Editor's note: This is a special excerpt from Jim Cramer's book,
Jim Cramer's Mad Money: Watch TV, Get Rich
. To order your copy and read all the rules, click here.
The "Lightning Round" is a distillation of what I would do in my investment meetings with analysts at my old hedge fund. It's a way to order and make sense of the market. That's why trying to play along with me on the show, or playing your own private Lightning Round, is a great way to turn yourself into a professional-level investor. That's why I think learning how to play your own Lightning Round isn't just about having fun, it's one of the best ways to become truly great at making money in the market.
There are two ways to play the Lightning Round at home. There's the regular Lightning Round Home Game, and then there's the advanced version. These two Lightning Rounds are virtually identical, but the rules are a little different. So first I'll explain the rules of each Lightning Round, and then I'll tell you how I think you should approach them if you want to make friends and impress people.
In the regular version, you get fifteen seconds to come up with a buy, sell, or hold for each stock. You can play along with the show or with a crowd, or just a couple of friends--that doesn't matter. After you come out with your judgment, you can spend as much time as you want talking about why you like or dislike the stock, but you can't stop. As soon as you stop, you have to go to the next stock.
When I do the "Lightning Round," as I mentioned before, the legal department at CNBC prevents me from taking questions on stocks smaller than $250 million in market capitalization. If you want to do your own Lightning Round, you should probably follow my legal department's example and avoid these small-cap names too, because anybody can stump you with some little $20 million company no one's ever heard of. That said, it's perfectly OK to speculate on companies that are worth less than $250 million, but remember, you're only allowed to put 20 percent of your portfolio in speculative stocks, and only if you're a big risk taker.
But let's get back to the Lightning Round. In the regular version you get a computer. You get the Internet. In that fifteen seconds, you're allowed to hit up Yahoo! Finance, MSN Money or TheStreet.com and look up anything you want. You can look up the stock. I have a whole desk full of computers in front of me when I do the "Lightning Round." You get to use the same resources. Believe me, with fifteen seconds, if you know nothing about the stock or the sector it's in, you won't be able to figure out if the stock is a buy or a sell just by looking at its page on Yahoo! Finance. You won't even be able to get a good handle on what the company does.
You can use the computer, but you can't rely on it. Maybe there's a piece of information you weren't aware of that will help sway your decision, like the price-to-book value of a bank, or the stock's dividend yield, but that's about all you'll have time to pull off of the Web in fifteen seconds. I have even less time than you do, and I have that crazy music blaring in my ears, so even though you can use the computer in the easier version of the home game, it's there only to help broaden your analysis, to give it a little extra detail. The computer can't make your decision for you, and it can't give you enough information to compensate for the fact that you don't know a stock. It's not a crutch, just a very weak cane.
In the advanced version of the Lightning Round Home Game, you get no computer. You're out there without a rope, without a lifeline, without any external source of information that can give you good data points. It's harder, but it's still something you can pull off if you follow my advice. That's the only difference between the regular and the advanced home games. Now I'll tell you how you can excel at both.
First, for everyone who doesn't feel up to the task: being able to do your own Lightning Round is a great way to become familiar with stocks; it's one of the best ways to learn how to do good sector-based analysis, but it's by no means essential to becoming a good investor. This method isn't for everyone. It's very time-consuming--it takes way more than that one hour per week per stock of homework you're supposed to be doing. But if you really want to take control of your finances, if you really want to free yourself from brokers and investment advisers, then please don't just treat this chapter as a game.
There are three easy steps to preparing yourself for a Lightning Round. First you must know what all the sectors are. This isn't as easy as it looks because there are a lot of different ways to slice up the economy. You'll want to make a list of every sector and the subsectors that each one is composed of. If this seems daunting, I'll show you how it's done.
Let me give you a brief example of the difference between a sector and a subsector or industry. One sector, broadly speaking, is technology. Within the tech sector, you can find a bunch of different subsectors: the Internet, semiconductors, PCs, device makers (think cell phones), and software, to name a few. You can break these subsectors down further -- software, for example, really begs to be divided further -- but at some point you have to draw the line or you'll end up having to form an opinion about every single stock.
The whole point of the Lightning Round is that you need to have only a small number of opinions about sectors and subsectors. So for the most part, I would err on the side of not cutting things up into too many different industries, because that just creates more work for you. At a certain point, that work stops paying off. But don't get too caught up in this now; I'll walk you through all three steps in detail after I outline the process.
Step two: you'll want to form opinions about each sector and its subsectors so that when someone asks you about a stock, and you know which sector it falls into, you will instantly know how you feel about the sector, and thus how you feel about the stock. That's the biggest time-saver.
Once you have an opinion about each sector, you're ready for step three: Rank the stocks in each subsector. ... At minimum, you should form an opinion about which stocks are best of breed in each subsector. If you know what's best of breed, then anytime someone asks you about a stock in that industry or subsector, you can just tell them, with confidence, to swap out of their stock and into best of breed. ... At the very least, you should know what you like best in each industry, so that if someone asks you about something in that industry, you can use your favorite stock as a reference point. ... But the best use of your time might be to break down each subsector into different categories of stocks. Know what's best of breed in the industry, then also find a stock in the sector that you think represents the best takeover target, then find another one that might be the best speculative stock in the subsector. That way, if someone asks you about a pharmacy, for example, you could have a stable of different suggestions.
It'll take you more than an hour of homework a week to be able to have an opinion about every sector and to know what's best of breed in all those sectors, but the payoff is tremendous. You won't just be able to do your own Lightning Round. You will be totally on top of every single sector.
Editor's note: This is Part 1 of a special excerpt from Jim Cramer's newest book,
Jim Cramer's Mad Money: Watch TV, Get Rich
, due in stores Dec. 5. Be sure to read Part 2. To preorder your copy on Amazon, click here. Can't wait? Attend the special book signing, 7:30 p.m. Monday, Dec. 4, at the Barnes & Noble in Clifton, N.J. (395 Route 3 East). Or get your copy signed at Borders Books and Music (290 Commons Way) of Bridgewater, N.J., on Wednesday, Dec. 6, at 7 p.m.
From Jim Cramer's Mad Money by Jim Cramer. Copyright
2006 by Jim Cramer. Reprinted by permission of Simons & Schuster, Inc.At the time of publication, Cramer was long TheStreet.com and Yahoo!.
Jim Cramer is a director and co-founder of TheStreet.com. He contributes daily market commentary for TheStreet.com's sites and serves as an adviser to the company's CEO. Outside contributing columnists for TheStreet.com and RealMoney.com, including Cramer, may, from time to time, write about stocks in which they have a position. In such cases, appropriate disclosure is made. To see his personal portfolio and find out what trades Cramer will make before he makes them, sign up for
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