Investing Strategies v.2010

Having a Hard Time

Posted by admin under Original Pages

I’m having a hard time on what positions to put on, everyone thinks that we’re due for a pullback and I agree, but everyone is usually wrong. I’m watching the Euro and it seems as though it’s trading in a range right now. I almost pulled the trigger yesterday to short it at 1.4445 and I didn’t, boy don’t I feel stupid. I just need to go with my setups and my gut, that’s usually the best way for me to trade. Put my stops in and let them do the work. I usually have good setups and entries, it’s my exits that need work.

Holy Shit, it’s 2010 already

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This is my 1st post for 2010. I haven’t posted much in 2009, but I did trade a bit. I discovered the futures market and will be writing about it here as well as ETF and stock trades.

Kass: 20 Surprises for 2009

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Without further ado, here is my list of 20 surprises for 2009. In doing so, we start the new year with the surprising story that ended the old year, the alleged Madoff Ponzi scheme.

1. The Russian mafia and Russian oligarchs are found to be large investors with Madoff. During the next few weeks, a well-known CNBC investigative reporter documents that the Russian oligarchs, certain members of the Russian mafia and several Colombian drug cartel families have invested and laundered more than $2 billion in Madoff’s strategy through offshore master feeders and through several fund of funds. There are several unsuccessful attempts made on Madoff and/or his family’s lives. With the large Russian investments in Madoff having gone sour and in light of the subsequent acts of violence against his family, U.S./Russian relations, which already were at a low point, are threatened. Madoff’s lawyers disclose that he has cancer, and his trial is delayed indefinitely as he undergoes chemotherapy.2. Housing stabilizes sooner than expected. President Obama, under the aegis of Larry Summers, initiates a massive and unprecedented Marshall Plan to turn the housing market around. His plan includes several unconventional measures: Among other items is a $25,000 tax credit on all home purchases as well as a large tax credit and other subsidies to the financial intermediaries that provide the mortgage loans and commitments. This, combined with a lowering in mortgage rates (and a boom in refinancing), the bankruptcy/financial restructuring of three public homebuilders (which serves to lessen new home supply) and a flip-flop in the benefits of ownership vs. the merits of renting, trigger a second-quarter 2009 improvement in national housing activity, but the rebound is uneven. While the middle market rebounds, the high-end coastal housing markets remain moribund, as they impacted adversely by the Wall Street layoffs and the carnage in the hedge fund industry.

3. The nation’s commercial real estate markets experience only a shallow pricing downturn in the first half of 2009. President Obama’s broad-ranging housing legislation incorporates tax credits and other unconventional remedies directed toward nonresidential lending and borrowing. Banks become more active in office lending (as they do in residential real estate lending), and the commercial mortgage-backed securities market never experiences anything like the weakness exhibited in the 2007 to 2008 market. Office REIT shares, similar to housing-related equities, rebound dramatically, with several doubling in the new year’s first six months.

4. The U.S. economy stabilizes sooner than expected. After a decidedly weak January-to-February period (and a negative first-quarter 2009 GDP reading, which is similar to fourth-quarter 2008’s black hole), the massive and creative stimulus instituted by the newly elected President begins to work. Banks begin to lend more aggressively, and lower interest rates coupled with aggressive policy serve to contribute to an unexpected refinancing boom. By March, personal consumption expenditures begin to rebound slowly from an abysmal holiday and post-holiday season as energy prices remain subdued, and a shallow recovery occurs far sooner than many expect. Second-quarter corporate profits growth comfortably beats the downbeat and consensus forecasts as inflation remains tame, commodity prices are subdued, productivity rebounds and labor costs are well under control.

5. The U.S. stock market rises by close to 20% in the year’s first half. Housing-related stocks (title insurance, home remodeling, mortgage servicers and REITs) exhibit outsized and market-leading gains during the January-to-June interval. Heavily shorted retail and financial stocks also advance smartly. The year’s first-half market rise of about 20% is surprisingly orderly throughout the six-month period, as volatility moves back down to pre-2008 levels, but rising domestic interest rates, still weak European economies and a halt to China’s economic growth limit the stock market’s progress in the back half of the year.

6. A second quarter “growth scare” bursts the bubble in the government bond market. The yield on the 10-year U.S. Treasury note moves steadily higher from 2.10% at year-end to over 3.50% by early fall, putting a ceiling on the first-half recovery in the U.S. stock market, which is range-bound for the remainder of the year, settling up by approximately 20% for the 12-month period ending Dec. 31, 2009. Foreign central banks, faced with worsening domestic economies, begin to shy away from U.S. Treasury auctions and continue to diversify their reserve assets. By year-end, the U.S. dollar represents less than 60% of worldwide reserve assets, down from 2008’s year-end at 62% and down from 70% only five years ago. China’s 2008 economic growth proves to be greatly exaggerated as unemployment surprisingly rises in early 2009 and the rate of growth in China’s real GDP moves towards zero by the second quarter. Unlike more developed countries, the absence of a social safety net turns China’s fiscal economic policy inward and aggressively so. Importantly, China not only is no longer a natural buyer of U.S. Treasuries but it is forced to dip into it’s piggy bank of foreign reserves, adding significant upside pressure to U.S. note and bond yields.

7. Commodities markets remain subdued. Despite an improving domestic economy, a further erosion in the Western European and Chinese economies weighs on the world’s commodities markets. Gold never reaches $1,000 an ounce and trades at $500 an ounce at some point during the year. (Gold-related shares are among 2009’s worst stock market performers.) The price of crude oil briefly rallies early in the year after a step up in the violence in the Middle East but trades in a broad $25 to $65 range for all of 2009 as President Obama successfully introduces aggressive and meaningful legislation aimed at reducing our reliance on imported oil. The price of gasoline briefly breaches $1.00 a gallon sometime in the year. The U.S. dollar outperforms most of the world’s currencies as the U.S. regains its place as an economic and political powerhouse.

8. Capital spending disappoints further. Despite an improving economy, large-scale capital spending projects continue to be delayed in favor of maintenance spending. Technology shares continue to lag badly, and Advanced Micro Devices (AMD Quote – Cramer on AMD – Stock Picks) files bankruptcy.

9. The hedge fund and fund of funds industries do not recover in 2009. The Madoff fraud, poor hedge fund performance and renewed controversy regarding private equity marks (particularly among a number of high-profile colleges like Harvard and Yale) prove to be a short-term death knell to the alternative investments industry. As well, the gating of redemption requests disaffects high net worth, pension plan, endowment and University investors to both traditional hedge funds and to private equity (which suffers from a series of questionable and subjective marking of private equity deal pricings at several leading funds). Three of the 10 largest hedge funds close their doors as numerous hedge funds reduce their fee structures in order to retain investors. Faced with an increasingly uncertain investor base, several big hedge funds merge with like-sized competitors in a quickening hedge fund industry consolidation. By year-end, the number of hedge funds is down by well over 50%.

10. Mutual fund redemptions from 2008 reverse into inflows in 2009. The mutual fund industry does not suffer the same fate as the hedge fund industry. In fact, a renaissance of interest in mutual funds (especially of a passive/indexed kind) develops. Fidelity is the largest employer of the graduating classes (May 2009) at the Wharton and Harvard Business Schools; it goes public in late 2009 in the year’s largest IPO. Shares of T. Rowe Price (TROW Quote – Cramer on TROW – Stock Picks) and AllianceBernstein (AB Quote – Cramer on AB – Stock Picks) enjoy sharp price gains in the new year. Bill Miller retires from active fund management at Legg Mason (LM Quote – Cramer on LM – Stock Picks).

11. State and municipal imbalances and deficits mushroom. The municipal bond market seizes up in the face of poor fiscal management, revenue shortfalls and rising budgets at state and local levels. Municipal bond yields spike higher. A new Municipal TARP totaling $2 trillion is introduced in the year’s second half.

12. The automakers and the UAW come to an agreement over wages. Under the pressure of late first-quarter bankruptcies, the UAW agrees to bring compensation in line with non-U.S. competitors and exchanges a reduction in retiree health care benefits for equity in the major automobile manufacturers.

13. The new administration replaces SEC Commissioner Cox. Upon his inauguration, President Obama immediately replaces SEC Commissioner Christopher Cox with Yale professor Dr. Jeffrey Sonnenfeld. The new SEC commissioner recommends that the uptick rule be reinstated and undertakes a yearlong investigation/analysis into the impact of Ultra Bear ETFs on the market. Later in the year, the administration recommends that the SEC be abolished and folded into the Treasury Department. Dr. Sonnenfeld returns to Yale University.

14. Large merger of equals deals multiply. Economies of scale and mergers of equals become the M&A mantras in 2009, and niche investment banking boutiques such as Evercore (EVR Quote – Cramer on EVR – Stock Picks), Lazard (LAZ Quote – Cramer on LAZ – Stock Picks) and Greenhill (GHL Quote – Cramer on GHL – Stock Picks) flourish. Goldman Sachs and Citigroup announce a merger of equals, but Goldman maintains management control of the combined entity. Morgan Stanley (MS Quote – Cramer on MS – Stock Picks) acquires Blackstone. Disney (DIS Quote – Cramer on DIS – Stock Picks) purchases Carnival (CCL Quote – Cramer on CCL – Stock Picks). Microsoft (MSFT Quote – Cramer on MSFT – Stock Picks) acquires Yahoo! (YHOO Quote – Cramer on YHOO – Stock Picks) at $5 a share.

15. Focus shifts for several media darlings. Though continuing on CNBC, Jim “El Capitan” Cramer announces his own reality show that will air on NBC in the fall. At the time his reality show premieres, he also writes a new book, Stay Mad for Life: How to Prosper From a Buy/Hold Investment Strategy. Dr. Nouriel Roubini continues to talk depression, but the price of his speaking engagements are cut in half. He writes a new book, The New Depression: How Leverage’s Long Tail Will Result in Bread Lines. “Kudlow & Company’s” Larry Kudlow proclaims that it’s time to harvest the “mustard seeds” of growth and, in an admission of the Democrats’ growing economic successes, officially leaves the ranks of the Republican party and returns to his Democratic roots. Yale’s Dr. Robert Shiller adopts a variant and positive view on housing and the economy, joining the bullish ranks, and writes a new book, The New Financial Order: Economic Opportunity in the 21st Century.

16. The Internet becomes the tactical nuke of the digital age. The Web is invaded on many levels as governments, consumers and investors freak out. First, an act of cyberterrorism occurs that compromises the security of a major government (similar to the attacks this year emanating from the Chinese military aimed at the German Chancellery) or uses DoS against media and e-commerce sites. Second, a major data center will fail and will be far worse than the 1988 Cornell student incident that infected about 5% of the Unix boxes on the early Internet. Third, cybercrime explodes exponentially in 2008. Financial markets will be exposed to hackers using elaborate fraud schemes (such as liquidating and sweeping online brokerage accounts and shorting stocks, then employing a denial-of-service attack against the company). Fourth, Storm Trojan reappears. (Same as last year.)

17. A handful of sports franchises file bankruptcy. Three Major League Baseball teams fail in the middle of the season and seek government bailouts in order to complete the season. The Wilpon family, victimized by Madoff, sells the New York Mets to SAC’s Steve Cohen. The New York Yankees are undefeated in the 2009 season, and Madonna and A-Rod have a child together (out of wedlock).

18. The Fox Business Network closes. Racked by large losses, Rupert Murdoch abandons the Fox Business Network. CNBC rehires several prior employees and expands its programming into complete weekend coverage. Two popular CNBC commentators “go mainstream” and become regulars on NBC news programs.

19. Old, leveraged media implode. The worlds of leverage and old media collide in a massive flameout of previous leveraged deals. Univision and Clear Channel go bankrupt. The New York Times (NYT Quote – Cramer on NYT – Stock Picks) teeters financially.

20. The Middle East’s infrastructure build-out is abruptly halted owing to “market conditions.” Lower oil prices, weakening European economies and a broad overexpansion wreak havoc with the Middle East’s markets and economies.

Potential Trade Setups for me

Posted by admin under Original Pages

Shorts

AZO
BA
CL
CNI
CNQ
COH
CVX
DO
HPQ
LH
MMM
MON
NKE
POT
QQQQ
TGT
UNP
UPS
VZ
WYNN
XOM

LONGS

APOL

APWR

AUY

BHI

BWA

CBS

CCO

FCX

AKS

KBR

MOS

I held nothing longer than 30 minutes.

Posted by admin under Original Pages

So this week was very interesting to say the least… I’ve never seen so much volatility in the market. The VIX rocketed to 42.16 on Thursday morning as everyone puked up nearly everything they had. The VIX hasn’t been that high since October 2002. WOW. With the government bailout of 85 Billion to Insurance Giant / Insurance Failure AIG The volume of shares traded was Insane! On Tuesday the stock traded over 1.2 Billion shares. This became an awesome day-trader and seemed as if everyone was trading it this way. With wild swings of 300% during the day it was easy to get in and out of this stock for 10% gains in less than 30 minutes. I day-traded AIG 3 times this week.

20 Surprises for 2008

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By Doug Kass
RealMoney Silver Contributor
1/2/2008 6:11 AM EST

In late December in each of the past five years, I have taken a page from former Morgan Stanley strategist Byron Wien — and now the chief investment strategist at Pequot Capital Management — and prepared a list of possible surprises for the coming year.

These are not intended to be predictions but rather events that have a reasonable chance of occurring despite the general perception that the odds are very long. I call these “possible improbable” events.

The real purpose of this endeavor is to consider positioning a portion of my portfolio in accordance with outlier events — with the potential for large payoffs. After all, Wall Street research is still very conventional and based on “groupthink,” despite the reforms over the past several years.

Mainstream and consensus expectations are just that, and in most cases they are deeply embedded into today’s stock prices. If I succeed in at least making you think about outlier events, then the exercise has been worthwhile.

Almost half of last year’s predicted surprises actually transpired, up from one-third in 2006 and from 20% in 2005. Nearly one-half of the prognostications proved prescient in 2004 and about one-third in the first year of surprises in 2003.

But it wasn’t the quantity of the correctly predicted surprises that made 2007’s list a remarkable success, it was the quality, as I hit on nearly every major variant theme: the severity of the housing depression, the turmoil and writedowns in the credit markets, the curtailing of private-equity deals and the reawakening of equity market volatility.

Consider just a couple of these quotes from our Surprise List for 2007 :

• “A fractured mortgage market leads to a standstill in deal-making as the capital markets (and underwriting activity) seize up.”
• In early 2007, “evidence of cracks in subprime credits are ignored, with housing-related equities soaring to new 52-week highs by March 1. However, a dumping of homes on the market in the spring serves to result in a quantum increase in the months of unsold housing inventory and a dramatic drop in the average home price. … Sales of existing and new homes take another sharp leg lower as we enter what I’ve dubbed the Great Housing Depression of 2007. Importantly, the financial intermediaries that source mortgage financing/origination begin to feel the financial brunt of the Great Mortgage Bubble of 2000-06 after years of creative but nonsensical lending behavior.”

It will be hard to do it again and beat last year’s surprises, but without further ado, here is my Surprise List for 2008.

1. The Housing Depression of 2007 morphs into the Retail Spending Depression of 2008. Stubbornly high inflation coupled with a deceleration in the rate of job growth, which turns into job losses by midyear, and an absence of innovation (a creativity void in consumer electronic products and apparel), leads to an unprecedented and abrupt drop in personal consumption expenditures.

The Retail HOLDRs (RTH – Cramer’s Take – Stockpickr) exchange-traded fund declines to $80 from $94. Despite their apparent “value” today, retail stocks, especially women’s apparel, are among the worst-performing stocks in the first half of 2008.

2. Under pressure from slowing consumer spending, disappointing capital spending and higher commodities, corporate profits drop 10% in 2008. Importantly, the pattern of economic activity grows increasingly inconsistent and lumpy, providing a difficult backdrop for corporate managers and investment managers to navigate. 3. The S&P 500 Index falls by 5%-10% in 2008, and 2007’s laggards and leaders continue to be the same laggards and leaders in the coming year.

4. With a continuation of the credit and liquidity crises and an increased recognition that financial retrenchment will take years (not months), volatility pushes even higher. Daily moves of 1%-2% become more commonplace, serving to further alienate the individual investor.

5. The Federal Reserve embarks upon a series of moves to ease monetary policy in 2008. Nearly every meeting is accompanied by a 25-basis-point decrease in the federal funds rate even despite continued inflationary pressures.

Nevertheless the economy fails to revive as the Fed pushes on a string.

6. Growth in the Western European economies deteriorates throughout the year, and the markets in England and France drop at twice the rate of the U.S. market.

7. The Chinese juggernaut continues apace and, despite continued protestations of a market bubble, the Chinese market doubles again in 2008.

8. The Japanese market puts on a surprising resurgence as the world’s investors respond to compressed valuations (vis-à-vis peer regions), reasonable multiples (absolutely and against Japanese bond yields), accelerated M&A activity, share buybacks and relative strong corporate profit growth.

9. The administration’s proposal to revive the housing market falls on its face (as the housing bust accelerates), and President Bush enlists a well-placed Democrat and former cabinet member to become the U.S. housing czar, who has the primary charge to propose and administer a massive Marshall Plan for housing.

Several high-profile housing-related bankruptcies occur in 2008, including Countrywide Financial (CFC – Cramer’s Take – Stockpickr), Beazer Homes (BZH – Cramer’s Take – Stockpickr), Hovnanian (HOV – Cramer’s Take – Stockpickr), Standard Pacific (SPF – Cramer’s Take – Stockpickr), WCI Communities (WCI – Cramer’s Take – Stockpickr) and Radian Group (RDN – Cramer’s Take – Stockpickr).

10. Financial stocks fail to recover. No financial company is immune to the eroding market conditions, the spike in market volatility, the uneven direction in commodities and currency prices. Even the leader of the pack, Goldman Sachs (GS – Cramer’s Take – Stockpickr), makes several bad bets in the derivative, currency and commodity markets, and its shares begin to underperform its peers as profit forecasts move lower.Citigroup (C – Cramer’s Take – Stockpickr) halves its dividend, and the shares briefly trade in the mid-$20s. Asset sales and writedowns leave the bank crippled, and in late 2008 (after another capital infusion by Abu Dhabi), Citi is merged with Bank of America (BAC – Cramer’s Take – Stockpickr). Its new name is its old name: CitiBank!

Bear Stearns (BSC – Cramer’s Take – Stockpickr) is acquired by HSBC (HBC – Cramer’s Take – Stockpickr) in a take-under (well below today’s price) — as investor Joe Lewis loses nearly $350 million on his near-10% position in the brokerage firm.

Mutual fund outflows and uncertainty regarding the integrity of money market funds result in the asset-management stocks being among the worst-performing sectors in 2008. With private-equity deals at a standstill, Blackstone (BX – Cramer’s Take – Stockpickr) shares trade down close to $10 a share. Late in the year, CEO Stephen Schwarzman and his management group take the company private.

11. With the economy weakening and corporate profits tumbling, investors pay up — real up — for growth. The three horsemen — Research In Motion (RIMM – Cramer’s Take – Stockpickr), Apple Computer (AAPL – Cramer’s Take – Stockpickr) and Google (GOOG – Cramer’s Take – Stockpickr) — move into bubble status, and short interest triples as the naysayers increase their bets. Their shares double in 2008 even as most equities decline.

Technology disappoints as it becomes clear by the beginning of the second quarter that “double ordering” inflated recent revenue gains as the weakening consumers’ appetite for electronics founders. Rapidly growing biotech names are embraced as their P/Es grow high into the sky and they become the New Big Thing, and market leaders. Housing-centric equities continue to deflate and mop up the rear.12. Although private-equity M&A activity remains moribund, 2008 is highlighted by numerous mergers of equals as a weak U.S. economy necessitates the need for a strategy that produces synergies and cuts costs. Yahoo! (YHOO – Cramer’s Take – Stockpickr) and eBay (EBAY – Cramer’s Take – Stockpickr) merge. So do Amazon (AMZN – Cramer’s Take – Stockpickr) and Overstock.com (OSTK – Cramer’s Take – Stockpickr).

13. A weakening economy will also hasten a number of divestitures. General Electric (GE – Cramer’s Take – Stockpickr) will sell NBC Universal to Time Warner (TWX – Cramer’s Take – Stockpickr), which will not sell or spin off AOL.

14. Reversing its recent strength, the U.S. dollar’s value falls by over 10% in 2008 (and gold rises to over $1,000 an ounce). Despite the weak domestic economy, foreign reserve diversification efforts and the demand for higher interest rates cause the yield on the 10-year U.S. note to move higher throughout the year.

15. The price of crude oil, insensitive to a weakening world economy, eclipses $135 per barrel after an “exogenous” event of terrorism, supply disruptions or political upheaval. The $100 level becomes the new $70! Surprisingly, energy stocks react in a muted fashion to the rip in price as, by midyear, the Democratic Party’s populist view of a windfall tax on energy companies gains increased acceptance.

16. The Internet becomes the tactical nuke of the digital age. The Web is invaded on many levels as governments, consumers and investors freak out. First, an act of cyberterrorism occurs that compromises the security of a major government (similar to the attacks this year emanating from the Chinese military aimed at the German Chancellery) or uses DoS against media and e-commerce sites.

Second, a major data center will fail and will be far worse than the 1988 Cornell student incident that infected about 5% of the Unix boxes on the early Internet.

Third, cybercrime explodes exponentially in 2008. Financial markets will be exposed to hackers using elaborate fraud schemes (like liquidating and sweeping online brokerage accounts and shorting stocks, then employing a denial of service attack against the company). Fourth, Storm Trojan reappears.

17. The hedge fund community (especially of a quant kind) is disintermediated in 2008. Outflows accelerate, abetting an already conspicuous trend of rising volatility in a market that behaves more like a commodity than ever.

18. There are several major Enron-like accounting scandals in 2008, causing investor confidence to plummet. These will come in some large financial and industrial (rollup) companies in Europe and the U.S.

19. Democrats Clinton/Kerrey and Republicans McCain/Crist represent their parties in the presidential/vice presidential contest in November. Ron Paul becomes the Libertarian candidate. In a remarkably close election (reminiscent of the Bush/Gore battle of 2000), the Democrats grab the White House.

20. The politics of trade become more fractious (even in the Republican Party) as angst about globalization escalates in the U.S., reflecting inequalities and a cyclical contraction in our domestic economy. Doha dies. And the new Big Things (and the source of liquidity for the capital markets) — Sovereign Wealth Funds — become targets of American politicians (and suppress U.S. equities further).

i. CBOE – Basic Options Concepts

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Options Concepts – The Basics

The concepts covered here:

• basic option terminology
• premium, intrinsic value, time value and time decay
• basic terms of equity and index calls and puts, the rights of long option contracts and the obligations of short contracts
• when options actually expire and when they last trade
• how and when to exercise long option contracts
• assignment notification and how to avoid it
• basic information about the options marketplace

For more information on these subjects you might turn to one of the many classes located here in the Learning Center. You may also download and install on your computer a free copy of The Options Toolbox, a comprehensive and interactive educational software program that covers much of these concepts in greater depth.

How can you use equity options?
Consider some of the benefits of equity options:

• protection of stock holdings from a decline in market price
• increased income against current stock holding
• prepare to buy a stock at a lower price
• benefit from a stock price rise…buying the stock outright

If you anticipate a certain directional movement in the price of a stock, the right to buy or sell that stock at a predetermined price, for a specific duration of time can offer an attractive investment opportunity. The decision as to what type of option to buy depends on whether your outlook for the underlying security is bullish or bearish. If your outlook is bullish, buying a call option creates the opportunity to share in the upside potential of a stock without having to risk more than a fraction of its market value. Conversely, if you anticipate downward movement, buying a put option will enable you to either participate financially in a downward underlying stock move or to protect underlying shares against downside risk without limiting profit potential. Purchasing equity calls or puts allows you to position yourself according to your market expectations so that you may potentially profit and/or protect yourself with limited risk.

How can you use index options?
Consider some of the benefits of index options:

• benefit from an up or down move in the broad market or a specific industry sector
• protection of a portfolio of stocks from a decline in value
• diversification for investment capital

Like equity options, index options offer the investor an opportunity to either capitalize on an expected market move or to protect holdings in the underlying instruments. The difference is that the underlying instruments are indexes. These indexes can reflect the characteristics of either the broad equity market as a whole or specific industry sectors within the marketplace.

Index options enable investors to gain exposure to the market as a whole or to specific segments of the market with one trading decision and frequently with one transaction. To obtain the same level of diversification using individual stock issues or individual equity option classes, numerous decisions and transactions would be required. Employing index options can defray both the costs and complexities of doing so.

Options Concepts – Terminology

Option Type
The two types of option contracts are calls and puts.

Option Class
All calls and puts on a given underlying security or index represent an “option class.” In other words, all calls and puts on XYZ stock are one class of options, while all calls and puts on ZYX index are another class.

Option Series
All options of a given type (calls or puts) with the same strike price and expiration date are classified as an “option series.” For example, all XYZ June 110 calls would be an individual series, while all XYZ June 110 puts would be another series.

American vs. European Options?
An American-style option contract is one that may be exercised at any time prior to its expiration date. Currently, all equity options traded on U.S. option exchanges, including LEAPS, are American-style, as are certain index options. A European-style option can be exercised only during a specified period of time just prior to its expiration. Many index options are European-style.

What is an at-the-money option? An in-the-money option? An out-of-the money option?
When the price of the underlying security or index is equal to the strike price, a call or put option is at-the-money.

• A call option is in-the-money if the strike price is less than the current price of the underlying security or index, and out-of-the-money if the strike price is greater than the price of the underlying security or index.
• A put option is in-the-money if the strike price is greater than the current price of the underlying security or index, and out-of-the money if the strike price is less than the price of the underlying security or index.

Opening Purchase Transaction
An opening purchase transaction is one that creates or increases a long position in a given option series.

Opening Sale Transaction
An opening sale transaction is one that creates or increases a short position in a given option series. Such a sale is also referred to as “writing” an option contract.

Closing Purchase Transaction
A closing purchase transaction is one that eliminates or reduces a short position in a given option series. Such a purchase is commonly referred to as “covering” a short option position.

Closing Sale Transaction
A closing sale transaction is one that eliminates or decreases a long position in a given option series.

Exercise Settlement Value
Exercise settlement value is the level of an underlying equity index used to calculate the cash settlement amount for a cash-settled index call or put.

Cash Settlement Amount
Cash settlement amount is the difference between the exercise price of a cash-settled index call or put and the exercise settlement value of the index on the day an exercise notice is tendered, multiplied by the index multiplier.

Physical Delivery Options
A physical delivery option gives its owner the right to receive physical delivery (if it is a call), or to make physical delivery (if it is a put), of underlying shares when the option is exercised. Currently, all equity options are physical delivery contracts.

Cash-Settled Options
The process by which the terms of an option contract are fulfilled through the payment or receipt in dollars of the amount by which the option is in-the-money, as opposed to delivering or receiving the underlying instrument. Index options are generally cash-settled.

A.M. Settlement
A settlement style for certain index options in which the index’s exercise settlement value is based on the reported level of the index derived from the opening prices of the component securities on the day of exercise.

P.M. Settlement
A settlement style for certain index options in which the index’s exercise settlement value is based on the reported level of the index derived from the last reported prices of the component securities of the index at the close of market hours on the day of exercise.

What is a strike price?
The strike (or exercise) price of an equity option is the specified price per share at which underlying stock will change hands after a call or put is exercised by its owner. For a cash-settled index option, the strike price is the base for the determination of the amount of cash, if any, that the option holder is entitled to receive upon exercise (see Cash Settlement Amount and Exercise Settlement Amount).

What is the contract size of an equity option?
The contract size of an option refers to the amount of the underlying asset covered by the options contract. For each unadjusted equity call or put option, 100 shares of stock will change hands when one contract is exercised by its owner. These 100 shares of underlying stock are also referred to as the contract’s “unit of trade.”

What is the contract size of an index option?
The contract size of a cash-settled index option is determined by its multiplier. The multiplier determines the aggregate value of each point of the difference between the exercise price of the option and the exercise settlement value of the underlying interest. For example, a multiplier of 100 means that for each point by which a cash-settled option is in the money upon exercise, there is a $100 increase in the cash settlement amount.

Options Concepts – Premium

What is option “premium”?
The premium is the price at which an option trades, and is paid by the buyer to the writer (seller) of the contract. The premium paid by the buyer is non-refundable payment for the rights inherent in the long contract. The writer (seller) of an option contract keeps the premium received, whether assigned or not, and is in turn obligated to fulfill the short contract’s obligations if assignment is received. The two components of an option?s total premium are intrinsic value and time value.

Intrinsic Value
Intrinsic value represents the amount, if any, by which an option contract is in-the-money. By definition, at- and out-of-the-money options do not have intrinsic value.

Time Value
Time value represents the portion of an option’s total premium that exceeds its intrinsic value, if it has any. By definition, the premium of at- and out-of-the-money options is entirely time value.

What is “time decay”?
Time decay (or time “erosion”) is the inevitable phenomenon of decay, or decrease, of an option premium’s time value due to the passage of time. The rate of this decay increases as expiration approaches. At expiration a call or put is worth only its intrinsic value, if it has any.

You entered an order to buy a call option for $3.25 but your brokerage firm rejected the price?
As an industry standard, most option contracts traded at prices greater than $3.00 must trade in $0.10 (10¢) increments. Therefore, the purchase price for this buy order must be either $3.20 or $3.30. For prices under $3.00 the increments may be $0.05 (5¢)

Options Concepts – Equity Calls & Puts

What are equity call options?
The buyer of an equity call option has purchased the right, but not the obligation, to buy 100 shares of the underlying stock at the stated exercise price at any time before the option expires. Once the option is purchased the buyer is then “long” the call contract, and to purchase 100 underlying shares he notifies his brokerage firm of his intent to exercise the call contract. For example, the buyer of one XYZ June 60 call option has the right to purchase 100 shares of XYZ stock at $60 per share up until June expiration.

Potential Profit: Unlimited as the underlying stock price increases
Potential Loss: Limited to premium paid for call

An investor who sells an option contract that he does not already own is known as the option “writer,” and is then “short” the contract. The writer of an equity call option, commonly referred to as the “seller,” has the obligation to sell 100 shares of the underlying stock at the stated exercise price if assigned an exercise notice at any time before the option expires. For example, the writer of an XYZ June 75 call option has the obligation to sell 100 shares of XYZ stock at $75 per share if assigned at any time until June expiration.

Potential Profit: Limited to premium received from call’s initial sale
Potential Loss: Unlimited as the underlying stock price increases

What are equity put options?
The buyer of an equity put option has purchased the right, but not the obligation, to sell 100 shares of the underlying stock at the stated exercise price at any time before the option expires. Once the option is purchased the buyer is then “long” the put contract, and to sell 100 underlying shares he notifies his brokerage firm of his intent to exercise the put contract. For example, the buyer of one XYZ June 70 put option has the right to sell 100 shares of XYZ stock at $70 per share up until June expiration.

Potential Profit: Substantial and increases as the underlying stock price decreases to zero
Potential Loss: Limited to premium paid for put

An investor who sells an option contract that he does not already own is known as the option “writer,” and is then “short” the contract. The writer of an equity put option, commonly referred to as the “seller,” has the obligation to purchase 100 shares of the underlying stock at the stated exercise price if assigned an exercise notice at any time before the option expires. For example, the writer of an XYZ June 80 put option has the obligation to purchase 100 shares of XYZ stock at $80 per share if assigned at any time until June expiration.

Potential Profit: Limited to premium received from put’s initial sale
Potential Loss: Substantial and increases as the underlying stock price decreases to zero

Options Concepts – Index Calls & Puts

What are index call options?
The buyer of an index call option has purchased the right, but not the obligation, to buy the value of the underlying index at the stated exercise price before the option expires. Once the option is purchased the buyer owns, and is then “long,” the call contract. When the owner exercises an in-the-money call contract he will receive the cash settlement amount (the difference between call’s strike price and the exercise settlement value of the underlying index) in cash.

Potential Profit: Unlimited as the level of the underlying index increases
Potential Loss: Limited to premium paid for call

An investor who sells an option contract that he does not already own is known as the option “writer,” and is then “short” the contract. The writer of an index call option, commonly referred to as the “seller,” has the obligation to sell the value of the underlying index at the stated exercise price if assigned an exercise notice before the option expires. If assigned on an in-the-money contract, the call writer will pay the cash settlement amount (the difference between call’s strike price and the exercise settlement value of the underlying index) in cash to an owner who has exercised a like contract.

Potential Profit: Limited to premium received from call’s initial sale
Potential Loss: Unlimited as the level of the underlying index increases

What are index put options?
The buyer of an index put option has purchased the right, but not the obligation, to sell the value of the underlying index at the stated exercise price before the option expires. Once the option is purchased the buyer owns, and is then “long,” the put contract. When the owner exercises an in-the-money put contract he will receive the cash settlement amount (the difference between put’s strike price and the exercise settlement value of the underlying index) in cash.

Potential Profit: Substantial and increases as the level of the underlying index decreases to zero
Potential Loss: Limited to premium paid for put

An investor who sells an option contract that he does not already own is known as the option “writer,” and is then “short” the contract. The writer of an index put option, commonly referred to as the “seller,” has the obligation to purchase the value of the underlying index at the stated exercise price if assigned an exercise notice before the option expires. If assigned on an in-the-money contract, the put writer will pay the cash settlement amount (the difference between put’s strike price and the exercise settlement value of the underlying index) in cash to an owner who has exercised a like contract.

Potential Profit: Limited to premium received from put’s initial sale
Potential Loss: Substantial and increases as the level of the underlying index decreases to zero

Options Concepts – Expiration

When do options expire?
Expiration day for equity and index options is the Saturday immediately following the third Friday of the expiration month.

When is the last day to trade or exercise an equity option?
Although equity options literally expire on the third Saturday of the expiration month, a day reserved for brokerage firms and The Options Clearing Corporation to confirm customers’ positions, the day expiring equity options last trade is the Friday before expiration, or the third Friday of the month. This is also generally the last day an investor may notify his brokerage firm of his intent to exercise an expiring equity call or put. If this third Friday happens to be an exchange holiday, then the last day of trading for expiring equity options is the day before, or the third Thursday of the month. Check with your brokerage firm about its procedures and deadlines for instruction to exercise equity options.
When is the last day to trade an index option?
This depends on whether the option is American- or European-style:

For American-style index option contracts the last trading day is generally the third Friday of the expiration month, unless that day is an exchange holiday in which case the last trading day will be the previous day, or Thursday.

For European-style index option contracts the last trading day will be the business day (generally a Thursday) preceding the day on which the exercise settlement value is calculated (generally the third Friday of the month unless that day is a holiday).

When is the last day to exercise an index option?
An American-style index option may be exercised at any time prior to its expiration, or at any time up to and including the Third Friday of the expiration month. A European-style index option may be exercise only during a specific period of time just prior to its expiration – generally on the last Friday prior to its expiration date.

Options Concepts – Exercise

What is “automatic exercise” of an option?
The Options Clearing Corporation has provisions for the automatic exercise of certain in-the-money options at expiration, a procedure also referred to as “exercise by exception.” Generally, OCC will automatically exercise any expiring equity call or put in a customer account that is $0.25 or more in-the-money, and an index option that is $.01 or more in-the-money. However, a specific brokerage firm’s threshold for such automatic exercise may or may not be the same as OCC’s.

When and how is an equity option exercised?
An investor with a long equity call or put position may exercise that contract at any time before the contract expires, up to and including the Friday before its expiration. To do so, the investor must notify his brokerage firm of intent to exercise in a manner, and by the deadline specified by that particular firm.

Must you exercise an expiring in-the-money equity option?
An investor with an expiring long equity call or put position that is subject to automatic exercise does not have to exercise the contract. Instructions may be given through a brokerage firm to OCC not to exercise a call or put that is in-the-money by any amount.

What happens to my long option if I never sell or exercise it?
After its expiration date a call or put will cease to exist. If you own an option and it expires unexercised, you no longer have any of the rights inherent in that contract and you lose the premium you paid for it, plus any commissions and fees you incurred at its purchase. You are free to close out a long call or put before expiration by selling it if it has market value.

 

Options Concepts – Assignment

How do you nullify the obligations of a short call or put?
Any investor with an open short position in a call or put option may nullify the obligations inherent in that short (or written) contract by making an offsetting closing purchase transaction of a similar option (same series) in the marketplace. This transaction must be made before assignment is received, regardless of whether you have been notified by your brokerage firm to this effect or not.

When can you be assigned on a short equity option position?
As an equity call or put option holder may exercise the contract at any time before it expires, an equity option writer may be assigned an exercise notice at anytime before expiration.

When will notice of assignment on a short contract be received?
Generally, brokerage firms will deliver notice of assignment on short option positions on the business day following an option owner’s exercise of a similar option. Check with your brokerage firm about its procedures and timing for such notification.

Will you be assigned on an equity option contract that expires exactly at-the-money?
Some professional traders will exercise an expiring call or put that is exactly at-the-money, therefore assignment on such a short contract is possible.

What happens to my short option if I am never assigned?
After its expiration date a call or put will cease to exist. If you have written an option and are not assigned an exercise notice before it expires, you no longer have any of the obligations inherent in that contract and you keep the premium you received for it, less any commissions and fees you incurred at its initial sale. You are free to close out a short call or put before expiration by purchasing a like contract in the marketplace.

 

Options Concepts – Marketplace

How do you nullify the obligations of a short call or put?
Any investor with an open short position in a call or put option may nullify the obligations inherent in that short (or written) contract by making an offsetting closing purchase transaction of a similar option (same series) in the marketplace. This transaction must be made before assignment is received, regardless of whether you have been notified by your brokerage firm to this effect or not.

 

When can you be assigned on a short equity option position?
As an equity call or put option holder may exercise the contract at any time before it expires, an equity option writer may be assigned an exercise notice at anytime before expiration.

When will notice of assignment on a short contract be received?
Generally, brokerage firms will deliver notice of assignment on short option positions on the business day following an option owner’s exercise of a similar option. Check with your brokerage firm about its procedures and timing for such notification.

Will you be assigned on an equity option contract that expires exactly at-the-money?
Some professional traders will exercise an expiring call or put that is exactly at-the-money, therefore assignment on such a short contract is possible.

What happens to my short option if I am never assigned?
After its expiration date a call or put will cease to exist. If you have written an option and are not assigned an exercise notice before it expires, you no longer have any of the obligations inherent in that contract and you keep the premium you received for it, less any commissions and fees you incurred at its initial sale. You are free to close out a short call or put before expiration by purchasing a like contract in the marketplace.

h. Important DITM Call rules

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I enjoyed your column and have made a some profitable trades using your suggestions. One thing I haven’t seen you address in your column is the level of risk your method takes, and how that compares with owning the underlying stock. While you have an excellent track record so far, I wonder how this method holds up during a significant market decline, something we haven’t had while you have been building your stat sheet.

Certainly if a market decline were to take place and last for several months, positions might start expiring, and in that case the losses could be significant, because the money is much more at risk than owning stock when you could ride out a correction.

I have only used your technique with a small percentage of my market money because of the concern about this greater risk. So far, as with you, all positions have been profitable, but my fear is that when a loss comes it will be significant. Can you address this please, as I am sure others wonder the same?

All methods of investment incur some level of risk, whether it’s hiding your cash under the mattress or playing slots in Vegas, and every investment choice in between. Buying the stock outright does provide you with the security of owning the stock — this is true.

However, in order to make money buying and selling stocks, you have to buy the stock, requiring a large outlay of cash. Buying 1,000 shares of anything will put a major dent in the wallet, or lead one into the “Devil’s Den,” meaning you start using margin to buy stocks, saying to yourself, “Just this time, I will never use margin again.”

Wrong answer! Once one gets a taste of what they think is “free money,” turn out the lights, because your party is over.

So my strategy is simple. Invest in only solid companies, period. Invest in companies whose stock is beaten up or oversold — remember, the market exaggerates the negatives and the positives, and this is what makes us money. Don’t aim for the fences. Chip away one modest profit after another. Buy DITM calls with at least four to six months before expiration, allowing plenty of time to recover from a downturn. In the event of a major market tumble?

Remember that even when the market is bearish, there will always be some sectors of the market that have “quality companies” that fit into my strategy. I am always looking for sectors in the market that will support this strategy, making my DITM calls strategy highly profitable and inherently low-risk.

g. CANSLIM

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I was reading the mauitrader this morning and Joshua from the site mentioned that he uses CANSLIM as one of his trading methods for success.

What is CANSLIM?

CANSLIM is a formula created by William J. O’Neil, who is the founder of the Investor’s Business Daily and author of the book How to Make Money in Stocks – A Winning System in Good Times or Bad.

Each letter in the word CANSLIM stands for one of the seven chief characteristics that are commonly found in the greatest winning stocks. In his book, he cites many examples including:

* Texas Instruments, whose price rose from $25 to $250 from January 1958 to May 1960
* Xerox, which went from $160 to the equivalent of $1340 from March 1963 to June 1966
* Syntex, which leaped from $100 to $570 in the last six months of 1963
* Dome Petroleum advanced 1000% in the 1978-1980 market
* Prime Computer rose 1595% in the 1978-1980 market
* Limited Stores’ 3500% increase from 1982 to 1987.

The C-A-N-S-L-I-M characteristics are often present prior to a stock making a significant rise in price, and making huge profits for the shareholders!

O’Neil explains how he conducted an intensive study of 500 of the biggest winners in the stock market from 1953 to 1990. A model of each of these companies was built and studied. Again and again, it was noticed that almost all of the biggest stock market winners had very similar characteristics just before they began their big moves.

C = Current quarterly earnings per share.

They should be up a minimum of 25% – 50% over the year earlier. In fact, of the 500 best performing stocks O’Neil studied in the 38 years from 1953 to 1990, three out of four had earnings increases averaging more than 70% in the latest publicly reported quarter before the stocks began their major price advance. The one out of four that didn’t show solid quarterly increases did so in the very next quarter, and those increases averaged 90%!

A = Annual earnings per share.

There should be meaningful growth over the last five years. The annual compounded growth rate of earnings in the superior firms should be from 25% to 50%, or even more, per year. With all of this emphasis on earnings, it is important to understand something about Price-Earnings Ratios (P/E). Factual analysis of the greatest winning stocks shows that P/E ratios have very little to do with whether a stock should be bought or not! In fact, you will automatically eliminate most of the best investments available if you’re not willing to by a stock that trades with a high P/E. Remember earlier when I mentioned Xerox? In 1960 it traded at a 100 P/E – before it went up 3300% from $5 to $170 (adjusting for the stock splits). Genentech was priced at 200 times earnings in November 1985, and it bolted 300% in the next 5 months. Syntex sold for 45 times earnings in 1963, before it advanced 400%. For years analysts have misused P/E ratios, and it’s amazing to me how so many people will still ask about a company’s P/E before they ask about a company’s earnings growth.

N = New product/management/price high.

Usually it is a new product or service that causes the big earnings acceleration we’re looking for. Consider these examples:

* Rexall’s new Tupperware division, in 1958, helped the stock go from $16 to $50.
* Thiokol came out with new rocket fuels for missiles back in 1957-1959. The stock blasted from $48 to the equiuvalent of $355.
* In 1957-1960, Polaroid came out with the “picture in a minute” self-developing camera, the stock went from $65 to $260. Then in 1965-1967 they came out with a color-film version. The stock repeated with an amazing, split adjusted, rise from $23 to $133.
* Syntex, in 1963, began marketing the oral contraceptive pill. In six months the stock soared from $100 to $550.
* Computervision stock advanced 1235% in 1978-1980, with the introduction of Cad-Cam factory automation equipment.
* Price Company went up 15 fold in 1982-1986 while opening their chain of wholesale warehouse membership stores.

Get the point? 95% of the greatest winners in the 38 year study O’Neil conducted were companies that had a major new product or service.

The other important thing to consider is the price of the stock. Most people miss the biggest winners in the market because of what O’Neil refers to as “the great paradox” of the stock market. It is hard to accept, but the stocks that seem too high and risky to the majority usually go higher and what seems low and cheap usually goes lower. If you don’t think this is true, I challenge you to look in an old newspaper from a few months ago and observe a good number of stocks highlighted because they hit new highs and new lows. Then see where they are today. Most of the highs will be higher, and the lows will be even lower.

S = Supply/Demand: Small Cap + Volume

Supply and demand dictates the price of almost everything in your life. The law of supply and demand is more important than all the analyst opinions on Wall Street. The price of a stock with 400 million shares is hard to budge up because of the large supply of stock available. Yet, if a company has only 2 or 3 million shares outstanding, a reasonable amount of buying can push the price up rapidly because of the small available supply. If you are choosing between two stocks to buy, one with 60 million shares outstanding and one with 10 million shares, with all other factors equal, the smaller one will usually be the bigger mover. Stocks that have a large percentage owned by top management are generally better prospects. Again referencing O’Neil’s 38 year study, more than 95% of the companies had less than 25 million shares outstanding when they had their greatest period of earnings improvement and stock price performance.

Foolish stock splits can hurt a stock’s performance. Watch out for companies that split their stock 2 or 3 times in just a year or two. The splitting creates a larger supply and may make a company’s stock performance more lethargic, like many “big cap” companies. Large holders who thinking of selling are often inclined to sell their 100,000 share positions before a 3-for-1 split would have them looking to sell 300,000. Smart short sellers (an infinitesimal group) pick on stocks beginning to falter after enormous price runups and splits, realizing that the potential number of shares for sale (particularly by funds) has dramatically been increased.

L = Leader

People often buy stocks they’re comfortable and familiar with, like an old pair of shoes. Usually these are draggy slow-pokes rather than leaping leaders. It is really important to look at how your stock is performing in relation to the overall market. The 500 best performing stocks from 1953 to 1990 averaged a relative price strength of 87 (scale of 1-99) just before they began their major advances in price. Avoid laggard stocks and look for genuine leaders.

I = Institutional Sponsorship

It takes big demand to move a stock significantly higher in price. Institutional buyers are the most powerful source. You don’t need a large number of institutional owners, but should have at least a few. No institutional sponsorship in a stock is a bad sign because odds are that many institutional investors looked at the stock and passed it over. The things we are looking for with C-A-N-S-L-I-M are really signs that the bigger money (mutual funds, banks, insurance companies, pension funds, etc.) is coming into the stock. See that there is a better-than-average performance record by at least a few of the institutional owners.

Another good thing about some institutional sponsorship is that it provides buying support for the stock. Beware of stocks that become “overowned”. By the time performance is so obvious that almost all institutions own it, it is probably too late. Pay attention to whether the number of institutional owners is increasing or decreasing.

M = Market Direction

You can be right on everything else, but if you are wrong about the direction of the broad market you are still likely to lose money. The best way to analyze the overall market is to follow and understand every day what the general averages are doing. The difficult to recognize, but meaningful changes in the behavior of the market averages at important turning points is the best indicator of the condition of the whole market.

What signs should you look for to detect a market top? On one of the days in the uptrend, the total volume for the market will increase over the preceding day’s high volume, but the Dow’s closing average will show stalling action, or substantially less upward movement, than on prior days.

The spread between the daily high and low of the market index will likely be a bit larger than on the earlier days. Normal market liquidation near the market peak will only occur on one or two days, which are part of the uptrend. The market comes under distribution while it is advancing! This is one of the reasons so few people know how to recognize distribution (selling).

Immediately following the first selling near the top, a vacuum exists where volume may subside and the market averages will sell off for four days or so. The second, and probably the last early chance to recognize a top reversal is when the market attempts it’s first rally, which it will always do after a number of days down from it’s highest point. If this first attempt to bounce back follows through on the third, fourth, or fifth rally day either on decreased volume from the day before, or if the market average recovers less than half of the initial drop from it’s former peak to the low, the comeback is feeble and sputtering when it should be getting strong. Frequently the first attempt at a rally during the beginning of a downtrend will fail abruptly. Possibly after a one day resurgence, the second day will open up strong, only to sell off toward the end of the day and suddenly close down.

After an advance in stocks for a couple of years, the majority of the original price leaders will top, and you can be fairly sure the overall market is going to get into trouble. It is very important to pay attention to the way the leading stocks are acting.

f. Jim Cramer’s 25 Rules for investing. (21-25)

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Rule # 21 – Be a TV Critic
Do you know how financial television really works?I’ll tell you. At times, it can just be a gigantic booking machine. That’s right, people are scrambling to get money managers on who can talk, almost regardless of how good they are. And lots of times, executives say whatever they want on air, knowing that they can get away with it.

I accept this as a given. I accept that what I hear on television is probably right, but no more than that. That’s the world in which we live. That’s the reason I follow this tenet:

Just because someone says it on TV doesn’t make it so.

Back in early 2005, a money manager came on television and knocked down Sirius (SIRI – news – Cramer’s Take – Rating) by saying some negative things about it, some of which were true. I accepted the fact that he was short it and that he probably shorted the stock right before he went on and that probably what he said wasn’t right. Did you think he was right?

I think you are naive if you simply believe what you hear. The vetting process to get on television simply isn’t all that rigorous. When a manager says he likes EMC (EMC – news – Cramer’s Take – Rating) or Sun Microsystems (SUNW – news – Cramer’s Take – Rating), do you ask yourself where he bought it? Do you think he might be selling it?

When someone comes on and says that Elan (ELN – news – Cramer’s Take) is a buy, do you think, “He’s really stuck in that pig”?

If you answered yes to these inquiries, then you are armed for the daily chatter.

Rule # 22 – Wait 30 Days after Warnings
Few rules have saved me more than the 30-day preannouncement rule.When Tibco Software (TIBX – news – Cramer’s Take – Rating) preannounces a bad quarter, do you rush to buy it? Are you someone who put money to work in Waters (WAT – news – Cramer’s Take – Rating) right after its vicious preannouncement in spring 2005?

If you are, this rule is for you:

Always wait 30 days after an earnings preannouncement before you buy.

I designed it because I recognize how compelling some of these price adjustments are, but they often are not deep enough to make the stocks ultimately attractive.

Here’s why. When a company preannounces a bad quarter, it isn’t just looking at the past. It is looking at its order book, its future. Believe me, if there were any hope that the company wouldn’t have to preannounce — hope in the form that maybe something could get better, not worse in the next 30 days — the company would wait.

Preannouncements signal ongoing weakness. That’s why I like to wait 30 days to see if anything has gotten better before I pull the trigger to buy.

Sure, I will miss some great opportunities. Most of the time, though, after 30 days, I find that there is more woe and another leg down! If there isn’t, then I might miss a point or even 2, but I will be on terra firma. That’s the only thing you want to be stepping on in any market, including this one.

Rule # 23 – Beware of Wall Street Hype
Amateurs and professionals alike simply don’t have enough respect for the Wall Street promotion machine.They don’t realize that balls can stay in the air much longer than they should. They don’t understand that analysts and firms get behind stocks — sometimes irrationally, sometimes greedily — and they can keep the stocks propelled in an up direction well beyond reason.

That’s why I say,

Never underestimate the Wall Street promotion machine.

Consider American International Group (AIG – news – Cramer’s Take – Rating) and Fannie Mae (FNM – news – Cramer’s Take – Rating). Here are two companies with extensive banking opportunities dangling from one side and good track records hanging from the other. These had been two lovey blankets for the sell side for so long that they wouldn’t give them up. Both stocks stayed up far too long, even in the post-Spitzer era, because the analysts viewed it as their job to keep the stocks up.

Now, I don’t mind admitting that things are better now than they used to be. When I owned Cabela’s (CAB – news – Cramer’s Take – Rating) right after it came public, the analysts who brought it public bent over backward not to recommend the stock, to the point that I missed the promotion machine.

Analysts now have some degree of conscience and are able to separate themselves from being flunkies for banking. But that doesn’t mean they won’t fall in love with some stocks and do everything they can to praise them long after they shouldn’t. It tends to happen particularly to winners, stocks like the online education companies or the biotechs or some of the doggier software companies. The hope never ends. The hype never ends. Not until the cracks are so obvious that it is too late to get out.

In particular, when you short a stock remember that an analyst will twist any data point into a positive to get a stock juiced. Again, that’s his job. Don’t think badly of him; just be ready to reload when he does it.

Rule # 24 – Explain Your Picks
One of the worst things that ever happened to stock picking was the Internet, because it took away one of the most important brakes on the process, one of the most important warning systems, which is talking to someone about a buy. Now you can, with a stroke of a key, buy the stock of Sirius (SIRI – news – Cramer’s Take – Rating) or Avaya (AV – news – Cramer’s Take – Rating) without ever having to explain to another human being why you are doing so.This is why you should always:

Be able to explain your stock picks to someone else.

Buying stocks is a solitary event — too solitary. As I love to say, we all are prone to making mistakes, sometimes big ones. One way to cut down on these mistakes is to force yourself to articulate to someone else why you like Elan (ELN – news – Cramer’s Take) or why you think Biogen Idec (BIIB – news – Cramer’s Take – Rating) is a winner.

When I was at my hedge fund, I always made every portfolio manager sell me the stock, literally sell it to me like a salesperson, before I would buy it. If you are in a position where you are picking stocks yourself, get someone to listen to you and let you articulate your reasoning.

Recently, one of my email correspondents said that her daughter bought the stock of Sony (SNE – news – Cramer’s Take – Rating) because of the Xbox. Ouch! That would be Microsoft (MSFT – news – Cramer’s Take – Rating) that makes the Xbox. A mistake like that would have been picked up by most people who articulated their reasoning to others. The simple selling of the idea first, to someone else, can help you spot flaws.

I also like to ask people, “What’s going to make this EMC (EMC – news – Cramer’s Take – Rating) go up, what’s the catalyst?” Or, “Have we missed the move in this EnCana (ECA – news – Cramer’s Take – Rating) already?” And, “What’s your edge?” These are among the questions I ask. If you can’t answer, you shouldn’t be buying.

Rule # 25 – There’s Always a Bull Market
I like to end every television and radio show I have with this signoff: “There is always a bull market somewhere, and I will try to find it for you.” I say that because it’s true.Something is always working! Maybe it’s gold, so you buy best-of-breed Newmont Mining (NEM:NYSE – commentary – research – Cramer’s Take). Maybe it’s oil, so you buy some Halliburton (HAL:NYSE – commentary – research – Cramer’s Take). Maybe it’s the chemical complex, so you pick up some Dow Chemical (DOW:NYSE – commentary – research – Cramer’s Take). I’ve seen moments where the only stocks in bull mode were in your supermarket or your medicine chest, stocks like Anheuser-Busch (BUD:NYSE – commentary – research – Cramer’s Take) and PepsiCo (PEP:NYSE – commentary – research – Cramer’s Take).

Now, I know that might mean you have to do some trading. It might mean that you may have to look further and harder than your time and your inclination allow. That’s OK, too. What matters is that you don’t simply default to what’s in bear mode because you are time-constrained or intellectually lazy.

This is not just a criticism of do-it-yourselfers. Many professionals stuck with the leg irons of the wrong tech stocks long after they should have. If they looked around, they might have spotted the bull market in oil, and bought something as simple as Exxon Mobil (XOM:NYSE – commentary – research – Cramer’s Take) or as complex but rewarding as Ultra Pete (UPL:Amex – commentary – research – Cramer’s Take).

Just remember:

There is always a bull market somewhere.

I will always end my shows with this tag line because it is vital for me to get you to think more opportunistically than the average investor does.

Oh, and by the way, it has the added advantage of being true. For 25 years there has always been a sector that works. You just have to find it. I know it, and I am honored if you will let me help you.