How to get started.
How many times have you read that line? Each time you then read some trite piece that's going to tell you how to buy and sell a stock, how to make money and how to be the next
What a pile of hooey! It just isn't that easy.
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I'm going to tell you the truth. In this series about getting started, I'm going to give you everything you need to know about how to pick a stock, how to buy a stock and how to make sense of the market. And I'm going to do it using everything I learned from my years when I first traded out of phone booths, to when I was hired by
, where eventually I helped teach young brokers, to my years as a hedge fund manager, where I've made millions upon millions of dollars for wealthy individuals since 1987.
But first things first. We are in an unprecedented time where owning stocks -- just buying and owning them -- has been an unbelievable investment. People have made millions simply by buying baskets of stocks, or so-called index funds. This market has made more millionaires than any company or companies will ever make. It has been a bonanza for those who own, a bummer for those who sell.
I am not presuming in this series of articles that this will continue. I don't expect it to do so. I just want you to have a chance at capitalizing on the stock market, and I want you to be as informed and intelligent as possible. When I sit down with the marketing department of
, I always want to say that we make money for you. But it is the market that makes money for you. We help you make money. I have a testimonial file several thousand emails deep detailing how we have helped make millionaires out of many people. If the market had gone down, though, we wouldn't have been so favored. While I regard
as an incredibly useful tool in the process, all we have succeeded in doing is helping you buy and sell smarter.
I regard that as a noble goal. I want to make you into a great investor and, if you would like, a great trader. But I can't. That's up to you. I can tell you everything I know, however, about what you need to know to buy and sell stocks like a professional. Let me help level the playing field for you.
First, some basics. Let's talk about the landscape. Remember, I said this primer, this guide, isn't going to be like any other guide. It's going to cut through all of the gibberish and give you the straight dope, even if it hurts. I won't sugarcoat , and every time I give you the boilerplate, I will then follow up with the truth as I see it.
1. What are stocks? I know this may seem like an obvious question with an obvious answer, but I meet people all of the time who don't have a clue what a stock is, even though they own a bunch of them. When you own a stock, you own a piece of a company. You are a part owner of the business. At least that's what the textbooks say. In reality, in the vast scheme of things, when you own a stock, you don't own much at all. You get the right to multiply the number of shares you have by the stock price that is in the paper so you can figure out what it is worth. You get the right to a stream of dividends, but these days most stocks don't have dividends. (A dividend is a call on something that is left over after all of the sales are taken in and all of the expenses are paid. Companies don't have to declare dividends, and these days many don't ever intend to pay them. They reinvest the money in the business.)
You get the right to vote, but the company doesn't really care about your vote; if you don't vote, it's no more important than if you don't vote in the upcoming election. Nothing happens. Sure, periodically, someone will buy enough stock and make some noise, and occasionally that person might even get to change something. But for the most part, it's all a big show. You can go to the annual meeting with one share and ask a question. They may answer it; they may not. This is not a democracy. It is a corporation. If you don't like what you hear, you should vote with your feet, not with your proxy vote (the ballot that comes in the mail when you own stock). You should sell. In fact, in the real world, buying a share of stock entitles you to sell that share of stock. I wouldn't think about it in any other way. Don't complicate things. That's all you need to know for the purposes of at-home investing.
2. Why buy a stock? Because you think it's going to go up. Why sell a stock? Because you think it's going to go down. Again, don't outthink this process. You don't buy a stock to own a piece of the American Dream or to have a souvenir or a right to the earnings of the company. You don't get any of those things. You don't even get a piece of paper anymore. You get a journal entry. That's good enough, because the journal entry allows you to sell it, which is all that the stock market is about. The wonder of the system is that when you buy a stock, you don't have to take physical delivery; it just lands as a journal entry into your account. And when you sell a stock, it gets sent automatically from your broker to the new buyer's broker.
3. How do you know what is a good stock? A-ha, here's another one of those questions that the textbooks fib on. They would say, "You have a good stock if the fundamentals are sound at the company," or "Good stocks are the stocks of companies that make a lot of money." Sure, sometimes there is an intersection between stocks and companies, but more often than not, how a stock does is a function of many, many different variables -- everything from the economy and interest rates to the sector that the company is in to the company's earnings. I would not want to overdo the linkage. For example,
Gary B. Smith
doesn't even want to know the fundamentals. And he makes very good money. I always analogize to sports when it comes to stuff like this. If this were horseracing, the company is the horse, but there are also the jockey, the conditions and the field. In sports, we know that many people bet on teams to win, but the best team doesn't always win. Same with companies and stocks. The company is only part of the equation. This is a really important concept because I would rather own the stock of an OK company in a great industry than the stock of a great company in a bad industry.
sells at 57 and
sells at 33, is Pepsi $24 cheaper than Coke? Here's one that many people don't get, although no one likes to admit it. The stock price itself is indicative of nothing. A stock that is $300 a share is not more expensive than a stock that is $3 a share. If you take the dollar amount of the shares and you multiply it by all of the shares outstanding, you will get the "size" of a company. But if you divide the dollar amount by the earnings per share of the company, then you get the key number you are looking for. That's the price-to-earnings multiple. We need that because that's what tells us relative worth. That's what puts things in perspective. Let's go to the supermarket. One brand of cookie is $4 a box. Another is $2 a box. The first box is twice as expensive. Now let's look at the stocks of the cookie companies.
Acme Cookie Co.
stock sells at $30. It will earn $1 a share.
Zenith Cookie Co.
stock sells at $60 a share. It will earn $6. Which one is the cheaper stock? You divide $30 by $1 and you get 30, which is the price-to-earnings multiple of Acme. You divide $60 by $6 and you get 10, which is the price-to-earnings multiple of Zenith. Now you have an apples-to-apples comparison. Zenith's
is three times cheaper than Acme's. Now it may turn out that this makes sense -- maybe Zenith has declining market share. Maybe its cookies taste bad. Or maybe its brand is not being supported or has fallen on hard times. The point is that if you know only the price of the stocks, you don't know anything, because on the surface Zenith is twice as expensive in a dollar amount than Acme. A value guy might think that Zenith is a better buy because it is "cheaper" on an earnings basis than Acme. But if Acme is kicking Zenith's butt, you might want to be long Acme as its earnings might go up next year and Zenith's might go down.
More next Saturday.
James J. Cramer is manager of a hedge fund and co-founder of TheStreet.com. At time of publication, his fund was long TheStreet.com and Goldman Sachs, and Cramer was long TheStreet.com. His fund often buys and sells securities that are the subject of his columns, both before and after the columns are published, and the positions that his fund takes may change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Cramer's writings provide insights into the dynamics of money management and are not a solicitation for transactions. While he cannot provide investment advice or recommendations, he invites you to comment on his column at