Your Questions About Money Making Stocks To Buy

Joseph asks…

How do I buy, follow and make a little money from shares?

I have a little money that I’d like to buy shares with, in the hope of making a little profit for myself, and for my children.
HOW do I buy shares?
WHERE can I buy shares?
HOW can I follow shares?
IF I make a profit, how do I change it from shares into money, I’m assuming selling it, but HOW?
Please, please, any sound, been there advice would be great.
I’m talking no more then £100 to spend here, by the way.
Please note, the question says ‘a little’. I don’t want to make millions, as I know that only the lucky few can manage that.
I CAN afford to lose £100, it’s not that I want it as an income, it’s just on my Bucket List, to try out the stock market, to buy and sell shares, no matter whether profit or loss, I’d just like to say I’ve done it, and to make £20 or £30 would be a nice thing too.
Please don’t assume it’s not for me, that’s rude, please just answer the question!

John answers:

Well, you should save up more than £100. The commission costs on a £100 trade could easily be 5% right off the top so you would have to make 11% just to break even once you consider the commissions for a round trip.

You buy and sell stocks through a stock broker, you would open up an account with a broker, deposit money or securities into the account and request that your broker try to buy or sell by placing the orders either in person, by phone or over the Internet. The stock broker offers tools to analyze and follow the investments. In some instances such as an employee stock purchase program, you can buy shares directly from the company which you should request the actual share certificates as soon as you can and deposit them to your account with your stock broker. Investing is more about the portfolio than any specific stock or bond. A portfolio with 75% bonds and 25% stock has less risk and higher returns than a 100% bond portfolio and a portfolio with 50% stock and 50% bonds has the same risks as a 100% bond portfolio but much better returns.

You can start by just purchasing government bonds, they are as safe and reliable as the government which may not be saying much and can be purchased in small denominations at banks and post offices. When you have a bunch of these bonds saved up, preferably with staggered maturities (laddered), take them into a stock broker and open up a brokerage account, then your first purchase should be a low fee fund either a mutual fund or an ETF but one that invests in the market in general. The funds with the lowest fees are the index funds but they are fully invested in the market in that they have 100% stock portfolios so you should not have more than 50% of your account in such a fund, you may go as high as 80% if you are really optimistic but the safest would be 25%. If you apply for margin on your account, you wouldn’t even have to sell any bonds to buy the stock as you could buy on margin secured by the equity that you have in your account and just allow the maturation of the bonds and your monthly contributions restore the margin but the stock broker will want you to pass a test proving that you know what you’re doing and understand the consequences of the stock market before giving you margin, he will also likely require a substantial equity to be in your account before granting you margin. Never come close to using all of your margin and restore the margin as soon as possible. Use margin to enhance liquidity not for leverage unless you are 100% certain about an investment opportunity.

Whatever you invest in stocks is at risk of being lost. Bonds are contractual returns so they are only at risk of default, that is, the company breaking their promise to pay as in going out of business. Governments aren’t likely to default, a AAA rated company has about a 2 in 10,000 per year risk of defaulting and the average of all corporations is about 2% per year risk of default. Some bonds particularly municipal bonds carry insurance against default.

Laura asks…

What is a 1-for-10 reverse stock split? and when can you buy to make money?

as in Citigroup’s stock right now for example.

John answers:

Most stock splits involve the shareholder receiving two or more new shares for his or her old ones.

In a five for one stock, split someone who started with 100 shares will end up with 500.

Reverse stock splits work the opposite way. The stockholder receives *fewer* new shares.

In a ten for one reverse stock split someone with 2000 shares ends up with only 200. (This is not necessarily a bad thing, since each share is worth ten times as much. You don’t lose any money right away. You just own fewer, more valuable shares.)

People make money when the stock market is going up *and* when it is going down. They do so by buying and selling at the right time. People lose money by buying and selling at the wrong time.

Paul asks…

Ways to use my money to make more money?

I have a job but no expenses, so for now at least I want to make my money work for me. I want to do as little work as possible and get the highest returns possible (duh?) I know there are ways to make money without work so long as you have enough money to start out with (like buying a business and paying someone to manage it for example) so dont say im dreaming and that it cant happen. But I also want to know everything i need to about bonds, stocks, cds, money markets, etc etc. Longest list of ways to get money without doing a LOT of work gets best answer.

John answers:

Claude Shannon at MIT once took his engineering class off on a tangent by proving mathematically how to always make money off a stock. What he did was he took an imaginary portfolio and invested 50% of it in a stock then he simply rebalanced it back to 50% whenever there was a price change in the stock, when the value of the stocks constituted more than half the portfolio, he sold stocks, when the cash portion was more than 50% of the portfolio he bought stocks, the end result was buying low, selling high and he proved mathematically that so long as the stock didn’t just disappeared, that strategy would always make money.

Ed Thorp in his book “Beat The Market” described buying stocks and shorting warrants on the stocks so that whether the price of the stock moved up or down, a profit was guaranteed. This is known as arbitrage or hedging. Needless to say he went on to start one of the most successful hedge funds ever. Warrants are like a option to buy except they are issued by the company itself often to make a bond more attractive. Basically, a warrant allows the owner to purchase the stock at a set price before the expiration date hence the warrant tends to trade at a price that’s no greater than the current stock price minus the strike price and premium hence it’s a derivative product whose pricing is related to the stock price by market forces, when the stock goes up, it tends to go up too, when the stock goes down, it goes down but it’s price is significantly lower than the stock.

Warrants and options have more or less the same price movements as the underlying stock but are less expensive hence the price movements are a greater percentage of the investment. This can be used to leverage your investments by buying the warrants or options for a stock rather than the stock itself. It’s sorta like penny stocks except that when it becomes worthless (the stock is below the strike price), it still has speculative value as the stock may yet rise to be above the strike price before the maturity date, penny stocks tend to just disappear when they become worthless.

John Kelly from Bell Labs postulated that the information theories of Claude Shannon could be used in investing and gambling. These are equations dealing with the maximum transmission rate of data over noisy phone lines. He came up with the Kelly Criterion which essentially calculates the maximum percentage of your available capital should be invested given the probability of success/failure and the expected rewards. Basically investing under the criteria gives you a high probability that your assets will grow exponentially, with the maximum growth rate at the criteria itself. Over that limit and you have a high probability of losing it all. This is useful in situations where you can evaluate the probability of success and the net profit expected but is difficult to use beyond the binary outcome form. An analysis of Warren Buffet’s investments shows that all of his investments have been below the Kelly Criterion and often quite close to the limit calculated. Basically the criteria requires you to reserve some money for later rather than risking everything on one gamble.

Ed Thorp and Sheen Kassouf applied the Kelly Criteria and detailed analysis of probabilities to games in Vegas and the racetrack. The profits were used to start a very successful hedge fund company on Wallstreet. You may have heard of a movie inspired by his escapades in Vegas.

In the 80’s, Thorp put a grad student in a motel room in Vegas to place Sports Bets according to analysis that they did on the University Computer. They started with $50,000 and had $123,000 a few short months later but managed to bankrupt the sportsbook at Little Caesars in the process. They ended the project due to the inconvenience of having someone in Vegas and because their efforts on Wallstreet were much more profitable. He published a paper on it in 1991, he concluded that it may be worthwhile if you could place sports bets from outside the state. The main technique involved cross book arbitrage which also meant transferring large sums of cash between casinos by hand. Some people that attempted to continue on the process without them, wound up being robbed while performing one of these transfers.

Thorp has a new book coming out on the Kelly Criterion.

Alex Doulis in his book “Take Your Money and Run” described two strategies, one was to find an index fund with the lowest operating costs and the other was to evaluate stocks by comparing the reciprocal of their Price/Earnings ratio to the prevailing interest rates. The main geist of the book was to save slowly but surely and arrange to be free of taxes.

David asks…

Where does money from buying stock go?

Maybe I don’t quite understand it that much but where does the money from buying stocks go? Like if you bought 1 stock for 33 bucks who gets that money? Does it magically make it’s way to their bank account and how?

John answers:

Depends on who is selling the stock. If the stock is an IPO, the company selling the stock gets the money. Otherwise, the individual or institutional investor (mutual fund, etc.) gets the money. In order to buy stock, you must have an account with a broker. To open an account, you send money to the broker. When you make your purchase, the broker takes the money out of your account and sends it to the broker who represents the seller and that broker deposits the money into the seller’s brokerage account. After that, the seller can withdraw the money or buy other stock.

Lisa asks…

Buying Stock?

If I want to buy stock,
how would I do that and how old must you be

John answers:

Congratulations on getting started. It’ll help you more than you know! First off, you can buy stock in a custody or joint account, so dont’ let that stop you.

However, your first dollars should be spent on getting educated on investing. You don’t have to train to trade them professionally, but we are talking about your future here. So the more you learn, the more it’ll help you! So let’s start there.

You ask a very broad question, so be prepared for a pretty long answer. Just take it in chunks!

How to invest depends on what you already know. We’ll assume that you’re beginning!

A good primer is How to Make Money in Stocks by William O’Neil. You can get it cheap just about anywhere. It’s widely available new or used.

Another good one is one of Jim Cramer’s books like Real Money (he’s got a few).

But books will only get you so far. At some point, you’ll also want to get at least a little training. There are some great education companies if you want to make the investment. Investools.com or optionetics.com are both very good companies as is tmitchell.com

For free, you can start by visiting thestreet.com and investopedia.com. That’ll get you a pretty good primer so at least you’ll understand what the markets are and what a stock is, etc.

If you get a chance, watch Mad Money on CNBC. Don’t trade any of his picks until you track many of them over time. Just use the show to get you to understand some basics and get a feel for the market itself.

Next, subscribe to something like Investorsbusiness daily or something like that that can help you identify good stocks.

Once you understand stocks, go to 888options.com. It’s a website that’ll help you understand options (what they do, how they work, etc). You don’t need to trade them, but the more you know, the more you’ll see how options can really be the safest way to invest (once you’re educated).

For discipline (which is crucial to successful trading), probably Trading in the Zone by Mark Douglas or Mastering the Trade by John Carter

I know that’s a LOT to absorb. Just take it one step at a time for now. Start with a book or two to give you an idea of where to begin. Take your time, and let it seep in.

As you get up to speed, you should papertrade to practice (highly recommended). This should help reduce your losses in the beginning as you get used to buying/selling.

You can practice for free on almost any reputable broker site (optionsxpress, scottrade, thinkorswim, etc). And yes, you can definitely deal easily online.

Start slow, then as you figure things out, you can buy more shares.

Congrats again on getting started. If you have any questions, please let me know.

Hope this helps!

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