Read an Excerpt
How to Make Money in Stocks Getting Started
A GUIDE TO PUTTING CAN SLIM CONCEPTS INTO ACTION
By Matthew Galgani
The McGraw-Hill Companies, Inc.Copyright © 2013 McGraw-Hill Education LLC
All rights reserved.
Before we get into the details in later chapters, I want to make sure you see the primary goals—the big picture—here.
So let's start with a quick look at the investing forest, then we'll start examining the trees.
If you ever start to feel a little overwhelmed as we go through the checklists and charts later in the book, take a breather and come back here. You may even want to put in a bookmark or dog-ear this page as a reminder.
That will help you stay grounded and focused on what matters most: Using basic rules and routines to both grow—and protect—your money.
How to Protect Your Money
The Basic Game Plan for Making Money in Stocks
How to Protect Your Money
Talking about how to protect your money—how to avoid big losses—is not the most exciting way to kick off a discussion about building wealth. But it's absolutely critical.
Job #1 in making money in stocks is to protect the money you already have.
And you can do that just by following two basic rules. They will protect you even when—in fact, especially when—the market becomes volatile and slips into a downtrend.
When we go through the Selling Checklist later in the book, you'll see several common signals that tell you it's time to lock in your gains or cut any losses. Over time, you'll become better and better at spotting those signs, but for now—at a minimum—be sure to stick to these two rules. They'll help you safeguard your money as you learn new ways to grow it.
1. If a Stock Drops 7% to 8% Below What You Paid for It, Sell. No Questions Asked.
This one simple rule puts a cap on potential losses—like having insurance to protect you against whatever the market does. Simple and sensible.
You'll find it's much easier to grow your money if you follow this rule. Instead of trying to make up for larger losses, you'll be adding to and compounding your gains.
I can't emphasize enough how important this rule is.
Every investor—including legendary traders like Bill O'Neil—makes mistakes. But successful investors quickly acknowledge those mistakes— and cut their losses short. Always. You should do the same, and you can do it by following this one simple rule.
See the Selling Checklist section for more on this rule—and how I learned it the hard way.
2. Only Buy Stocks When the Overall Market Is in a "Confirmed Uptrend"
IBD's study of every market cycle since 1880 shows 3 out of 4 stocks move in the same direction as the overall market, either up or down.
The "overall" or "general" market refers to the major indexes, primarily the Nasdaq Composite, S&P 500, and Dow Jones Industrial Average.
When the market is trending down, about 75% of all stocks will eventually decline with it.
Does that sound like a good time to buy stocks? To keep the odds in your favor and make it much easier to grow your money, be sure to only make new purchases when the market is in an uptrend.
As you'll see in the next section, "The Basic Game Plan for Making Money in Stocks," you'll know if the market is in an uptrend or downtrend simply by checking the Market Pulse inside IBD's The Big Picture column.
Only make new buys when the current outlook is "Confirmed uptrend."
See the Buying Checklist section for more on this key rule and how to apply it.
Protect and Prosper
Most people start out focusing on what stocks to buy and ignore the other absolutely critical part of the puzzle—when to sell.
All too often, a new investor won't realize he or she needs some sell rules until after suffering a large loss. Don't let that happen to you!
Start off right by sticking to these two basic rules. They'll help protect your money as you learn to pick winning stocks and prosper.
The Basic Game Plan for Making Money in Stocks
We'll go through the CAN SLIM® Investment System in the next chapter, but for now just understand that by using this approach, you can:
See when the market trend is changing so you'll always know if it's time to buy stocks or take defensive action.
Identify stocks with the most potential by looking for 7 traits the biggest winners typically display just before they launch a major price move.
Then, using the routines and checklists in this book, you'll see the specific steps you can take to make money in:
Exchange-traded funds (ETFs) that cover the Nasdaq and S&P 500
Or a mix of both stocks and ETFs
The focus of this book is on individual stocks. The biggest winners in a strong bull market can go up 100%, 300%, even 1,000% or more. In the bull cycle that started in March 2009, Apple, Priceline, Lululemon Athletica, Ulta Beauty, Green Mountain Coffee Roasters, Chipotle Mexican Grill, Rackspace Hosting, 3D Systems, Michael Kors, and many others did just that. In other words, the huge, life-changing gains are made by zeroing in on the true market leaders—and you'll see how to do that using the Simple Weekend Routine and Buying Checklist.
That said, you can generate solid gains following the ETF approach we'll go over in a minute, and it takes less time.
Should You Invest in Stocks, ETFs, or Both?
The choice is up to you. There is no right or wrong answer, and you can always do both: Put a certain percentage of your money into individual stocks and another portion into an index-based ETF.
Many CAN SLIM investors follow a mixed approach, and I think it's an excellent way—especially for new investors—to get started.
Basic Game Plan for Making Money in Exchange-Traded Funds (ETFs)
As we'll see again and again throughout this book, staying in sync with the general market trend is the first crucial step to making money—whether you're trading stocks or ETFs. The reason for that will become crystal clear in a minute.
What is an Exchange-Traded Fund?
An ETF is essentially a "basket" of stocks compiled into one "fund" that you can buy and sell just like an individual stock. It could be a sector-based ETF focused on a particular industry, such as energy or real estate. Or it could be an index-based ETF that tracks the S&P 500 or another index as a whole.
For this game plan, we'll focus on index-based ETFs that give a broader representation of the general market.
3 Easy Steps
IBD has a simple approach to tracking the general market trend. (We'll get into the details in the Buying Checklist section.)
Each day, you can check the Market Pulse in IBD's The Big Picture column to see which of 3 possible stages the market is in right now:
Based on that, you can see if it's time to buy, sell, or hold an index-based ETF. Here's how it works.
The following chart shows how this simple approach can help generate significant profits. Think back to the severe bear market that started in late 2007, then look at how the Market Pulse alerted readers to that change in trend—and later noted the start of a new bull cycle in March 2009.
How IBD's Approach Nearly Doubled the Nasdaq Performance
Following the 3-step approach listed above, from August 15, 2006 (start of new uptrend) to March 28, 2013 (last trading day of first quarter), IBD's Market Pulse strategy gained 97% compared to a 54% gain for the Nasdaq and a 55% gain for the S&P 500. While that does not guarantee you'll get those kinds of gains in every market cycle, it does show how this approach has the potential to generate significant profits.
Keep in mind: Those gains were generated even with the severe 2008 bear market caused by the housing and financial crisis.
How many people do you know made—and held on to—a 97% gain from 2006–2012? If you had invested $10,000 the day after the Market Pulse changed to "Confirmed uptrend" on August 15, 2006, it would have grown to over $19,000 just by following this simple strategy.
So whatever your goal is—building a college fund for your kids, paying off your mortgage, having a worry-free retirement—you can see how this approach may help you achieve it over time.
Tips on How to Generate ETF Profits
* Check out a short video that shows how you can use stop-loss orders and other simple steps to help generate substantial returns at www.investors.com/GettingStartedBook.
Basic Game Plan for Making Money in Individual Stocks
Now that we've seen how you may make substantial profits investing in index- based ETFs, let's see how to potentially capture even larger gains by buying and selling individual stocks.
Keep in mind: In a strong uptrend, the top-rated CAN SLIM stocks typically go up much more than the Nasdaq or S&P 500.
For example, from the start of a new bull market on March 12, 2009, through May 4, 2010, when the market slipped into a downtrend, the Nasdaq gained 70%. During that same period, the market leaders of the time shot up even more: Lululemon Athletica (522%), Ulta Beauty (322%), Baidu (309%), Priceline (231%).
Of course, let's manage expectations and be realistic.
Not even the best investors capture every last dollar of a big winner's move. (In fact, trying to do that will just get you into trouble as we'll see later.) But you can lock in a good-sized portion of those huge gains—and a little piece of a 300% move means a nice boost for your portfolio.
Yes, it takes more effort and elbow grease to tap into those potentially "monster" gains in individual stocks, but that's why you're reading this book, right? And once you get familiar with the routines and checklists, I think you'll be pleasantly surprised at how you can do this by sticking to a step-by-step approach. (To see what I mean, check out the Simple Weekend Routine in Chapter 4).
And I'll show you how to get started, one step at a time, using easy-to-follow checklists. We'll start right now with a quick overview of the basic 3-step game plan.
We'll cover the details of each step as we go through the buying and selling checklists. But for now, let's take a peek at these 3 steps in action.
Step 1: Only Buy When the Overall Market Is in an Uptrend
You can always see if the market is in an uptrend or downtrend just by checking the Market Pulse in The Big Picture column. In the following chart, you can see how the Market Pulse outlook helped investors buy and sell at the right time in 2010.
Step 2: Buy Stocks with CAN SLIM Traits as They Break Out of a Telltale Chart Pattern
Even if you're not yet familiar with charts, you'll find highlights of top-rated stocks—and alerts to potential buy points—in the IBD® 50, Your Weekly Review, Sector Leaders, and other features.
Step 3: Take Most Profits at 20% to 25%. Cut All Losses at No More Than 7% to 8%.
Start with this simple selling plan to make sure you lock in some good gains and avoid any serious damage.
To a large degree, the same can be said of investing.
In the chapters ahead, we'll go through checklists that outline the traits of winning stocks, and see what buy and sell signals to look for in a chart. Those are all important details that you'll need to learn to be a successful investor.
But never lose sight of the big picture—and the basic game plans we just went through. With all the news and noise that surrounds the market, it's easy to overthink investing and become the proverbial deer in the headlights.
So especially if you're just getting started, stick with the simple game plans and routines we'll cover in this book. They'll keep you focused on the big- ticket items that ultimately determine if a stock heads up—or down.
And in the next chapter, we'll find out what those key factors are.
The CAN SLIM® Investment System
The 3 "Big Rocks" of CAN SLIM® Investing
The CAN SLIM Concept
The 7 Traits of Winning Stocks
CAN SLIM Case Studies
The 3 "Big Rocks" of CAN SLIM Investing
The buying and selling checklists in this book—and all the stock screens and tools you'll find in IBD®—are based on the CAN SLIM® Investment System, developed in the 1960s by IBD founder and chairman William J. O'Neil.
For years now, I've had the privilege of helping people get started with CAN SLIM investing—at workshops, in videos, at IBD Meetup groups, in a monthly newsletter, and on our radio show.
There's one piece of advice I give to anyone just starting out: Don't overcomplicate it! Keep it simple.
Yes, there are important details and some things that take a little time and effort to learn, like how to read a stock chart. But all of them can be broken down into a few simple concepts you can learn step by step, using checklists to guide you. And that's what we'll do together throughout this book.
I love the saying, "Put the big rocks in first." You can always add the tiny pebbles—the details—later, but when you're getting started, make sure you stay focused on what matters most.
When it comes to understanding why the CAN SLIM Investment System works so well and how you can use it to make money in the market, it comes down to 3 "big rocks" you always want to put in first:
Big Rock #1: Only buy stocks in a market uptrend. Take defensive action as a downtrend begins.
Big Rock #2: Focus on companies with big earnings growth and a new, innovative product or service.
Big Rock #3: Buy stocks being heavily bought by institutional investors. Avoid those they're heavily selling.
As you go through this book—and, most importantly, as you start using the checklists and Simple Weekend Routine to invest—always keep those 3 "big rocks" in mind.
They may not make sense to you just yet (they will very soon)—or maybe they seem overly simplistic at first. But IBD's study of every top stock since 1880 shows that always starting with these 3 core tenets is the key to making money in the market.
The CAN SLIM Concept
CAN SLIM investing is based on two simple ideas:
To find tomorrow's big winners, look for stocks with the same traits past winners had just before they launched their big runs.
To know when it's time to sell, look for the same warning signs these past winners flashed when they eventually topped and began to decline.
What Does a Winning Stock Look Like Before—and After—It Makes Its Big Move?
In the late 1950s, Bill O'Neil was a young broker who asked a simple question: What common traits do the best stocks have before they make their big price moves?
To find out, he began studying the biggest winners of all time. These were stocks that went up 100%, 300% or much more very quickly, often in just 1 or 2 years.
These were the days before personal computers and the Internet, so Bill covered his office walls and cabinets with charts and reams of data. He studied every available performance metric to see which ones truly mattered— to see what characteristics and telltale signs these top-performing stocks displayed just before they rocketed higher. He found:
The best stocks display seven common traits just before they make their biggest gains.
Each letter in CAN SLIM stands for one of those traits, and they form the basis of the rules you'll find in the Buying Checklist.
Bill also studied what happens to leading stocks after they've had a big run. Just as they share certain traits before they surge, they also flash similar warning signs as they top and begin to decline. Those signals form the basis of the sell rules you'll find in the Selling Checklist.
Over 130 Years of Market History
The study O'Neil launched in the 1960s continues to this day and now covers every market cycle and top-performing stock from 1880 to the present.
Whether it's Bethlehem Steel in 1914, Xerox in 1963, Google and Apple in 2004, Priceline.com in 2010, SolarWinds in 2011, or 3D Systems in 2012, year after year, decade after decade, the biggest winners display these same 7 CAN SLIM traits just before they launch their massive runs.
The company names will change, new technology and industries will emerge, but the basic profile and attributes of an emerging big winner always look the same. So once you understand what to look for, your search for the next game-changing stock won't be based on hunches or hype. It'll be based on history and a targeted checklist of specific, telltale signs.
Only about 1% to 2% of all stocks will have these CAN SLIM characteristics. But as the results of an independent study by the American Association of Individual Investors (AAII) show, it pays to be picky: If you stay disciplined and look for stocks with CAN SLIM traits, you will spot today's most promising stocks in the early stages of their big moves.
#1 Growth Strategy from 1998–2012
Since 1998, the American Association of Individual Investors has been conducting an ongoing, real-time study of over 50 leading investing strategies. From 1998–2012, AAII found the CAN SLIM Investment System was the #1 growth strategy, generating an annualized return of 24.7%.
Think about all of the roller-coaster rides we had in the market during those 15 years: The dot-com boom and bust, the 2003 bull market, the housing and financial crisis in 2008, and the bull market rebound in 2009.
Excerpted from How to Make Money in Stocks Getting Started by Matthew Galgani. Copyright © 2013 by McGraw-Hill Education LLC. Excerpted by permission of The McGraw-Hill Companies, Inc..
All rights reserved. No part of this excerpt may be reproduced or reprinted without permission in writing from the publisher.
Excerpts are provided by Dial-A-Book Inc. solely for the personal use of visitors to this web site.