Chan's Personal Blog

Alrighty, it's almost time for our fantasy stock market game to start, so it's time to give you a quick introduction to trading stocks. You still have time to sign up for the game if you wish. You start off with $4,000 and you will try to make as much money as you can within a year.

So if you've already picked out the stocks that you like, then it's time to buy and sell them. There's several different ways to buy/sell... yes that is fairly strange. So lets go over them.

• Market Order. A market order is when you say, I want to buy the stock at the market price. This means, whatever the price is, you'll buy it. The advantage of this is, you are almost assured that you'll be able to get your stock. The disadvantage is, you don't quite know what price you're going to be buying it at.
  
  Consider this situation. When Tim Hortons' (THI) introduced their stock to the public, the stock price opened at $29/share. A lot of people had put in market orders to buy the stock. The order might take about 20 minutes before it is executed. Within that 3 minutes, the stock price jumped to $37/share. Uh oh, people just bought stock at a much higher price than expected, and they got burned. This is why, I don't recommend people using market orders unless you ABSOLUTELY have to buy that stock.
  
  All of these concepts about market orders also apply to selling stock. It's exactly the same.
• Limit Order. A limit order is where you say, only buy me this stock if it's at this price or lower. The advantage of this is, you have control over the price of the stock. So, say you want to buy a stock at $18/share, you will only buy it if the stock dips below that price. The disadvantage is, you'll never buy the stock if it never dips below $18/share. Nevertheless, I ALWAYS use limit orders. I have very specific price targets for stocks, and limit orders assure that I meet them. Please, limit orders only!
• Stop Order. A stop order is used to protect your investments. For example, say you have a $10 stock, and you're only willing to take a -10% loss at most. Then, you'd put in a stop order at $9/share. This means, if the stock ever plunges below $9/share, you'll automatically sell the stock. The same could be done for gains that you make in a stock. Say you have a $10 stock, and you feel that you'd be happy with a 10% gain because you don't want to be greedy. Then, you'd put a stop order at $11/share, which would automatically sell the stock if it hit that price.
  
  I personally never use stop orders because you can get burned by them if a stock is very volatile. A good example of this is from a company called Crystallex (KRY). Its stock was hanging around $4/share. Say someone put a stop order for $2/share because they didn't want to lose more than 50%. So, two weeks ago, a newspaper came out with a story that the Venezuelan government was going to seize Crystallex's primary gold mines. The stock instantly plummetted to $1/share. At this point, the stop order would have already sold the stock because it went below the $2/share point. Within an hour, the stock had climbed back up to $3/share because the newspaper got some of the facts wrong. The very next day, the CEO of Crystallex assured investors that the government wasn't taking over their gold mine. So, people who had stop orders got burned big time. People who picked up the stock at $1/share are laughing. When a stock dives, panicking and selling doesn't make you money.

Margin Money

The other thing I have to mention is about the margin account. Everyone in this game has a margin account, and what this means is, you can borrow money to buy stocks. Using margin money can boost your gains, or boost your losses. Margin money is very tempting because say you borrow $1,000 and invest it, and you make 10% by investing it. You got $100 for free essentially. However, the flip side is scary too, if you lose 10%, then you owe money. A lot of people do use margin, but I never use it. I don't believe in getting into debt to buy stocks. I only use money that's part of my discretionary money (ie, money that can be burned). You can get seriously burned by using debt to invest.

Commissions Kill

One of the things that you need to be aware of are commissions. Every time you buy or sell a stock, it costs $29.95 to execute the order. This is just a reality of investing in the stock market. Why is this important?

Consider a $1 stock called XYZ. If you buy one share of XYZ, then the transaction will be $1 + $29.95 in commissions. So the total bill comes out to $30.95 (also known as the book value, or how much you paid to get this stock). Your average cost per share is $30.95/share. 96.7% of this transaction was the cost of commissions. This is horrible. Now the XYZ stock has to reach $30.95 before I even break even right? No, because when you sell, you get hit with commissions again. So in order to break even, you need the stock price to go to $30.95 + $29.95 = $60.90/share. That's crazy!

Now consider buying 1000 shares of XYZ. The transaction will be $1,000 + $29.95 in commissions. The bill (or book value) comes out to $1,029.95. Your average cost per share is $1.02. Only 2.9% of the transaction was due to commissions. When do we break even? We go $1,029.95 plus the selling commission of $29.95, so that equals $1059.90. So the break even price would be $1059.95 / 1000 shares = $1.06/share. So, the stock needs to move to $1.06 before you start making money.

Notice the huge difference here. Essentially, the more shares that you buy at a time, the smaller the impact commissions will be. Generally, the minimum amount I would use to buy stocks would be $1,000 at a time. Jim Cramer recommends orders to be at least $2,000.

Sane Investing In An Insane World

Jim Cramer also has a book about investing, and it's entitled "Sane Investing In An Insane World." It has 25 rules about investing, and they're super useful. His website has a brief explanation of each of these rules, and these rules help you stay in the market and hopefully, prevents you from getting burned. One of the best pieces of advice is that you have to be able to explain what your company does to a friend. If you can't do it, it means you haven't done your homework on the stock.

Opening Week

So next week is when our game starts. Be aware that it's going to be extremely volatile next week because the federal reserve is having a meeting about interest rates. They will be meeting on Wednesday and Thursday. In those two days, they will tell us if interest rates will continue to rise, or if they're pausing. If they're pausing, then the markets explode, and we're going up up up. If they say that they're going to move interest rates even higher, then it's going to be a house of pain.

The take away is this, don't use all your money to buy on Monday morning. You want to have some money left over to react to the news on Wednesday and Thursday. It's almost certain that the markets will move lower on Wednesday, so it's a good time to pick up stocks because the market will throw a sale.

Good hunting all.

First off, thanks to all the people who have joined the International Bank Of Chan Fund Challenge. This is a fantasy stock market challenge designed for new investors to try their hand at the stock market. You still have time to join now, and the challenge starts next Monday.

Anyway, I've already gotten questions from a few of you about how to find a stock? You need to start off with a little inspiration. The standard advice that's given is think about the companies that you deal with in your life that you really like. Look around your house and see what kind of products you own. Chances are, you'll find something that comes from a company that's traded on the stock exchange.

Here's a few questions you can answer to get some leads:

• Where do you do your banking?
• Where do you shop for groceries?
• What kind of computer do you have?
• What kinds of electronics do you own?
• What restaurant do you really like?
• What products are in your medicine cabinet?
• What kind of car do you drive?
• Where do you shop for clothes?
• Where do you go for coffee?

From answering these simple questions, a whole bunch of companies come to mind: Royal Bank, Costco, Intel, Sony, Tim Hortons, Johnson & Johnson, Gillette, General Motors, Sears, Starbucks, etc.

Another good source of inspiration is to go with sectors that you understand. For example, I know a lot about technology since I'm a computer scientist. Naturally, my portfolio is fairly tech heavy because I understand the field fairly well. If you're a car person, then the automotive sector might be for you. If you're really into fashion, then the retail sector might be right for you.

The main place that I go to get ideas for stocks is TheStreet.com. They offer a free daily podcast radio show, entitled Real Money, which is hosted by their top analyst, Jim Cramer. I really like this program because the host speaks in plain English as opposed to Wall Street gibberish. It's fairly easy to understand. I also like this analyst because his average annual return is 24% over his entire career. That's absolutely amazing. Furthermore, he survived the dot com bubble, and actually made money during 2001-2002 when the bubble burst. He sold tech before the bubble burst. That's my idea of a good analyst. He also helped the U.S. government bring legal action against the management at Enron which was the biggest stock scandel in a long time. Anyway, TheStreet.com has a lot of free articles that will help you find good stocks.

If radio isn't your thing, then you're in luck. Jim Cramer also has a TV show on CNBC (the station's most popular show). It's called Mad Money and it airs on channel 29 every weekday at 6pm and 9pm. The show is fairly over the top, but you get used to it. I admit that when I first watched the show, I thought, what the heck is wrong with this guy? He's throwing chairs and screaming all the time, but you learn to get used to it. Mad Money has been described as the financial equivalent of the Daily Show by Jon Stewart. If you have iTunes, you can download a 12 minute video of Mad Money every day.

Big disclaimer. Since this stock analyst is so popular, there's something called the Booyah Effect. Whenever Jim Cramer recommends a certain stock, it usually goes up 5%-7% the next day. After a few days, it comes right back down. This is known as the Booyah Effect. Jim hates it when you rush out and buy the stock right away because it artificially boosts the price, and then it comes back down, and you lose money, and then you're mad. The key is to treat any stock recommendation like a shopping list. You keep watching the stock until it goes on sale (ie down), and then you pick some up, especially when the stock market throws a sale. You need to stalk your prey. The other disclaimer is that you can't blindly go out and buy any stock he recommends. You have to do your own research and make sure that you understand the company. Research has to be done because Jim Cramer sometimes gets it wrong.... very wrong, so you have to make your own judgement. When you buy a stock, you need to be able to explain to a friend, what the company does, how does it make money, and why is this a good company.

Stock Game Picks

So for the stock market challenge, I'll give you a shortlist of companies to consider. If you already know what you're doing, then go ahead and choose to your heart's content. This is just a list of companies that I consider are good. What I want you to do is, after you see the list, to go out to finance.yahoo.com and do a little research about the companies that interest you. Look at the recent news about the company, check out their website, etc. Later in the week, I'll give you a few hints about how to tell if a stock is cheap or expensive, and how to buy and sell.

Ultimately, for the stock market challenge, you'll be starting off with 3 or 4 stocks in your portfolio. For diversification purposes, the three that you pick should be in different sectors. For each sector, I'm going to put in at least one bad stock so that it forces you do some research about the company before you buy.

The list will break up the stocks by sector. Each company will have their associated stock symbol next to them.

One of my friends issued a challenge to me. He wants to buy a $1,400 computer, but he doesn't have disposible money to purchase it. However, he has $4,000 to invest and he wants to use any profits from investing to go towards buying a new computer. So the challenge is to build a portfolio that will turn $4,000 to $5,400 in a year. Or if you like, a 35% annual return.

This challenge is extremely difficult given two factors. Firstly, he took the investor risk tolerance quiz and he came out as a moderate risk investor. This is an investor that can tolerate a loss of -9% loss, a maximum of a +19% gain, and an average return of 9%. Clearly a 35% annual return is not looking feasible. I've learned that if you take on more risk than you're comfortable with, you're going to panick and lose a lot of money, so it's important to build a portfolio that realistically reflects your risk tolerance.

The second factor that makes this hard is that the market is very volatile right now. It's up and down all the time. Stocks don't go from $20 to $40 in a straight line. It goes up and down and gradually makes it way up there. There's a lot of worry and uncertainty in the markets right now as well. Sources of worry include inflation, interest rates, Iran's nuclear program, high oil prices, terrorism, a weakening American dollar, etc.

Anyway, this got me thinking. It would be fun to hold a stock market challenge to see which investment strategies pervail.

I present to you the:


This is a virtual stock market game that I'm hosting. You start off with $4,000 and you pick the stocks and mutual funds, and we see how much money you can make. You will build a portfolio which is viewable by other game players. This is a game for beginners, and I'll be offering help along the way. Intermediate and advanced investors are welcome of course. In either case, I thought this would a be a fun and interactive way to learn how to invest.

Now, a 35% annual return is an insanely difficult goal, so I don't expect anyone (including myself) to make that. However, we will be judging how well you do based on the type of risk you can handle. If you're a conservative investor, your target will be 6%. Moderate investors should get 9%. Growth investors should get 12%. Aggressive investors should get 15%.

Anyway, this virtual stock market game is extremely realistic, so any strategies that you pick up in the game will work in real life. You get real news from real companies, and real stock prices.

Please sign up to my game, the International Bank of Chan Fund. The game starts next Monday, or June 26, 2006.

Here's the rules of the game:
Starting Cash: $4,000.00
Stock Markets You Can Buy From: Nasdaq, New York Stock Exchange, American Exchange (sorry no Canadian markets, however a lot of Canadian companies are listed in these exchanges.)
Cash Interest Rate: 4%
Margin Interest Rate: 6%
Allow Users To Reset Portfolio: Yes

I'll quickly explain the interest rates. If you keep cash in your portfolio, it will grow at 4% per year. So, in a year, $4.000.00 will become $4,160.00. The margin interest rate is where you borrow money to buy stocks. The money you borrow will cost you 6% interest.

So, please join the game. It will be a fun learning experience. It starts next Monday. I will be giving some advice later on the week about building a good portfolio.

Blog posts will be somewhat sparse this week because I'm still fighting midterms and such. In either case the other thing that I have been preoccupied with has been the stock market. The market has been going down since May 11th, and it has been an entire month of this now. It has been a humbling decline. May 11th, my portfolio was at +23% for the year, and today, it is at -20%. (Note, this is not my retirement portfolio; the retirement portfolio is more conservative.)

I watch approximately 50 different stocks which are spread across different sectors, and there are days when EVERYTHING is down. It's unbelievable. It has been very humbling, but I have also learned a lot of things. Primary lesson is, if a stock is up huge, sell the darn thing and pick it back up at a lower price later. In either case, I now have a friend who acts like a sanity check and yells at me if a stock is up too much and I haven't sold yet. He represents the bear market who's negative on everything, and it's a good balance for me.

You're probably wondering why the markets have been doing so crappy? Everyone's still worried that the federal government (fed) is going to keep raising interest rates. It's currently at 5%. People are freaking out that the fed will take it all the way up to 6% like they did in 2001 during the dot com bubble burst. Taking rates that high is equivalent to launching a tactical nuclear strike on Wall Street.

The ironic thing about this is, the government raises interest rates to try to slow the economy down. The U.S. economy (and the world) has been growing "too fast" which creates inflation problems. So, in order to control inflation, the government raises interest rates. Strange problem isn't it? We're doing too well, therefore, lets cool down the economy.

Bottom line though, the markets will remain very choppy until June 28th when the fed will have their meeting about interest rates. On that day, they will announce whether interest rates will keep going up, or if they're done moving them up. If they say they're done increasing interest rates (or they're almost finished), the markets will rapidly recover because everyone would have been worrying about a phantom menace that didn't exist. That will hail the end to this awful slide.

I'm banking that interest rate hikes will stop, and I'm reinforcing my stock positions by buying more because everything is so dirt cheap. Even if the fed says that they'll increase interest rates, it won't matter in the long term like 6-12 months in the future, so that's why I'm comfortable buying more. I'm not in it for the short term. I have some stock that's now 20%-50% cheaper than when I first bought them at, so I'm loading up on them. If you're a short term trader, then this strategy is not going to work for you. If your risk tolerance is also low, then this may be too scary for you.

A downward slide does make you feel fairly stupid though. You constantly second guess yourself about whether an investment was a good idea. It's definitely not a good market to be in, but three months from now, I'll look back on this and wish I had picked up more stocks that were on sale.

You're probably wondering why I'm so confident that the markets will recover. A lot of people have been asking if we could see the markets collapse like they did during the dot com bubble. I don't think so, and the reason is because, we're not seeing the same hype as we did during the bubble. There's something called the P/E ratio. It's a stock's price divided by its earnings. This is how you compare stocks, and to determine whether one stock is cheaper that another. For example, Advanced Micro Devices (AMD) is a $24 stock, while Apple Computers (AAPL) is a $58 stock. Instinctively, you'll say that AMD is the cheaper stock. You can't say that Apple is more expensive that AMD even though it appears that way. You have to look at their P/E ratios in order to compare them. Both of their P/E ratios are about 30 so they're both equal in expensiveness.

In any case, the average P/E ratio on the Dow Jones Industrial is 18. Stocks that are in sectors that are more risky or grows faster, like tech, deserve a higher P/E ratio. Stocks that are in sectors that are less risky or grow slower, like banks, will have a lower P/E ratio. Anyway, back in 2000-2001, the average dot com's P/E ratio was around 500 which is crazy high, and made no sense what so ever. That is definitely a sign of hype. What are the ratios like these days? From the stocks I follow, they range from 4 to 40. That is definitely not dot com style hype. Things are cheap cheap cheap.

If you do decide to go out and buy more from the market, make sure you don't buy all at once. Buy a little here and there, so you can take advantage of the market going lower if it does. I've been buying in smaller increments because it's arrogant to call a bottom in this market. I had to learn the hard way.

Anyway, June 28th is where the final stand will be taken. We're playing for all the marbles now.

I have a new hypothesis about how the stock market works, and it's quite disturbing. It appears that every time I convince a friend to start investing in the stock market, the stock market drops and it throws a blow-out sale to welcome the newbie investor. Good for the newbie investors, bad for me . These new investors get an insanely good price for mutual funds or stocks that they're buying. Meanwhile, people like me who are already invested take a hit.

To illustrate, I had a friend that got into the market in early March. That week, the Toronto Stock Exchange (TSE) dropped about 350 points, or it went from 12,000 down to 11,650.

The thesis is, for each friend I bring into the market, the TSE drops about 350 points.

Lets now fast forward to May. I started writing about investing for RRSPs and such, and I managed to convince one of my friends to start investing because he was sitting on a huge pile of cash that was doing close to nothing. What does the TSE do from May 11th to May 24th? DIVE! DIVE! DIVE! In a matter of weeks, the markets drop over 1,000 points, or from 12,400 down to 11,350.

But wait, in May I only brought one friend into the market, why did it drop over 1,000 points? Well, today I found out there was another. One of my other friends dropped by the office today and she declared that she's a new investor thanks to my blog articles, and she dumped a crap load of money into mutual funds. So, May has been a double whammy month because there's two people that I know of who joined the market action.

However, that only brings us to 700 points. There's still a third newbie that I don't know about who recently joined the market. Reveal yourself!

In either case, I'm glad people are finding these investment articles useful, and it makes it all worth it (despite how much it hurts my own portfolio ). Anyway, I'm going to stop getting people to join the stock market as I need the markets to rebound.

For those who are already in the market and have taken a hit, I leave you with this. Given any 20 year period in history, stocks have outperformed ALL asset classes. The stock market's returns will beat real estate, gold, private business, bonds, etc in any 20 year peiod in history. Take advantage of these low low prices and keep focused on the long term.