as a result.
Never buy a growth stock if the stock is trading below its 200-day moving average, or if the 50-day moving average is trading below the 200-day moving average.
- Also, I like to look for growth stocks that have a market cap of $5 billion or less. It takes a lot less money to push a $5 billion stock higher than it does a $500 billion market cap stock.
- I also like to look for growth stocks, where the float is less than 20% of the total number of shares outstanding. The “float” is simply the number of shares of a stock that are available for trading.
- You can check float, short % float, and other statistics at — https://finance.yahoo.com/quote/LYFT/key-statistics
- Shorting means betting against the stock. That is, taking the position that the stock value is going to decline.
- “Short % float” is defined as the percentage of a company’s stock that has been shorted by institutional traders, compared to the number of shares of a company’s stock that is available for public trading.
- Pick a stop loss level when you enter the trade and stick to it.
- I usually like to risk no more than 1% of my trading account on each stock trade.
- Keep your losses small and manageable, especially while you are still in the learning phase.
- An IPO (“initial public offering”) occurs when a formerly private company decides to take on outside investors. It does this by either having insiders (founders, company executives, venture capitalists, and other institutional investors) sell some of their shares to the public, or by having the company create new shares that can be sold to the public.
- As companies stay private longer before having an IPO, the bulk of the gains go to the private market holders.
- Lock up — time during which the company’s employees can’t buy or sell the stocks.
- From a trader’s perspective, an IPO with a small float has the potential to go up or down a lot, which makes it a great trading vehicle.
While trading IPOs, trade with strict limits, and if the stock value falls below 15 day EMA (exponential moving average ) then sell. Also, lock-up dates are important as it may result in big fluctuations.
- However, I’m happy to short an over-hyped IPO, if the price action on it turns negative.
Don’t ever trade an IPO using market orders. Newbie mistake.
Part III: Advice on Trading
Five Huge Mistakes That Beginners Make
- Don’t buy stocks that are hitting 52-week lows: There is never just one cockroach. Bad news comes in clusters. Example: General Electric
- Don’t trade penny stocks: A penny stock is any stock that trades under $5. The author encourages beginners to avoid all stocks below $10. Watch the movie “The Wolf of Wall Street” to see a famous example of the decadent lifestyle and fraud that often surround penny stocks.
- Don’t short stocks (at least for initial 5 years): If you do end up shorting a stock, remember that your broker will charge you a fee to borrow the stock. In addition, if you are short a stock, you are responsible for paying any dividends on that stock.
- Don’t trade on margin
- Don’t trade other people’s ideas: If it’s someone else’s idea we won’t have the conviction to hold on to it when going gets tough. When you design trade or researched by yourself, you will have the conviction and also the “stop loss level.” Also, never place a trade based on something that you have just read in Barron’s, Forbes, The Wall Street Journal, or have just seen on CNBC.
Insider Secrets of the Stock Market
- Reaction to the news is always more important than the news itself.
- Reaction to an earnings report is always more important than the earnings report itself.
- It’s almost always a bearish sign when a stock sells off after a good earnings report.
- The opposite is also true. When a stock still rallies after a “bad” earnings report, it is a bullish sign.
Buy the strongest stocks that keep moving up. Add to your winners, get rid of your losers, and don’t get too greedy.
- A greedy trader who ignores his stop losses and other exit signals will give back all of his profits, and then some.
BOOKMARKS
- Page 15: Exchange-Traded Funds (ETF’s)
- Page 44: Some of the Criteria that the Author uses to decide when to sell.
- Page 58: Day trading strategy
- All US Exchanges 52-Week New Highs
- Yahoo Finance Statistics for LYFT
ENDING THOUGHTS
- A Beginner’s Guide to the Stock Market book is in no way comprehensive, so I would recommend everyone to continue their journey in learning about stocks with “A Random Walk Down Wall Street” book by Burton G. Malkiel.
- Rich Dad Poor Dad is one of the classic books related to Money and Investing.
- To understand the reality of stock markets and Money listen to the below Freakonomics episodes.
