A nightmare! In a multipart series this week Jim Cramer is taking a look at the stock selloff and what individual investors can do to protect themselves in a market that's scaring even the most seasoned veteran. Please see Part 1.

First, recognize what kind of market we were in.

In 1979, when I was a writer, trying to help start

American Lawyer Magazine

, I used to take everything I had left after my $20,000 a year salary had paid for my food and my studio apartment on 44th Street between First and Second, and put it in the stock market. I had loved the stock market since second grade, but I never had two cents. At that bountiful salary, I had enough to buy 100 shares of a $10 stock, so I spent all my time looking for those.

I found quite a few. I would go to the New York Public Library's Business Periodical room and read about stocks and get annuals and try to make sense of things. I was in love with oil and oil service and bought some Canadian companies that turned into a quick profit. I then took that money and put it into some more mainstream oil companies.

I hit some real gushers. I caught a half-dozen takeovers. There were dozens of oil companies then and it seemed like fish in a barrel. I couldn't believe how easy the game was.

A year later, I was at law school, having taken everything off the table to pay the tuition bills. I was able to get a job as an assistant to

Alan Dershowitz

, my criminal law professor, and the next thing I knew I was making a ton of money helping to write appeals for people. (This culminated, by the way, in the yearlong effort to overturn the conviction of

Claus von Bulow

.) As I was working for

Harvard

as an adviser to college kids trying to get to law school, a job that gave me free room and board, I was able to take every penny I made from the work with Dershowitz -- and the pay was as good as an associate at a small law firm -- and plow it into the stock market.

Oh man, did I have a hot hand. I got into the brokerage and airline consolidation games and hit takeover after takeover. Harvard Business School had this fantastic library with all of what then passed for current documents (even the worst Web sites now give you for free what the best business library in the country couldn't give you then -- and you had to pay a mountain of tuition to get in) so I was always up to date.

I remember feeling so cocky -- and this was still prebull market -- that I used to write a weekly market letter called

Mr. Bullish

that I used to send to my mom and dad. They made some good money off it, too.

By the spring of 1982, I knew I couldn't be a lawyer. I was making too much money in the market. But I got rejected from just about everywhere I applied to and went to work as a summer associate at a law firm. It was there I realized that law was a total drag. And I redoubled my efforts that fall to get a job on the Street.

That fall of 1982, the market turned around. It was the beginning of the great bull market that we are still in now. And I was playing it to the hilt, margined and with call options. I played semiconductors and tech and was thinking, heck, maybe I should skip the whole Wall Street phase and just run money.

How cocky was I? How about this: I had an answering machine and each week I would change the answer tape and recommend a new stock. I thought I was downright invincible.

About five months into my invincibility stage, the editor of

The New Republic

,

Martin Peretz

, tried to get a hold of me to write a book review for his magazine. I didn't even bother to return his call, as I was spending all of my time researching bizarre stuff for Dershowitz at the law library.

After three weeks of no returns -- but three solid stock recommendations -- I answered the phone and got Marty himself. He didn't even care about the book review any more. He just wanted stock tips. We got together at the Coffee Connection and created the partnership and friendship that exists today. (He and I co-founded the service you are reading right now.)

After we got together, Marty wanted me to run money for him. Actually, he wanted me to start immediately, but I was scared. First, I knew that the moment you actually go outside your family and take money, there were rules. I knew that much from securities class. Second, I knew from Dershowitz that I would have to register as an investment adviser. That would take some time. Third, I knew that when you took someone else's money, you better know what the heck you were doing. I was a hobbyist, watching

FNN

-- the precursor to

CNBC

-- in my dorm room and cribbing old research reports at the B School. Maybe I was in over my head, even though I had made thousands of dollars during law school.

I continued to advise Marty for some time, until finally he prevailed and just presented me with a check for $500,000. I was not a rich kid. I couldn't believe the zeroes on the check. I trembled. I was so frightened. I remember taking the subway down to

Fidelity's

(FDDB)

headquarters, where I had my account, and handing the check over to someone, urging him to take care of it like it was his own. I still remember shaking at the responsibility. But I knew I was good. I knew it. And I had now made money for five straight years. I knew I was ready.

Why am I giving you all of this background? Because of what happened next. I had spent seven months getting ready to invest the $500,000. I had researched and studied and researched some more. I had charted the stocks and knew the fundamentals cold. I remember putting in those orders from my dorm room to buy amounts of stock that seemed unreal to this 100-lot buyer. I remember the brokers at Fidelity Discount, used to my constant 100-share trades, acting incredulously when I started buying 1,000 shares of

Time Inc.

(now

Time Warner

(TWX)

) or

Northern Telecom

(I remember calling it Northern Telecomp -- which is now

Nortel

(NT)

-- as I was too nervous to get the name right.) They checked my account and were shocked to see the balance. I told them the story of how it had come to be that I had $500,000 of other peoples' money.

I proudly went to class that afternoon, after a hard day of tape watching, confident that I was going to turn $500,000 into a million bucks. Why not? That had pretty much been my performance for the last five years. Why would it be any different? I was cruising.

When I got back to

FNN

after my classes were over, I was stunned. The market had taken a tumble. I was down three-quarters of a point on everything I had bought. That's fine, I said to myself, I am not done buying. I am just getting a better opportunity. Getting better prices.

The next morning, I went to an early class and came back to put more money to work. Prices were holding. I bought the second tranche and went back to class. After the class had ended, I called to get some quotes from a pay phone at the law school. I was devastated. Everything had fallen again.

The market closed down badly.

The next morning I tallied where we were. I was having a cup of coffee with Marty that morning, to review his portfolio and how I had done. Oh my God, I remember thinking. I am down $65,000 in two days. (No sophisticated trackers or computers in those days. I used one of those At a Glance books and a calculator to figure it out.)

I was aghast and ashamed. I was embarrassed beyond belief. What would Marty say? I remember thinking, let's see, if he asks me to make it back, I could work for about 10 years and pay him $5,000 a year, and then, with interest I would have made it back. I couldn't believe how stupid I had been. I couldn't believe I had obliterated more money in two days than I had made in all of my life.

I did my best to put on a good front, but almost immediately broke down in a guilt-ridden stream of consciousness about how I could have been so stupid to have done what I did.

Rather than admonish me, Marty simply said that the market had taken a tumble. I should stop beating myself up. And if I thought the market was going down, I should make some bets against it, as I was always talking about how I could make money if the market went down too.

I will never forget that coffee break. I remember calling my late mother and telling her that I had been "forgiven."

Two days later the $500,000 was $400,000.

We had another cup of coffee. Marty went over everything I had done. He urged me to remain confident.

Sure enough, the market climbed back up, and I was able to recoup the losses. I had run into one of the first bumps in the big, new bull market.

The

Fed

, anxious to pull us out of the 1980-82 recession, had turned the monetary jets on too much and had signaled that it wanted the economy to cool. The bull market has been on for about a year, and the economy was starting to roar. The Fed didn't want that. Not after the brutal inflationary wave that had ravaged the country in the 70s.

I took all of the money off the table once I had gotten back to even and began playing with a much, much smaller amount of it. One fifth. I knew the territory had gotten tougher and, despite the protestations of the client, I wasn't going to blow this opportunity.

Look for Part 3 tomorrow.

James J. Cramer is manager of a hedge fund and co-founder of TheStreet.com. At time of publication, his fund had no positions in any stocks mentioned. 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

jjcletters@thestreet.com.