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This program last aired on Aug. 28.
NEW YORK (
) -- "Tonight's show is devoted to avoiding common mistakes and recognizing misinformation when you see it," Jim Cramer told
viewers. He said the best way to make money in the markets is to invest with discipline using his five rules for navigating confusing, and sometimes infuriating, markets.
Cramer's first rule: Don't dig in your heels when you're wrong. Citing the economist John Maynard Keynes, "when the facts change, I change my mind," Cramer said, adding it's natural to not want to admit you're wrong but it's also a quick and easy way to lose money.
Cramer recounted how in March 2009, when the
Dow Jones Industrial Average
had fallen to just 6,500, he made the bold call that the downside was minimal. That call, he said, spurned tons of hate mail from those investors who had succumbed to the theory that all the Dow could do is plummet lower and lower and lower.
But Cramer said he had done his homework by analyzing where he felt every stock in the venerable industrial average should be in a doomsday scenario. This included valuing all of the banks at zero. From there he determined that the industrials just couldn't possibly fall much lower than where they already were. A month later, the Dow Jones was 1,500 points higher.
The notion of changing one's mind is a tough one to come to terms with, said Cramer. It's like expecting your favorite sports team to stage a comeback an hour after the game has ended. The facts are always changing in business, he noted, and at some point, investors need to acknowledge that the game is over and they were wrong.
Cramer's second rule: Price matters. It matters so much that even companies you hate can become attractive at a low enough price. This, of course, does not apply to deteriorating companies or those with bad fundamentals headed toward bankruptcy, said Cramer, but for high-quality companies that are down on their luck for one reason or another.
Cramer said he often gets hate mail from viewers when he recommends selling a company he previously liked just because the price got too high. But after a big run, Cramer said that even the best of companies can get too expensive and needs to be sold until the fundamentals of the company catch up to its share price.
On the flip side, it's also worth speculating on great companies that have been left for dead by the markets, companies like the regional banks at the end of 2011. Cramer said he had disliked banks including
for much of 2011, but with share prices so low and employment on the rebound these stocks became attractive once again.
It's not often a great company sees its shares misvalued by the markets, said Cramer, but it does happen, if investors know what to look for. He noted that secondary offerings of stock is one such case. Back in May 2009
did a secondary offering of stock at a 5% discount to the market and at a 24% discount to where it had traded just a week earlier. Offerings like this, said Cramer, are diamonds in the rough and investors need to get attuned to them.
But Cramer also cautioned that companies whose fundamentals are bad or have horrible balance sheets need to be avoided at all costs.
Cramer's third rule: Never take your cues from an inferior company. He said when a worst-of-breed company says things are bad for the entire industry, don't believe it.
Cramer said you'll never hear a company say, "We're doing poorly because our competitors are eating our lunch." That company will almost always pin the blame on weakness in the entire industry or some macro-economic factor, or even the weather.
Investors need to recognize an excuse when they hear one. Cramer said that sometimes bad news is just bad news for that company and no one else. This pattern emerges frequently in technology, he said, with serial underperformers such as
declaring that PC sales are weak across the board.
Yet, companies including
seem to chug right along without missing a beat. Sometimes bad news from
is only bad for Hewlett-Packard.
Cramer said the same pattern can be seen over and over.
has been another serial underperformer, yet other direct sellers such as
have both flourished under the exact same conditions.
Bottom line is, when a company blames a "tough environment" for its weakness, it's probably just making excuses.
"Don't believe the hype," was Cramer's fourth rule for investors. He said that not all upside surprises are worth getting excited about.
Cramer explained that any time a company manages to deliver earnings that are more than Wall Street was forecasting, the headlines immediately describe that as an "earnings surprise." But how that company generated that surprise is really what matters, he said, and is often the confusing part for individual investors.
Cramer explained that there are high-quality earnings surprises and low-quality surprises. High-quality earnings beats are organic, while low-quality beats are manufactured.
In a high-quality earnings beat, a company delivers better-than-expected sales, which in turn leads to better-than-expected earnings. That usually means that business is improving or the company is taking market share. In other words, the company is growing, and Wall Street values stocks based on growth.
In a low-quality earnings beat, however, only the bottom line improves, and that is usually brought about by cost-cutting or favorable tax rates or because the company is aggressively buying back its own stock to boost earnings per share. Cramer said there are a lot of companies that employ these tactics, but in the end there is no growth.
Cramer told investors to always do their homework and not to get confused by the headlines. He said the earnings per share number is not the only number that matters -- a company's ability to deliver better-than-expected sales counts for a whole lot more.
Cramer's final rule for investors: Never assume people on TV who are negative on the markets are telling the truth. Commentators who dislike the markets aren't any more honest than those who talk up the markets, he explained.
Cramer said that to most people, expressing a negative view automatically bolsters credibility, making them seem like they're trying to help you. In reality, most of those who are negative on the markets need those markets to go lower.
In his 30-year career in the markets, Cramer said he's seen more dishonesty from the short-sellers than he ever has from the bulls. He said there are just as many people trying to push the markets down as there are trying to drive them higher.
In fact, while most commentators will disclose they own a stock when they talk about it on TV, Cramer said they always fail to mention if they're looking for a better entry point into that stock.
Cramer explained that hedge funds, in particular, cannot afford to underperform the markets or their peers. So if a fund is underinvested or is lagging its peers, a broad market decline is just what's needed to get back on track.
Cramer said it would be a wonderful world if everyone was honest. Since that's not the case, it's important to know what to watch out for.
"Always be on guard," said Cramer. "People badmouthing the markets aren't any more honest than those who tout specific stocks."
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-- Written by Scott Rutt in Washington, D.C.
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At the time of publication, Cramer's Action Alerts PLUS had a position in AAPL and WFC.
Jim Cramer, host of the CNBC television program "Mad Money," is a Markets Commentator for TheStreet.com, Inc., and CNBC, and a director and co-founder of TheStreet.com. All opinions expressed by Mr. Cramer on "Mad Money" are his own and do not reflect the opinions of TheStreet.com or its affiliates, or CNBC, NBC Universal or their parent company or affiliates. Mr. Cramer's opinions are based upon information he considers to be reliable, but neither TheStreet.com, nor CNBC, nor either of their affiliates and/or subsidiaries warrant its completeness or accuracy, and it should not be relied upon as such. Mr. Cramer's statements are based on his opinions at the time statements are made, and are subject to change without notice. No part of Mr. Cramer's compensation from CNBC or TheStreet.com is related to the specific opinions expressed by him on "Mad Money."
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Some of the stocks mentioned by Mr. Cramer on "Mad Money" are held in Mr. Cramer's Action Alerts PLUS Portfolio. When that is the case, appropriate disclosure is made on the program and in the "Mad Money" recap available on TheStreet.com. The Action Alerts PLUS Portfolio contains all of Mr. Cramer's personal investments in publicly-traded equity securities only, and does not include any mutual fund holdings or other institutionally managed assets, private equity investments, or his holdings in TheStreet.com, Inc. Since March 2005, the Action Alerts PLUS Portfolio has been held by a Trust, the realized profits from which have been pledged to charity. Mr. Cramer retains full investment discretion with respect to all securities contained in the Trust. Mr. Cramer is subject to certain trading restrictions, and must hold all securities in the Action Alerts PLUS Portfolio for at least one month, and is not permitted to buy or sell any security he has spoken about on television or on his radio program for five days following the broadcast.