Friday, December 19, 2008
(Cont'd from above)...

Jim (cont'd):   

 

Rule #5:   Keep Cash On Hand
Jim:      Please don’t look down on cash. It is always good to have a little cash on hand. Hey, this is real money, this is a rule in the book Real Money, and it is something that separates the pros from the amateurs in Stay Mad For Life, it is a rule that I keep talking about…

Pros - people who do this for a living - they have always got some cash on hand. Amateurs, every time I talk to them they are fully invested. The only way to buy more stock is to borrow money. They have no cash. Too many people look at the rate of return on cash, and say, darn it… they scoff. But we think you have to look at cash as a tool… one way to let you buy stocks when that get sold down by the market, when they don’t deserve to be, no cash, can’t take advantage.

So you may only be making 2% on your cash, while AT&T (T) might be yielding 3%, but let’s say the market gets bad. And AT&T starts dropping, I use AT&T because it is a high quality company… So it drops, because the dividend’s constant, it begins to yield 5% not 3%. You can buy it there, because you’ve got the cash… And then you have more than doubled your return.. particularly, after the tax favored treatment that dividends get. So stop looking at the cost of being in cash, and start thinking about the price you pay from not having cash when you need it. You can’t do this… buy, buy, buy… without any cash.

Rule #6:   Don’t Own Too Many Volatile Stocks
Jim:      Don’t own too many wildly swinging stocks. This is so important, because people get involved in stocks, and then they say, I can’t it… I can’t take the swings... We talk about being diversified all the time on the show. But if you are diversified among a bunch of high fliers, like the natural gas companies, the copper companies, the steels, the fertilizers, some of the techs, the railroads. And these stocks are over 100, again, I am not caring, by the way, I am not caring about what the companies do. I am just saying that if all the stocks are over 100… all groups that can be very volatile… you aren’t really diversified when it comes to the radical swings your portfolio will have. I am not saying this is forbidden, but you have to ask yourself, if you can handle these swings… Most people can’t. This is more of a psychological diversification. Be honest with yourself, if every one of your stocks went down 10 on a day, would you just decide to sell everything and go home?… I can’t have that happen.

Here’s Rule #7…

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Rule #7:   Know What You Own
Jim:      Know what you own. We talked about that earlier. This idea is in all of my books, Real Money, and Stay Mad For Life, because there is nothing worse than not knowing what you own.

People who don’t really know the stocks they own, will (sell, sell, sell)… when the stock goes down, and not like this (buy, buy, buy)… They don’t know if they have damaged stocks or damaged companies. Stocks are damaged by the stock market. Companies are damaged by the management. You are just not in a position to make decisions, let alone good ones. If you’re not familiar with the companies behind the stocks, you don’t know whether they are buys or sells. But if you do know what the company really does, and whether it doesn’t borrow too much money, whether it’s balance sheet is good, whether it’s product line is a good one. I often say this about some of the big franchise names, like where your kids would go, like Disney (DIS), McDonald's (MCD*), you go to them... And, if they are still there, you are in good shape. Now take a second and think, do you know what a SanDisk (SNDK) does? How about an NVIDIA (NVDA)?... A Zoran (ZRAN)? How about a Zoltek (ZOLT)?   Western Digital (WDC)?

Do you know what Celgene (CELG*) does?

Lots of people didn’t know what Celgene did when it lost 30 points in a couple of months at the end of 2007. And then they ended up selling at the low. Not something that would have happened if they knew anything about the company. Once, I met a couple at a diner, in Asbury Park, and they were busy selling Celgene. Why? Because it was going down. I asked them do you know anything about Revlimid?... Well Celgene is Revlimid. That is the drug. Uh, uh. Can’t play it that way…

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Rule #8:   Don’t Own Low Dollar Stocks
Jim:      It is generally not defensive to own $2 or $3 stocks, they don’t get there because they are doing great. In fact, these little under-$5 speculative names, are some of the least defensive out there. Sirius (SIRI) was at $3 before it went to $2, before it went to $1. And, if you bought a 1000 shares, you lost a lot of money.

This is the reason for rule #4 in Stay Mad For Life… Uninformed low speculation can wipe you out. Hey, take it from me. I bought Charter communications for ActionAlertsPlus.com, I sent out the emails over and over saying how much can you lose at $4? What was I thinking? I lost a lot. How about the biggest loss I have ever taken in my charitable trust?... The stock dipped below $2. I was able to get some right there, I was able lucky to be able to sell on a little rally. But you know what, it occupied all my time, and it lost me money.

Don’t think just because these stocks have prices that are in the single digits, they can’t hurt you, trust me. Chances are they didn’t get to the single digits because they were blowing the numbers away. By the way, in London, they like single digit stocks, but we are not in London. And if anything these are the stocks that can do the most, not the least damage, to your portfolio.

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Rule #9:   Accounting Irregularities = Sell
Jim:      Accounting irregularities equal sell and stay away. I have never seen a company with accounting irregularities that recovered, until we saw a big management change, and the next quarter’s earnings. And those are a rarity. Until then, I consider these stocks radioactive. I used to have a sign on my Quotron, we called them Quotrons then, that said your accounting irregularities equal sell. I needed to remind myself over and over again, because usually the stocks went down, and I’d say maybe I should buy more… Sell more.

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Rule #10:   Wait To See Two Good Quarters Following A Co’s Earnings Shortfall
Jim:      When a company reports an earning’s shortfall, you need to stay away from its stock for at least two quarters.

I have almost never seen a turnaround until after two quarters, that’s the minimum length of time that a company can right itself. It takes 6 months, for heaven’s sake. It could be 9 quarters, or 10 quarters. I ask you, can you wait it out? Stay away from companies with recent earnings shortfalls, unless you think you have a real edge. And believe me, you probably don’t.

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The Bottom Line!:     Bottom line, you want to limit your losses, always keep some cash on hand, don’t own too many wildly swinging volatile stocks, you will get spooked, know what you own, recognize the danger in $2 and $3 stocks. Remember it takes a company at least a quarter to recover from accounting irregularities, if not more. And at least two quarters, some times many more, to recover from an earnings shortfall.

The bottom line is...  You have to limit your losses before you can really start to make mad money...

Read Jim's next Segment - Jim Cramer's Investing Rules - Rule No. 11 here  

Jim then went on to take calls from viewers…

Q: During a bear market, what percentage of my portfolio should be in cash?

Jim: We really don’t want to view the market as bear or bull, because it is a market of stocks. Not a stock market. Some areas, as I end my show every night, there is always a bull market some where, but if you feel that the pain and pressure is too great, I would up my cash position, which I don’t mind having it be 10% in times, as I do for my charitable trust, I would up it to 15 to 20% if I really felt that I couldn’t take the pain. And again, I care about the psychology, all the grey beards, all the people I see on TV, who are distinguished people, are people who feel like you have ice in your veins cause they do too. I know the truth, I want to beat the psychology of fear and panic.

Q: I want to know what is better for me. Somebody who got burned a couple of years ago in the marked. Is it better to buy a handful of well established stocks, like a Google (GOOG), or a Procter & Gamble (PG*)? Or is it better for me to buy a lot of like speculative stocks?

Jim: No, first of all I am the only guy out there who will ever, the only professional, who will ever say that I am willing to let you buy a speculative stock. As a matter of fact, I am willing to let 1 out of 5 stocks be speculative. Why? Because I need you to be excited about the market, I need you to be in the game. Sometime the speculative stock keeps you in, but the other four, I want what is equivalent of blue chip. I don’t like to say blue chip, because blue chips change. Look at the way the drug stocks went from being great to bad. Utilities for our parents, great to bad. But I like one speculative stock to keep you in (the game, and interested in continuing).

[verbatim recap]

Read Jim's next Segment - Jim Cramer's Investing Rules - Rule No. 11 here