Short Selling Stocks

The short sale of stock is a bet that the price of a stock will decline.
Here are the mechanics. You decide that XPTO at a price of $110 is at or near its peak. You feel that XPTO will decline in price from this level. So you want to short the stock. You tell your broker you want to short 100 shares of XPTO at 110. You borrow from your broker 100 shares of XPTO at $110 and sell it to someone else.

This is the nature of the short sale. You're selling something which you borrowed. Again, you borrowed 100 shares of XPTO at $110 and sold it to someone else. You actually borrowed the 100 shares of XPTO from your stockbroker. He either has it in inventory or he borrowed it from a client or another brokerage firm. Either way, it is your broker who loans you the stock to sell to someone else.

So now what happens. Hopefully, the price of XPTO goes down for you. Let's say that XPTO declines to $85. At 85, you decide that XPTO may not decline much further, if at all. So you want to take your profits. How do you do that? You now buy 100 shares of XPTO at $85 and pay your broker back the 100 shares of XPTO. You borrowed the stock at 110 and paid it back at 85. You made $25 per share in profit or $2,500. You sold the borrowed stock for $11,000 and bought it back for $8,500.




Conversely, suppose the price of XPTO goes up to $125. The investor would have sold the stock for $11,000 and now might want to get out of the position. He would now have to go into the market and buy 100 shares of XPTO for $12,500. He would then be returning the loaned stock at $12,500. In this case, he has a loss of $1,250.
The potential loss on the short sale of stock is unlimited. This is because a stock can theoretically rise infinitely. Therefore, to protect himself, the short seller should always use a 'buy stop' order GTC (Good Till Canceled). The investor might decide that if the price of XPTO rises $5 he wants to get out of the position. He would place a buy stop order at $115. Then, if the price of XPTO rises to 115, he is assured that he will get out at about 115. Remember, a stop order becomes a market order when hit. Therefore, there is no guarantee that he will get out exactly at 115. But he will get out at 115 or about 115. One can also place a limit order when he wants to get out of a short position which went up. This will get him out at exactly that price. However, there is no guarantee that the trader will get out. He could miss the market.

You may also want to get out of a short trade when you have hit a certain amount of profit. In this case, the investor would use a buy stop at his maximum loss level and a buy stop at his profit target level. This is called an either/or order. You are placing two orders to protect you if the stock rises and to take profit if the stock declines. By the way, this either/or type of order can also be used when buying stock. You can protect yourself against a loss if the price declines and also to take profits when the stock rises.

For the most part, brokerage firms do not place a time limit on the shares of stock they loan. This is because they make a commission both ways. And also, they want to keep the customer happy. Also, you should know that a short sale can only be made on an uptick in that particular security. That is, if you want to short a stock at 110, the short sale can't be made unless the previous trade was at 109-7/8 or lower. Otherwise, in a rapidly declining market, short selling into the decline would aggravate the decline. And remember, the ticker tape is a continuous tape. It doesn't start new every day. So today is a continuation of yesterday. You can't get around the uptick rule by waiting for the next day.

The Money Market

Generally, corporations raise money by issuing long term debt and equity instruments. The money market is the a market which is used for buying and selling short term loanable funds in the form of securities and loans. Money is not what is traded in the money market. Short term loans are traded which can be converted into cash rather quickly. The buyer of a money market instrument is the lender. The seller of the money market instrument is the borrower. Money market instruments have a maturity of one year or less. Most have a maturity of six months or less. The majority of money market instruments are issued at a discount. This means that the lender of the money does not receive interest payments. Rather, you might lend $96,000 and receive $100,000 at maturity. For the most part, $100,000 is the minimum amount which is traded in the money market. Money market instruments are regarded as quite safe. Of course, there are some instruments which are considered more safe than others. T-Bills are considered safer than commercial paper. Nevertheless, they are all considered low risk.

The money market trades both corporate and government debt securities. T-Bills are the majority of what's traded in the money market. However, Treasury Notes are also traded. Treasury Notes have maturities from one year to ten years. T-Bonds are also traded. However, the only T-Bonds traded have one year or less to maturity. One of the greatest advantages to the Money Market is the great liquidity. It is such a huge market that the spreads are kept relatively low. Also, interest earned from the Money Market is free of state tax. One last feature of the Money Market is the absence of business risk. 

Convertible Bonds

A convertible bond is one which is convertible into a company's common stock.
The conversion option to the bond is exercisable when and if the investor wants to do it. The conversion ratio varies from bond to bond. The terms of conversion are set forth in the indenture. The exact number of shares or the method of determining how many shares the bond is converted into is printed in the indenture.
Many times the indenture will tell you how many shares of stock the bond is convertible into. For instance, it might say that it is convertible into 20 shares.

Therefore, the conversion ratio is 20:1. Unfortunately, it's not always that easy. For instance, the indenture might state the conversion price. The conversion price is the price per share that the company is willing to trade their shares of stock for the bond. For example, if the indenture states that the conversion price is $50 per share, the bond is convertible into 20 shares of stock. You divide the par value (usually $1,000 for corporate bonds) by the conversion price. Occasionally, the indenture might state that the conversion ratio will change through the years. For example, the conversion price might be $50 for the first five years, $55 for the next five years, and so forth. There are also anti-dilutive features to the conversion feature. If the stock were to split 2 for 1, and the conversion ratio was 20 to 1 prior to the split, after the split, the conversion ratio would be 40 to 1. A stock dividend would also have the same effect. A stock split would also reduce the conversion price.
Because convertible bonds have a little something extra, the right to convert to common stock, that little something extra costs the bond holder. The bond will usually carry a slightly lower interest rate. If the stock price rises, the bond price will also rise. Since most convertible bonds are also callable, the company can force the bond holders to convert the bonds to common stock by calling the bonds. This is known as 'Forced Conversion'. When a bond is converted to common stock, the corporate debt is reduced. What was formerly debt has now been converted to equity. Of course, converting debt (bonds) into stock (equity) has the effect of diluting the equity. The company didn't get any larger with the additional stock. But each stockholder's piece of the pie got smaller. If the company's stock declines to a price which makes the convertible feature of the bond worthless, as long as the company is solvent, the bond will trade based on its yield - like any other bond. There is a price level to which a bond will fall and fall no further as long as the company can pay its interest and the principal upon maturity.
One other term to know is 'Parity'. If the $1,000 convertible bond is convertible into 50 shares of stock, the parity price of the stock is $20. If the stock moves up to $25, for the stock and bonds to be at parity, the bonds would have to be trading at $1,250.

Adapted

Pay Off Mortgage Early or Invest in Stocks?

If you're considering paying additional principal each month towards a mortgage versus investing in some sort of vehicle such as stock or a mutual fund, you need to weigh the risks and rewards carefully.

Some people will give you the following argument, which I would classify as the "agressive investor's viewpoint." I personally don't find this argument compelling, but you should be aware of it so that you can understand and analyze it.

Paying a 7% mortgage off early in effect "earns" 7% interest, which is totally absolutely guaranteed ... or does it really earn that much? Because mortgage interest is deductible, you may in fact only be paying out about 5% to 5.5% net, depending on how old the mortgage is and therefore how much interest you are paying with each payment. Therefore, what you "earn" by paying it off early may be much lower than the nominal rate on the mortgage.

The second consideration is expected return from any investments you make such as an index fund. If you plan on investing after-tax dollars (i.e. NOT an IRA or 401(k)) and you obviously don't seem to need the money and therefore have a long time frame, your gross return ought to be 12%, your after-tax net ought to be perhaps 8%. This is the best guess based on historic returns.

To summarize, the agressive argument basically claims that your investments in the stock market will pay off more than the return on paying down the mortgage. The problem is that you could be risking your home trying to arbitrage a 3 or 4 percent difference in returns, and falsely believing that Uncle Sam will pay you to do it. Then there's the more conservative viewpoint, which I believe is more appropriate for the vast majority of people. This argument goes more along these lines.

Contrary to current popular opinion, investments in financial assets are 100% at risk. The risk factor is why the returns are better. You do not get returns higher than T-Bill rates without assuming substantial additional risk. Period. Your mortgage rate is probably higher than T-bill rates, so on an 'apples to apples' basis, paying off the mortgage is a no brainer. You get a risk free pay-off at better than the current 'risk free' return. Savings and debt payments do not belong in the market. 'Risk capital' belongs in the market.

If your house is paid for, and you have accumulated savings to cover emergencies, then you can start to nibble in financials. If you are 'investing' mortgage proceeds or savings, you are simply falling for the bait laid by the Wall Street sharks. There is no 'safe' investment except cash (and that is only as safe as the good will afforded your government). To believe otherwise can be disastrous.

To think about it a different way, making this decision would be easy if you had a reliable crystal ball that could tell you about the future returns of stocks as well as home appreciation rates. Since most of us don't have a crystal ball that lets us peer into the future, choosing a low-risk path is probably the most advisable course of action for most people.

Don't overlook the fact that the arguments presented above are basically extreme ones, attempting to answer the question of whether you should put all your extra cash into the market versus your mortgage. I think the right answer is somewhere in between.

Of course it's nice to be debt free, but paying down your debts to the point that you have no available cash could really hurt you if your car suddenly dies, etc.

You should have some savings to cushion you against emergencies.

And of course it's nice to have lots of long-term investments, but don't neglect the guaranteed rate of return that is assured by paying down debt versus the completely unguaranteed rate of return to be found in the markets. In short, each person needs to find the right balance for his or her situation.

adapted from http://invest-faq.com

Intermediate Investors Book Guide

Now that you're a better investor and would like to learn even more about this business, take a look at the new list I present you with.
These books assume you're comfortable with the basics of stocks, mutual funds, bonds, and other securities. They offer many investment strategies: what to buy, what to sell, and when to do so.

• Ted Allrich and William O'Neil - The On-Line Investor: How to Find the Best Stocks Using Your – Computer
  
• Peter Bernstein - Against the Gods: The Remarkable Story of Risk
  
• Peter Bernstein - Capital Ideas: The Improbable Origins of Modern Wall Street
  
• John C. Bogle - Bogle on Mutual Funds
  
• James W. Broadfoot - Investing in Emerging Growth Stocks
  
• Mary Buffett and David Clark - Buffettology: The Previously Unexplained Techniques That Have Made
  
• Warren Buffett - the World's Most Famous Investor
  
• Frank Cappiello - New Guide to Finding the Next Superstock
  
• Charles B. Carlson - Buying Stocks Without a Broker
  
• Samuel Case - Big Profits from Small Stocks: How to Grow Your Investment Portfolio by Investing in Small Cap Companies
  
• George S. Clason - The Richest Man in Babylon
  
• Burton Crane - The Sophisticated Investor
  
• John M. Dalton - How the Stock Market Works
  
• Nicolas Darvas - How I Made 2,000,000 in the Stock Market
  
• William Donoghue - Mutual Fund Superstars
  
• David N. Dreman - Contrarian Investment Strategies: The Next Generation
  
• Stephen Eckett - Investing Online: Dealing in Global Markets on the Internet
  
• Kenneth Fisher - Super Stocks
  
• Norman G. Fosback - Stock Market Logic
  
• David Gardner and Tom Gardner - The Motley Fool Investment Guide: How the Fool Beats Wall Street's Wise Men and How You Can Too
  
• David Gardner and Tom Gardner - You Have More Than You Think: The Motley Fool Guide to Investing What You Have
  
• Gary Gastineau - The Stock Options Manual
  
• Michael Gianturco - How to Buy Technology Stocks
  
• Benjamin Graham and Warren E. Buffett - The Intelligent Investor: A Book of Practical Counsel
  
• Christopher Graja and Elizabeth Ungar - Investing in Small-Cap Stocks
  
• C. Colburn Hardy - The Fact$ of Life
  
• Investor's Business Daily
  
• Investor's Business Daily Guide to the Markets
  
• Harvey C. Knowles and Damon H. Petty - The Dividend Investor
  
• Robert Lichello - How to Make $1,000,000 in the Stock Market Automatically
  
• Jeffrey B. Little and Lucien Rhodes - Understanding Wall Street
  
• Gerald M. Loeb - The Battle for Investment Survival
  
• Peter Lynch and John Rothchild - Beating the Street
  
• Peter Lynch and John Rothchild - One up on Wall Street also available: audio cassette edn.
  
• Geoffrey A. Moore, Paul Johnson, and Tom Kippola - The Gorilla Game: An Investor's Guide to Picking Winners in High Technology
  
• William J. O'Neil - How to Make Money in Stocks: A Winning System in Good Times or Bad
  
• James O'Shaughnessy - How to Retire Rich: Time-Tested Strategies to Beat the Market and Retire in Style
  
• James P. O'Shaughnessy - Invest Like the Best: Using Your Computer to Unlock the Secrets of the Top Money Managers
  
• James P. O'Shaughnessy - What Works on Wall Street: A Guide to the Best-Performing Investment Strategies of All Time
  
• Carl H. Reinhardt, Alan B. Werba, and John J. Bowen - The Prudent Investor's Guide to Beating the Market
  
• Hildy Richelson and Stan Richelson - Straight Talk about Bonds and Bond Funds
  
• L. Louis Rukeyser - How to Make Money in the Stock Market
  
• Terry Savage - New Money Strategies for the 1990's
  
• Charles Schwab - How to be Your Own Stockbroker
  
• Dhun H. Sethna and William O'Neil - Investing Smart: How to Pick Winning Stocks With Investor's Business Daily
  
• Robert Sheard - The Unemotional Investor: Simple Systems for Beating the Market
  
• Jeremy J. Siegel - Stocks for the Long Run
  
• John A. Tracy - How to Read a Financial Report
  
• John Train - New Money Masters
  
• Venita Vancaspel - Money Dynamics for the 1990s
  
• John G. Wells - Kiss Your Stockbroker Goodbye: A Guide to Independent Investing
  
• Martin E. Zweig and Morrie Goldfischer - Martin Zweig's Winning on Wall Street (revised and updated)
  

Books for Beginning Investors

If you're a beginner and would like to learn more than we can provide at The Investment FAQ, then these books are for you.
They concentrate on personal finance, budgeting, and also offer some introductory material on basic investment strategies.

• Barbara Apostolou, Nicholas G. Apostolou- Keys to Investing in Common Stocks (Barron's Business Keys)
  
• Janet Bamford, Jeff Blyskal, Emily Card, Aileen Jacobson, and Greg - Daugherty
  
• The Consumer Reports Money Book: How to Get It, Save It, and Spend It Wisely (3rd edn)
  
• Lynn Brenner - Building Your Nest Egg With Your 401(K): A Guide to Help You Achieve Retirement Security
  
• Samuel Case - The First Book of Investing: The Absolute Beginner's Guide to Building Wealth Safely
  
• David Chilton - The Wealthy Barber
  
• Jonathan Clements - 25 Myths You'Ve Got to Avoid If You Want to Manage Your Money Right: The New Rules for Financial Success
  
• John Downes and Jordan Elliot Goodman - Dictionary of Finance and Investment Terms
  
• Ric Edelman - The Truth About Money: Because Money Doesn't Come With Instructions
  
• Louis Engel - How to Buy Stocks
  
• David Gardner and Tom Gardner - The Motley Fool Investment Workbook
  
• Alvin Hall - Getting Started in Stocks (3rd edn.)
  
• Ken Kurson - The Green Magazine Guide to Personal Finance: A No B.S. Book for Your Twenties and Thirties
  
• James Lowell - Investing from Scratch: A Handbook for the Young Investor
  
• Peter Lynch and John Rothchild - Learn to Earn: A Beginner's Guide to the Basics of Investing and Business
  
• Kenneth M. Morris and Alan M. Siegel - The Wall Street Journal Guide to Understanding Money and Investing
  
• Kenneth M. Morris and Alan M. Siegel - The Wall Street Journal Guide to Understanding Personal Finance
  
• Kenneth M. Morris, Alan M. Siegel, and Virginia B. Morris - The Wall Street Journal Guide to Planning Your Financial Future
  
• W. Patrick Naylor - 10 Steps to Financial Success: A Beginner's Guide to Saving and Investing
  
• Suze Orman - The 9 Steps to Financial Freedom
  
• Kenan Pollack and Eric Heighberger - The Real Life Investing Guide
  
• Jonathan D. Pond - 4 Easy Steps to Successful Investing
  
• Jane Bryant Quinn - Making the Most of Your Money
  
• Claude Rosenberg - Stock Market Primer
  
• Kathleen Sindell - Investing Online for Dummies
  
• Andrew Tobias - The Only Investment Guide You'll Ever Need
  
• Eric Tyson - Investing for Dummies
  
• Eric Tyson and James C. Collins - Mutual Funds for Dummies
  
• Eric Tyson - Personal Finance for Dummies
  
• Diane Vujovich - 10 Minute Guide to the Stock Market
  

Investment Categories in Common Stocks

When you're trying to determine which stocks to buy, you should be aware of the different types of stocks. After all, one would not consider General Electric to have the same type of investing characteristics as Netscape. They have totally different profiles. One might consider this to be grades, classifications, or categories. These are: Blue Chip stocks, Growth Stocks, Income stocks, Cyclical stocks, Speculative stocks, and Defensive stocks. Keep in mind that these categories mean different things to different people. These are my definitions.

Blue Chip stocks are considered to be the most prestigious stocks on Wall Street. Companies which fall into this category are companies like Dupont, General Electric, IBM, Proctor & Gamble. These companies are well established, high grade investment quality issues. They have usually paid dividends for a long time during good years and bad years.

Growth stocks are those companies which have strong potential for future growth. Growth stocks are usually those companies which put a great deal of effort into R&D and puts its retained earnings back into the company for future expansion. They usually pay small or no dividends at all. Investors are usually willing to wait for capital appreciation which results from this type of management. The market price of growth stocks can be quite volatile. They usually go up or down faster than other stocks. When earnings don't live up to 'analysts expectations', the stock price usually takes a big hit (sharp decline).

There are some stocks people purchase for income. These are referred to as Income stocks. Generally, bonds pay a better current yield. However, there are some stocks which are competitive with these returns. Look for a company which is paying better than average returns because its products or services are superior to others in the industry. Also, make sure that the company is not in an industry which is becoming irrelevant.

A cyclical company is one whose earnings tend to fluctuate sharply with changes in the business cycle. Sometimes this cycle is peculiar to the industry. When business conditions are good, the company's earnings rise and the stock price rises rapidly. However, when business conditions deteriorate, the company's earnings and stock price deteriorate rapidly.

One way to identify speculative stocks are those stocks which may have Price Earnings Ratio's which are at multiples of 50 to 100 when the Dow stocks are trading in multiples of 15 to 20. Another type of speculative stock is a new issue. Many times these stocks have a wild speculative demand. Netscape was a stock like this. It had great potential, a small amount of sales, and a market cap of about $5 billion.

Defensive stocks are those which are stable and relatively safe in declining markets. Stocks which have this characteristic are food companies, drug manufacturers, and utilities. They tend to decline less in recessions. And their products are necessary in any economic climate. 

Types of Orders

The market order is probably the most common. When you place an order at the market, you are telling the broker to buy or sell the stock at the best possible price at that time. A market order will always be filled. The catch is that it may not be filled at the price you expected or wanted. For instance, you want to buy XYZ. You call your broker and he tells you that XYZ is currently trading at 95 bid 95-1/8 ask. The bid is the price the specialist is willing to buy the stock at. The ask is the price the specialist is willing to sell the stock at. You tell him to buy 100 shares of XYZ at the market. When the broker gets back to you, he tells you that he bought 100 share of XYZ at 95-3/8. What happened? Between the time you gave the broker the order and the order was filled by the specialist, the price went up. Keep in mind, that the price of XYZ could have easily been filled at 89-7/8 had more people been selling rather than buying at that time.

A 'Limit Order' is an instruction by you to your broker to buy or sell a specific amount of stock at a specific price or better. If the price you specify is not within the current market quote, it is said to be 'away from the market' and will be entered into the specialists book beneath any other orders in the specialists book. What this means is that there are shares ahead of you. Orders in the specialists book get filled in the order that they were received. This happens quite frequently. In fact, the other day, we had this with a trade. We left an order, which was our stop loss order, actually a limit order, to close a position if the stock hit a certain price. The stock did hit the price. However, there were orders ahead and we never got filled. We were left in the position. There is no guarantee that a limit order will ever be filled.

When deciding whether to place a limit order or a market order, the trader needs to evaluate the tradeoff between a guaranteed fill which might be different than what you expect, and getting the price you want but perhaps not getting filled. It all depends on your analysis and your needs. A stop order is an order which becomes a market order to buy or sell once the stock hits the target price. Generally, I use stop orders when I definitely want to get out of a stock, and limit orders when I want to get my price.

There is also a stop limit order. A buy stop limit means that as soon as a trade occurs at the target price, the order becomes a limit order to buy. A sell stop limit order means that as soon as the stock hits a target price, the order becomes a limit order to sell.

There are also three types of orders which can be placed with respect to the duration of time the order stays open. The first is called a 'Day Order'. A day order is good just as the name implies: for the day only. At the end of the day if the order is not filled, it goes in the trash.

The second type of order is called 'Good Till Canceled' (GTC). An order which is Good Till Canceled, GTC, means that until you tell your broker to cancel the order, the order remains open on the specialists book and can be filled any time. In practice, however, a GTC order has to be reconfirmed by the broker twice a year (every six months). This is not six months from the time the order was placed. The exchanges decided that the last business day in April and the last business day in October are the days when GTC orders must be reconfirmed. After all, how would you like it if you placed a GTC order two years ago, forgot about it, and then found out two years later that you had just sold or purchased a particular stock.

The last type of order is most frequently used in options and futures trading on a day trading basis. However, it may also be used in stock trading. And not all firms will accept it. It's called a 'Fill or Kill' order. Usually, it's placed with a time limit. For instance, a '10 minute fill or kill' means that if the order is not filled in the next ten minutes, kill the order. A few years ago, the best options broker I ever dealt with didn't take these orders. However, after discussing it with them, they said that they had no problem me calling back in ten minutes or what ever time frame and canceling the order. So I did that. It's a lot easier when we go right to the floor now. 

How to open an Account and Trade Stocks

You don't have an account with a brokerage house and you want to buy/sell stocks?

The first thing you need to do is decide if you want an account with a full service brokerage firm, a discount brokerage firm, or both.
The choice depends on the individual. Are you the type of person who wants research reports and advice from the full service broker?
Are you the type of person who knows what you want to buy and just needs the broker to take the order and get it filled?
Or do you want to place a few trades through each and have access to research reports from the full service broker?
The choice is yours.
Remember that a full service broker is going to charge you significantly more than a discount broker. Setting up the account is relatively easy. The firm will send you an application form which is similar to opening up a savings or checking account. Fill out the forms and mail them back with a check. Figure on about one or two weeks for the application to wind its way through the administrative area of the brokerage firm and for them to get back to you with an account number. Once this is done, you can call up and trade stocks.

Jesse Livermore - Trading Rules

Human nature is no different today than it was back in the 1920s and 1930s when Jesse Livermore was a major force on Wall Street. Investors have the same hopes and fears today that they had seventy or eighty years ago. Mr. Livermore saw repeatedly that the opinions of many of his colleagues were frequently wrong, as the market went on its own merry way in a direction contrary to what they had expected.







Few investors have made and lost fortunes to equal those of the legendary Jesse Livermore, a notorious stock market speculator during the first half of the 20th century. He often remarked," Markets are never wrong; opinions are."

In these periods of gyrating markets where it is difficult to know the markets trend, Livermore remarked over 80 years ago:

"Men who can both be right and sit tight are uncommon. I found it one of the hardest things to learn. But it is only after an investor has firmly grasped this that he can make big money. It is literally true that millions come easier to a trader after he knows how to trade than hundreds did in the days of his ignorance."

Reminiscences of a Stock Operator published in 1923 offers timeless wisdom for all investors and traders.
I leave you with some of those tips. Hope they can do for you the same they did for me.

• Never act on tips.
  
• Use a system and don't deviate from it.
  
• Never buy a stock because it has had a big decline from its previous high.
  
• If a stock doesn't act right don't touch it; because, being unable to tell precisely what is wrong, you cannot tell which way it is going. No diagnosis, no prognosis. No prognosis, no profit.
  
• Don't blame the market for your losses.
  
• Never add to a losing position. A losing position means you were wrong.
  
• Stocks are never too high for you to begin buying or too low to begin selling. But after the initial transaction, don't make a second unless the first shows you a profit.
  
• Always sell what shows you a loss and keep what shows you a profit.
  
• Don't argue with the tape. Do not seek to lure the profit back. Quit while the quitting is good--and cheap.
  
• There is only one side to the stock market; and it is not the bull side or the bear side but the right side.
  
• The speculator's chief enemies are always boredom from within.
  
• A man must believe in himself and his judgment if he expects to make a living at this game.
  
• Bulls and bears make money, but pigs get slaughtered.
  
• Use money management at all times.
  
• Establish your trading plan before the markets open.
  
• Detailed your plan for each trade.
  
• Establish entry and exit points and understand risk reward rations.
  
• Accept small losses as part of the game if you want to win.
  
• Trade markets from the short side.
  
• Stand aside from a position, knowing you have taken a position.
  
• Develop a trading plan for each potential situation you may face.
  
• Do not look at quotes during the day.
  
• Do not concentrate on break-even levels when you are losing.
  
• Don't liquidate a winner to keep a loser.
  
• Develop and maintain an exit plan. Follow this plan with rigid discipline.
  
• Sustain your patience. Big movements take time to develop.
  
• Don't be overly curious about the rationale behind a move. The key to wealth in trading is simplicity.
  

The Click or The Trade-o-Maniacs

When the stock market takes a nosedive—as it did recently—so can mental health.

That’s because when you’ve got a panic button, there’s a lot of pressure in knowing when to hit it. And thanks to the advent of online investing, an estimated 4 million people in the United States now have such a button: their mouse.
Financial experts advise most investors to take a cool, calm approach to the market, ignoring short-term ups and downs. But how can you stay calm when you’re watching your stocks fluctuate from minute to minute and the power to buy or sell is only a few clicks away?

Wall Street in Your Face

“People see how their money is melting away, and their emotions run higher,” says Dr. Alexander Elder, a New York psychiatrist and professional trader. “It’s a huge casino for many people.”
Trading from your desktop, via the Internet, is cheaper and more convenient than going through a broker or financial planner. But often the price of that convenience is stress. You’re turning yourself into a trader, a profession notorious for high anxiety.
“It changes it from an investment mentality to a gambling mentality,” says Dr. John Schott, author of Mind Over Money and a leader in the field of investment psychology. People who might otherwise be sensible long-term investors, he says, get caught up in the thrill of life in the fast lane.
To illustrate his point, Schott uses the example of home prices: “What if every day in the newspaper the price of your home was listed? It may go up or down, but it’s meaningless because most people intend to stay in their homes for a long time. It really doesn’t matter what the price is from day to day.”

Think Before You Click

Industry watchers have noted that online investors buy and sell more frequently than investors who use brokers. “People trade just for excitement,” Elder says. “That’s much more conducive to a hyperactive, nonthinking mode of trading.”
On top of the stress of bringing the Wall Street trading floor to your desk, there’s also the loneliness factor. Brokers and financial planners aren’t exactly therapists, but they can serve a similar purpose, especially with the market seesawing like it is now.
But if you’re on your own, says psychologist and financial planner Herbert Froehlich, “You don’t have anybody to comfort you. When the market is declining, you know you’re better off talking with a broker. You get a sense of his or her experience [during other market downturns]. You can’t get that online. You can’t get humanity online.”

Bearing Up

And if things don’t go well, a broker can also ease the pain by becoming your scapegoat.
“Psychologically, we need someone to blame,” Froehlich says. “Online traders have only themselves to blame.”
Sounding very much like a therapist, Schott says it’s important for investors to realize that fear is a normal reaction to market wackiness.
“In a bull market, greed is the most important emotion,” he notes, “and in a bear market, fear is the most important emotion. People who are given to trading quickly will overreact” to their fear.
Psychiatrist-trader Alexander Elder advises Web heads to preserve their mental health by keeping written trading files, plotting out a specific plan of action and making charts of their investments. At the very least, he says, take a deep breath and count to 10 before you click that mouse in a panic.

Adapted from an unknown authour

The New York Stock Exchange

The New York Stock Exchange (NYSE) is the oldest stock exchange in the United States.

http://www.nyse.com

The NYSE uses an agency auction market system which is designed to allow the public to meet the public as much as possible. The majority of volume (approx 88%) occurs with no intervention from the dealer.
Specialists (specs) make markets in stocks and work on the NYSE. The responsibility of a spec is to make a fair and orderly market in the issues assigned to them. They must yield to public orders which means they may not trade for their own account when there are public bids and offers. The spec has an affirmative obligation to eliminate imbalances of supply and demand when they occur. The exchange has strict guidelines for trading depth and continuity that must be observed.
Specs are subject to fines and censures if they fail to perform this function. NYSE specs have large capital requirements and are overseen by Market Surveillance at the NYSE. Specs are required to make a continuous market.

Most academic literature shows NYSE stocks trade better (in tighter ranges, less volatility, less difference in price between trades) when compared with the OTC market (NASDAQ). On the NYSE 93% of trades occur at no change or 1/8 of a point difference. It is counterintuitive that
one spec could make a better market than many market makers (see the article about the NASDAQ). However, the spec operates under an entirely different system. The NYSE system requires exposure of public orders to the auction, the opportunity for price improvement, and to trade ahead of the dealer. The system on the NYSE is very different than NASDAQ and has been shown to create a better market for the stocks listed there.
This is why 90% of US stocks that are eligible for NYSE listing have listed.

A specialist will maintain a narrow spread. Since the NYSE does not post bid/ask information, you need to check out the 1-minute tick to figure out the spread. In other words, you'll need access to a professional's data feed before you can really see the size of the spread. But the structure of the market strongly encourages narrow spreads, so investors shouldn't be overly concerned about this.

There are 1366 NYSE members (i.e., seats). Approximately 450 are specialists working for 38 specialists firms. As of 11/93 there were 2283 common and 597 preferred stocks listed on the NYSE. Each individual spec handles approximately 6 issues. The very big stocks will have a spec devoted solely to them.

Every listed stock has one firm assigned to it on the floor. Most stocks are also listed on regional exchanges in LA, SF, Chi., Phil., and Bos. All NYSE trading (approx 80% of total volume) will occur at that post on the floor of the specialist assigned to it. To become a NYSE spec the normal route is to go to work for a specialist firm as a clerk and eventually to become a broker.

The New York Stock Exchange imposes fairly stringent restrictions on the companies that wish to list their shares on the exchange. Some of the guides used by the NYSE for an original listing of a domestic company are national interest in the company and a minimum of 1.1 million shares
publicly held among not fewer than 2,000 round-lot stockholders. The publicly held common shares should have a minimum aggregate market value of $18 million. The company should have net income in the latest year of over $2.5 million before federal income tax and $2 million in each of the preceding two years. The NYSE also requires that domestic listed companies meet certain criteria with respect to outside directors, audit committee composition, voting rights and related party transactions. A company also pays significant initial and annual fees to be listed on
the NYSE. Initial fees are $36,800 plus a charge per million shares issued. Annual fees are also based on the number of shares issued, subject to a minimum of $16,170 and a maximum of $500,000. For example, a company that issues 4 million shares of common stock would pay over $81,000 to be listed and over $16,000 annually to remain listed.

Adapted from http://invest-faq.com/

The Nasdaq

NASDAQ is an abbreviation for the National Association of Securities Dealers Automated Quotation system.

http://www.nasdaq.com

The NASDAQ market is an interdealer market represented by over 600 securities dealers trading more than 15,000 different issues. These dealers are called market makers (MMs). Unlike the New York Stock Exchange (NYSE), the NASDAQ market does not operate as an auction market. Instead, market makers are expected to compete against each other to post the best quotes (best bid/ask prices).

A NASDAQ level II quote shows all the bid offers, ask offers, size of each offer (size of the market), and the market makers making the offers. The size of the market is simply the number of shares the market maker is prepared to fill at that price. Since about 1985 the average person has had access to level II quotes by way of the Small Order Execution System (SOES) of the NASDAQ.

SOES was implemented by NASDAQ in 1985. Following the 1987 market crash, all market makers were required to use SOES. This system is intended to help the small investor (hence the name) have his or her transactions executed without allowing market makers to take advantage of said small investor. You may see mention of "SOES Bandits" which is slang for people who day-trade stocks on the NASDAQ using the SOES. A SOES bandit tries to scalp profits on the spreads. Visit www.attain.com for more on that topic.

A firm can become a market maker (MM) on NASDAQ by applying. The requirements are relatively small, including certain capital requirements, electronic interfaces, and a willingness to make a two-sided market. You must be there every day. If you don't post continuous bids and offers every day you can be penalized and not allowed to make a market for a month. The best way to become a MM is to go to work for a firm that is a MM. MMs are regulated by the NASD which is overseen by the SEC.

The brokerage firm can handle customer orders either as a broker or as a dealer/principal. When the brokerage acts as a broker, it simply arranges the trade between buyer and seller, and charges a commission for its services. When the brokerage acts as a dealer/principal, it's
either buying or selling from its own account (to or from the customer), or acting as a market maker. The customer is charged either a mark-up or a mark-down, depending on whether they are buying or selling. The brokerage can never charge both a mark-up (or mark-down) and a
commission. Whether acting as a broker or as a dealer/principal, the brokerage is required to disclose its role in the transaction. However dealers/principals are not necessarily required to disclose the amount of the mark-up or mark-down, although most do this automatically on the
confirmation as a matter of policy. Despite its role in the transaction, the firm must be able to display that it made every effort to obtain the best posted price. Whenever there is a question about the execution price of a trade, it is usually best to ask the firm to produce a Time and Sales report, which will allow the customer to compare all execution prices with their own.

In the OTC public almost always meets dealer which means it is nearly impossible to buy on the bid or sell on the ask. The dealers can buy on the bid even though the public is bidding. Despite the requirement of making a market, in the case of MM's there is no one firm who has to take the responsibility if trading is not fair or orderly. During the crash of 1987 the NYSE performed much better than NASDAQ. This was in spite of the fact that some stocks have 30+ MMs. Many OTC firms simply stopped making markets or answering phones until the dust settled.

Academic research has shown that an auction market such as the NYSE results in better trades (in tighter ranges, less volatility, less difference in price between trades). When you compare the multiple market makers on the NASDAQ with the few specialists on the NYSE (see the NYSE article), this is a counterintuitive result. But it is true.

In 1996 the NASDAQ was investigated for various practices. It settled a suit brought against it by the SEC and agreed to change key aspects of how it does business.

Related topics include price improvement, bid and ask, order routing, and the 1996 settlement between the SEC and the NASDAQ. Please see the articles elsewhere in this FAQ about those topics.

Adapted from http://invest-faq.com/

The American Stock Exchange

The American Stock Exchange (AMEX) lists over 700 companies and is the world's second largest auction-marketplace.
Like the NYSE (the largest auction marketplace), the AMEX uses an agency auction market system which is designed to allow the public to meet the public as much as possible.
Regular listing requirements for the AMEX include pre-tax income of $750,000 in the latest fiscal year or 2 of most recent 3 years, a market value of public float of at least $3 million, a minimum price of $3, and a minimum stockholder's equity of $4 million.

You can visit the AMEX home page at http://www.amex.com