Saturday, March 22, 2008

Some Random Thoughts About Brokers and Trading Knowledge

Whenever I have written about brokers in the past, it seems to have stirred a storm of emails relating either horror stories or positive experiences with brokers. Like anything else, there are good and bad and the key for us, as traders, is to figure out which is which.

Not so long ago, many brokers cloaked themselves in an aura of supposedly secret knowledge. It seems to me that the idea some wanted to convey was that the average investor couldn't possibly understand the mysteries of the markets and had to rely on the expertise and advice of the broker. There was almost a "shaman-like" attitude that only they could appropriately analyze the market and individual stocks and suggest to the investor the way to invest. That way, of course, was the "buy and hold" strategy. Generally, over relatively long expanses of time, that strategy worked quite well if the investor didn't need the money he invested and was willing to wait. The problem with the strategy, it seems to me, is that there is never an answer to the question: "Hold until when?" Brokers who advocated the strategy would call clients, recommend the client buy a stock and then never make a call suggesting that the stock be sold to either cut losses or take a profit.

Those were also the days of exorbitantly high commissions. $200 or $300 commission to buy 100 shares of stock was not out of the question. What did the investor pay for? Research and analysis was often the answer. How did that help coming into the crash of 1987 or even as late as 2000? What about now? Of course, there are many internet brokerages now and, as a result, commissions are generally much lower with them and discount brokers in general. If all we intend to do is buy a stock and hold it, why would we even consider paying high commissions any more. Research and analysis is readily available on the internet if we are willing to make the effort to seek it out. In fact, one wonders how valuable brokers' advice actually is. Just look at the recent troubles at Bear Stearns and several of the very large brokerages. These folks who say the retail investor is incompetent to manage his own money have recently lost billions of dollars with completely inept investments. Do we really want them advising us how to invest our money when they have proven that they can't do very well in their own accounts?

I have long been an advocate for the individual learning to manage his own money. The individual can learn to invest and, quite importantly, to manage risk if he is willing to make the effort. There are, in fact, some wonderful full-service brokers who will help in that learning process. The trick is to make the effort to find them. If you are relatively new to trading, you may want to search for a broker who is using strategies you like in his or her own account. He must be using the strategies himself and he must be willing to spend some time with you to help educate you. The commissions at a full service brokerage will be higher than at a discount broker or an internet broker, but in some cases they may be worth it. If you need hand-holding (and I don't mean that in a derogatory sense) you won't get it at a discount broker, but if you make the effort to find the full service broker, you may find someone knowledgeable who is willing to help. The key is you must make the effort. Interview prospective brokers before hiring them. Find out where their expertise lies and what, specifically, they are willing to do for you. If it fits your needs, consider using them; if not, continue the search.

Instead of hunting for the full service broker who is willing to really work with and for you, you can educate yourself as many successful traders, including myself, have done. That means reading, attending seminars, talking to successful traders and even employing personal coaches. Earlier this week, I spent a couple of days coaching a wonderful lady who has a lot of trading knowledge who wanted to take it to the next level. Those opportunities are available. They may seem time consuming and/or expensive, but trading without the knowledge almost assuredly will be much more costly.

One emailer last week complained that I was plugging my book too much in this column recently so I backed off a bit this week. I do need to say, however, that a reviewer on as well as a subscriber here pointed out an error I made in "Trade Your Way to Wealth". On page 88 I made a mistake that I failed to catch in the final edit where I was discussing dynamically trading in and out of the call leg of collars. I used the wrong premiums and apologize for my mistake. The principle, however, is quite accurate and I do use it myself quite often.

by Bill Kraft, Editor
Copyright 2008, Makin' Hay, Inc.
All Rights Reserved

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To comment on Bill's article click on the "comments" link below.


Anonymous said...

Dear Mr. Kraft: I did enjoy your column and sadly now realize "How true". I unfortunately turned over a split account to Fisher Investments to manage. It consisted of a Roth IRA and the balance was 60 plus stocks purchased over the past 20 years and held in dividend reinv. accounts. At age 73--I wanted to ease the work of managing this pool of wealth. The Roth represented about one third of the total. The Realized losses in that account are massive. Proportionately much larger than the two third balance. They sold off almost each and every stock I entrusted to them. I am now paying an AMT penalty. When I ask if they have a fiduciary duty to the Roth--as custodian managers, I receive platitudes and hand holding. In effect, I am paying them to lose my money. In less than the first 3 months of 08--the Roth has lost over 10K realized losses. They loaded me up in May 07 when they got the account with Credit Suisse, Ubs, Lehmann, and Morgan Stanley--even as the bubble in housing and credit was leaking severely. They sold LEH at 25 the day before the rally of last week and there went 5K in one fell swoop from my Roth ira. I also had Japan ETf and Etf in energy,aLL SOLD AT LOSSES THAT I CANNOT WRITE DOWN. My accounts were populated by Amer. St. Exch. and Pink sheet stocks. He sold many of my original stocks, only to buy them back at a higher price and I have watched those same stocks go sideways or halve in value. F.I. does not hedge or short and must have no rule about when to sell a stock. His motto is " Buy High and sell low" If I leave before the 1st anniv.--I will be assessed a 2K penalty. They tell me I am in the stocks I need to be in because I need growth to cover inflation for the future. I never dreamed they could lose so much money so quickly and wonder if they have a CHIMP THROWING DARTS AS STOCK PICKERS. I become nauseous when I see their infomercials on T.V. Frances R. Campbell

Bill Kraft, said...

Frances, I can only say that I hope your message is read by others and taken to heart. No one cares about our money as much as we do. Your story sadly is one of many who have entrusted accounts to various brokerages or brokers only to see assets melt away. Thanks for sharing your story.
Bill Kraft

Anonymous said...

Mr. Kraft I have being a subscriber for the weekend newsletter since last year and enjoy all the e-mails and advice.

Because of that I decided to buy your book that I recently received (because I do not live in the U.S.) which I´m reading and enjoy it a big time.

I have a question about a sentence on the book that wanted to ask; on chapter 4 page 37 at the bottom you write a summary for the calls and on the Out of the money it said "strike price of the call is higher than the current stock price (e.g. a $50 call when the current stock price is $53)" Maybe I do not understand it right or maybe I´m not reading it right but it should not be a $50 call whit the price of the stock lower than $50?

I just wanted to check, thanks a lot and congratulations the book so far is excellent!


Jose Figuera

Bill Kraft, said...

Jose, you are correct. At the bottom of page 37, the definition is correct but the example is mistaken. An out of the money call is one where the strike price of the call is higher than the current strike price of the stock as I wrote. That would mean if one had a $50 call, it would be out of the money if the stock were at $48, it would be in the money if the stock were at $53. Thanks for catching that one.
Bill Kraft

Anonymous said...

Mr. Kraft,

Another great article - - I look forward to these each week. One quick question - - how do you post the weekly charts (all 3) in the upper right corner of your article? I would love to put these on my desktop! Thanks,


Bill Kraft, said...

JMW, thanks for writing. Unfortunately, I have no idea how the charts are posted. That is a question for the publisher and I'll forward it on to him.
Bill Kraft

GM of Texas said...

Mr. Kraft,
You don't need another compliment (I'm sure you get many) but I would like to add one that will reflect my perspective too. Your insight is, without question, a reflection of both your education and your experience. I can rely on what you say as being AT LEAST worth further thought on my part. I have traded for a number of years and have almost always been on the plus side. I attribute that to my lack of love for money but love for the excitement of trading. I had a friend tell me that his "high powered stock broker" had given him some "inside (sort of)" lead on a company that, when I checked it out, was doomed to fail. I told him to be careful and check it out himself before he jumped in based solely on his "high powered stock broker"'s lead. He didn't listen and you can guess the outcome. He not only lost a lot; he lost it ALL. Well, the old "buy and hold" didn't work because I kept telling him to get out but he wanted to wait and see if his broker was right before he gave up. He finally gave up; he had no choice; the company went broke a year later. Thanks for your educated and experienced insights. I will continue to read them and listen and also, continue to do more research before jumping off the deep end. One last piece of advice for your readers, don't put all of your hopes into one investment; it could be fantastic but it could also turn you live into living hell. GM of Texas

Bill Kraft, said...

GM, thanks for the story of your friend losing his investment through a "high powered broker". It really brings home the point about how important it is to do our own study and make our own decisions about our investments. After all, it is our money we are putting at risk. I also appreciate the point about not putting all your eggs in one investment basket. I've seen traders who were convinced they couldn't lose, bet it all on a single play and lose everything. Money management, in my view, is critically important.
Bill Kraft