Get Rich Carefully

Jim Cramer

📚 GENRE: Business & Finance

📃 PAGES: 448

✅ COMPLETED: November 27, 2021

🧐 RATING: ⭐⭐⭐⭐⭐

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Short Summary

Jim Cramer, the popular Mad Money host, provides insight into the investing strategies that have made him a highly successful trader. Cramer explains the different factors that cause stock prices to move, how to conduct thorough research on companies, why the CEO of a company is critical, and much more.

Key Takeaways

1️⃣ Earnings Drive Stock Prices — Many factors move stock prices, but the most important one is earnings per share (EPS). If a company can beat analyst quarterly EPS expectations, its stock price will jump. If the company falls short of analyst EPS expectations, its stock price will tumble.

2️⃣ Do Your Homework — You should NEVER invest in a stock without first doing thorough research on the company. Preparation is the key to smart wealth building. Company calls, financial statements, and news clips are a few resources you can use to conduct your research.

3️⃣ Look For a Clear Growth Path — You want to invest in companies that have a very real and clear path to growing revenue and net income. Opportunities to expand into new markets, decrease costs, and develop new products are all good signs that point to a high probability of steady growth. You don’t want to invest in companies that have already maximized their growth potential.

Favorite Quote

"Nobody ever got hurt taking a profit."

Book Notes 📑

*Did not take chapter-by chapter notes on this one. Running list below.

  • Quote: “Nobody ever got hurt taking a profit.”
    • If the company’s fundamentals or story changes, don’t be afraid to sell and take your profit.
    • Holding out for a bigger gain in an awful and deteriorating situation is just stupid.
      • Cut your gains and losses when the company changes for the negative.
      • Ex. Alibaba?
  • Key Thought: Bulls make money, bears make money, pigs get slaughtered.
  • Wealth creation is about preparation. You do the homework, you don’t break discipline, and you keep mistakes to a minimum. 
  • The days of investing in blue chip stocks and assuming you’ll come out ahead are gone.
    • There are too many crooked people and technology/machine capabilities out there. 
    • These factors can drop any stock at any time. You have to be careful and do your homework — that’s the theme of this book. 
    • You also have to be willing to sell at any time. To some degree, the days of buy and hold forever are gone. 
  • The biggest boost of a stock is how the company beats the earnings (EPS) estimates by.
  • Mergers are great if you own the small cap company that gets bought up by a larger one.
    • The acquisition instantly boosts earnings for the small company. The bigger company can help lower costs with its vast resources, which improves earnings. 
    • Mergers and acquisitions are a key way that companies grow in today’s highly competitive environment. Growing revenue is hard today. Acquiring other companies helps tremendously. 
  • Mergers are usually great for both companies. The stock prices jump for both.
    • For the acquiring company, it will receive increased market share and access to new products.
    • For the company being acquired, earnings are boosted and costs are reduced under the management of the bigger company. 
    • Typically, the stock price of both the acquiring company and the company being acquired jump on the news of a possible merge. The stock price then jumps again once the deal is closed.
      • This is because of the increase in earnings, market share, reduced costs, etc that is in play with an acquisition. Analysts also boost earnings expectations after a merger, which is seen as a good thing and helps the stock prices jump.
    • By purchasing a competitor, the acquiring company can take out one of their rivals, increase market share, get access to new locations and profits, and potentially raise prices.
      • Ex. The rental car industry. It used to be highly competitive with many companies competing and keeping prices low. But in the last decade, the industry has had a lot of mergers and acquisitions. Hertz, Avis, and Enterprise are the only three left after the consolidation activity. It’s an oligopoly now and the three companies have raised prices. 
      • Ex. Disney — This theme park company acquired Pixar in 2006, Marvel in 2009, and LucasFilms in 2012. It now uses these in its Disney+ streaming business and makes bank from the movies and merchandise generated by these companies. These characters have such a loyal following that a “bomb” at the box office if very unlikely.
  • Many “macro” and “micro” news events around the world can influence a stock’s price on any given day, but the fundamental reason that a stock goes up or down is due to supply and demand.
    • When there are more buyers than sellers in the market for a stock, the price goes up.
    • When there are more sellers than buyers in the market for a stock, the price goes down. 
    • This is why institutional buyers and sellers (like mutual funds, hedge funds) can influence a stock price a lot by placing huge buy or sell orders.
      • This is why limit orders are very useful — they protect you from big random price movements caused by institutional buyers and sellers.
    • Index Futures and ETFs/Sector ETFs also play a big role in an individual stock’s movement because large institutional money managers use these aggressively.
      • Ex. Your individual stock might drop in price considerably just because a large money manager sold a ton of shares of a sector ETF that your stock is included in.
  • Factors that move a stock’s price in the short-term:
    • Supply and demand
    • Index fund futures
    • Sector ETFs
    • The bond market/interest rates
    • The economies of foreign countries, like China and Europe
  • The fundamentals of a company have become less important when it comes to short-term price movements due to the factors listed above, but they remain the best way to analyze a company for a long-term investment. 
  • Earnings drive stock prices!
    • Four times per year = quarterly earnings reports. 
    • Big price movements can occur based on if the company’s earnings fell short or exceeded expectations by analysts.
  • Index Futures
    • These are contracts where you can bet on the general movement of stocks. If you think stocks are going to go up, you can buy a future contract that lets you buy the index at a certain price. If stocks go up and the index goes above that price, you get the index at a discount. 
    • You can also short index futures and profit by stocks going down.
    • Futures are a gamble — a bet on the direction of stocks.
    • Unlike commodity futures (like wheat or beans), settlement is in cash and no stocks are exchanged.
      • With commodity futures, you have to actually deliver the crop. 
      • Farmers use these to hedge against a drought or some unexpected occurrence. Futures allow them to lock in a selling or buying price. 
    • Futures became really popular among big institutions in the 1980s. They were used as portfolio insurance and aggressive use of them (specifically shorting them) was THE BIGGEST FACTOR in the 508-point single day decline in October of 1987, the worst decline ever.
    • If you own a stock that is in the S&P 500, you have to understand that severe price movements might happen simply due to the buying/selling of index futures contracts by large institutions. Futures are still highly used for hedging.
      • Quote (P. 22): “The futures are so powerful in their influence over individual stocks that a stock you own might get a real beat down as part of an S&P futures sell off, even on a day with a good earnings report.”
  • The S&P 500 is considered the best representation of stocks since it was introduced in 1923.
    • It’s the index portfolio managers compare their returns to in order to determine if they are successful or not.
    • You can trade futures on this index.
  • Sector ETFs — You can use these to your advantage.
    • If a company you own is in one of these, it can play a tremendous role in an individual stock’s performance.
    • As much as 50-75% of a stock’s short-term movement has been attributed to these.
    • There’s a sector ETF for just about anything — banks, pharmaceuticals, gold miners, airlines, etc. 
    • You can use Leveraged ETFs to make even more money on an ETF’s movements.
      • Discussed in Series 7 training. 
    • Sector ETFs have allowed big institutions to neglect individual stock-picking. They either don’t want to differentiate and select the best individual stocks in the sector, or they are too lazy to do it. So they aggressively buy the index. This can mean that terrible companies in a sector have a similar market price to much better companies in the same sector.
      • Ex. OIH — oil sector ETF. The individual stocks in this ETF perform about the same despite some companies being far worse than others. This is because this ETF is bought and sold aggressively by large institutions so it almost doesn’t even matter how good or bad the individual companies on the sector are.
    • You can use sector ETFs to your advantage in the short term by buying good companies at good prices simply because their prices went down due to high ETF selling. Then sell them when the ETF buying increases. 
    • XLF = Banking ETF
  • To summarize the above, S&P 500 index futures and ETFs have become so prominently used and abused among big institutional money managers that the prices of individual stocks within them are being manipulated in the short term for no actual business reason.
    • You can profit off of this in the short-term by buying good companies at good prices due to ETF and futures sell-offs and later selling them when the institutions decide to buy more of the ETF, which will drive the price of all individual stocks in the ETF up. 
    • Because of all this, a company’s actual fundamentals don’t really make much of an impact on a company’s share price IN THE SHORT TERM. Over the LONG TERM, the fundamentals are very important. 
  • Bonds
    • Also have a big impact on the price movements of stocks. They act like bullies to stocks. 
    • The bond market is FAR BIGGER than the stock market in dollar amount. 
    • Think of the competition for your investing money as a grocery store. Stocks are one of the aisles. Most of the aisles are bonds because there are far more of them.
    • Bonds are debt instruments that offer fixed income in the form of interest — paid semiannually — backed up by the issuing entity.
      • The federal government is the largest issuer — our national debt is in the trillions. 
      • If the issuer doesn’t pay the bond holders, they lose the assets backing it. The bond holders can then sell the assets.
        • Ex. Corporations would lose their assets to the bond holders if they default on their bonds.
        • The federal gov. is the only one that can’t be taken over by bond holders. Instead, they offer a “full faith and credit guarantee” that backs the bonds. 
    • For much of the 2000s, the FED has bought bonds in large quantities to ignite the economy.
      • The FED buys bonds from banks, which gives the banks more money to lend, which allows them to lower interest rates to consumers to borrow money, which leads to people having more money to spend in the economy.
      • Corporations also benefit from these low interest rates from banks because they are able to borrow money (debt) cheaper and then use it to buy back their shares, which reduces the supply of shares in the market and therefore drives up market price for existing shareholders. They’ve also been able to borrow more money to pay out higher dividends to shareholders.
        • Corporations also benefit from reductions in “interest expenses” on the income statement because interest rates are lower and they therefore pay less in interest each year. This directly increases the bottom line (net income). 
    • The United States T-Note or T-Bond is the standard yield that all other bonds in the market are based on.
      • That’s because these bonds are guaranteed by the US gov. Bonds offered by other entities do not have this guarantee and therefore must offer a higher coupon to make up for the additional risk. 
      • However, because the FED keeps buying bonds/debt and therefore keeps interest rates low, the yield on the Treasury Bonds (and therefore all bonds) is lower than normal. This is why stocks are considered so much better than bonds right now. Yields are low.
        • If the FED sometime down the road stops buying bonds/debt and therefore RAISES interest rates, stocks will suffer. This is because bonds will then have a better yield and people in the market will prefer the guaranteed yield over the uncertainty of stocks. Right now, bond yields are so horrible that people would rather be in stocks. If interest rates/bond yields rise in the future, bonds will become more competitive and stocks will decline.
        • Interest rates go up, stocks go down 
  • The FED has two jobs:
      1. Get a struggling economy moving by increasing bond buying and therefore lowering interest rates. This encourages consumer spending. 
      2. Cool off a hot economy and INFLATION by reducing bond buying and therefore increasing interest rates. This discourages consumer spending. 
  • The FED’s moves have always had a real impact on the pace of economic growth, which then affects the sales and profits of the companies we invest in. 
    • When interest rates rise, it’s more expensive for companies to borrow. Interest expense on the income statement goes up, which reduces net income. 
    • When interest rates rise, companies simply can’t make as much money. Earnings go down. Stock price comes down.
      • Plus, customers don’t want to borrow money with higher interest rates, meaning they are more selective in what they buy. A company’s sales are affected by this. 
  • Understanding how bonds and interest rates affect stocks is critical to being a good investor.
    • To monitor whether interest rates are climbing or falling, watch the TLT — the iShares 20+ Year Treasury ETF.
      • This ETF goes down in price when interest rates go up and vice versus. 
      • It tracks the 20-year T-Bond.
      • When the TLT goes down, stock index futures go down right after because stock index futures react to every minute of this security.
      • By following TLT, you will know when ETFs and futures are being sold, and this drives down prices of individual companies that are involved so you can pick them up at discounts. 
  • Europe and China have a big impact on how stocks perform in the US.
  • Company Fundamentals
    • The most important fundamental — the company’s growth rate.
      • How fast are the company’s sales and earnings growing?
      • Quote (P. 42): “The ability for a company to generate earnings and sales in excess of analyst expectations remains the biggest factor in determining if the stock is going up or down in the near and longer term.”
      • You want companies that are growing faster than all other companies, especially those in the same sector.
    • An analyst’s job is to look at a company and determine what its earnings will be based on a number of different things.
      • Analogy: They are the judges at an Olympic Diving Competition.
      • If a company can beat consensus expectations, stock price jumps. If it falls short, a sell-off occurs. 
      • Always factor in the analyst expectations when valuing a company. Compare the future outlook of the company to expectations.
      • Future outlook is the most important factor to consider and is usually given in the 10-Q, but is much more in-depth in the conference call before the Q&A session. 
    • Future outlook — we want to hear forecasts, especially the gross margin forecast.
      • Gross Margin is found by subtracting COGS from Sales and then dividing it back into sales to get a %.
      • “Gross margin guidance increased” and “Beat estimates and raised guidance for future quarters” — you want to hear these things.
        • Find the “beat and raise” stocks and buy them when they go down in price.
  • Cyclical Stocks — stocks of companies that need and depend on economic growth to perform well.
    • Industrials, airlines, car makers, etc.
    • Industrials — these are companies that make things like steel, heavy equipment, stuff like that. When the economy is booming, big companies place orders for these things to expand their business and grow. Therefore, these industrials thrive. This is especially true because big institutional money managers are always looking for stocks that can beat analyst expectations and therefore get a big price jump. This is partly why the price of industrial stocks goes up a lot in a booming economy — big money managers buy these stocks, which drives up the price. 
  • As a stock picker, you have two jobs initially:
    1. Form an outlook on growth
      • Is the economy thriving or not? At what rate is it growing?
    2. Pick stocks to fit that outlook
      • 4% growth — Cyclicals — Caterpillar, Timken, Alcoa
      • 2-3% growth — Growth or “Chicken” Cyclicals — 3M, Honeywell
        • These companies are too “chicken” to be a complete industrial stock. They have sections of the business that are steady performers regardless of the economy.
      • 2% growth — Discretionary Stocks — Starbucks, Panera Bread, Chipotle
        • Slow economy but people still willing to spend discretionary income on these things
      • 1% growth — Staple Stocks — General Mills, Pepsi, Coke, Walmart 
      • No growth or decline — Purely Defensive Stocks — Oil, utilities, REITs
      • If economy is booming, lean towards cyclicals. If economy is stalling, find “growth” stocks that perform well regardless of the economy (packaged goods, Netflix, Amazon, etc.)
      • Good stock picking revolves around finding companies that can do better and grow faster than expected, based on the state of the economy.
  • Take a top down approach to analyzing stocks:
    • Macro — World and domestic economy growth rates
    • Sector — Sector growth rate
    • Micro — Company growth rate in sales and revenue
    • Try to approximate the growth rate of each one. You want companies that are in high performing sectors and are growing better than competitors. 
  • Macro Analysis
    • Company conference calls are the best place to get a good judgement of the world and domestic economy growth rates.
    • Leaders of these companies have a lot to lose. They put a lot of research into the world and domestic economies. You can trust their information.
    • Additionally, analysts are on the call and ask hard-hitting questions that lead to a lot of great information from the CEO.
    • Find these conference calls on the company website. 
    • The quarterly conference call from Caterpillar is Cramer’s No. 1 source to acquire a good worldview.
      • This company makes big equipment for America and many other key countries. It is a great evaluator of the world economy. 
      • Insights in CAT’s call:
        • Interest rates. It sells a lot of equipment on credit so it has a good gauge of interest rates.
        • Chinese economy. 
        • Steel demand
        • Truck orders
        • Sales. Companies need CAT equipment to grow and expand. If there’s a lot of sales, economy is doing well.
    • Steel demand is a good indicator of the world economy. If there’s a lot of steel demand, businesses are putting in more orders for it because they are growing. This means the economy is thriving and will continue to.
      • Caterpillar’s conference call gives good info on steel demand.
    • Alcoa is another great conference call to listen to. Delivered by CEO Klaus Kleinfeld, a master of aluminum trade.
      • Aluminum is needed for many worldwide growth projects. Alcoa delivers a great report on aluminum.
      • Aluminum use is down = slow economy. 
    • General Electric, Honeywell, 3M are also good calls to listen to. 
    • Commercial real estate is a great predictor of the worldwide growth.
      • Building homes takes huge amounts of labor and materials.
    • Union Pacific call gives a lot of good information on the health of the domestic economy. 
  • Sector Analysis
    • Locate sectors that are growing and improving. You’d rather invest in companies in these sectors vs those in declining or stagnant sectors.
    • Disney has a great call for consumer spending in the US.
      • Call goes over consumer spending in travel, merchandise, theme parks, cruises, and movies. 
    • Toll Brothers and Home Depot are great calls for the housing industry.
      • Home Depot provides a lot of great data on the demand for appliances, paint, kitchens, baths, and flooring so you can pick up stocks like Whirlpool, Lumber Liquidators, Weyerhaeser, Black and Decker, Sherwin-Williams, and others. 
    • Retail Sector — VF Corporation and PVH conference calls.
      • These calls go over sales at retail stores. These two companies supply retail stores with much of their merchandise. 
      • If sales get slow with these two, retail stores are struggling. Consider picking up TJX Companies or Ross Stores as these two will buy the leftover merchandise and sell to customers on the cheap. Customers like that, meaning these stocks will do well.
    • Technology Sector — Avnet call
      • Avnet provides information on hardware and software sales
      • Avnet sells tech supplies
      • Western Digital, Seafarers Technology, SanDisk are some of the stocks that do well when demand for these parts is high.
    • Banking and Finance Sector — JP Morgan call
      • CEO Jamie Dimon gives a great background on everything and shows how JPM is stacking up.
      • Compare any bank you might invest in with what is being said in this call.
      • Dimon’s annual shareholder letter is also must-read.
    • Auto Industry — Ford Motor Company call
    • Consumer Packaged Goods — Proctor & Gamble call
    • Oil and Gas — Schlumberger call
      • Great resource to also simply learn more about this industry in general.
    • Agriculture Sector — Deere 
    • Listening to these calls will give you a good view on every sector and the world and domestic economies. 
      • Then we can move on to looking at individual companies.

The 10-Point Test for Analyzing Growth Stocks

  1. Is there potential for multiyear growth that we can put a value on, a clear growth path that provides long-term visibility with multiple revenue streams?
    • Most important one.
    • Looking for multiple ways of generating revenue.
    • Looking for potential for expansion around the country and/or globe. 
    • Always remember this when it comes to retail stores (like Starbucks, for example) — Same-store sales is the key metric. You want to see this number improving each year.
    • Amazon, Google, Starbucks are good examples of this first point. 
      • Starbucks has infiltrated China successfully, unlocking millions more consumers.
    • China is where a company can really add serious damage to the top (sales/revenue) and bottom (net income) lines. 
    • You want to see growth and expansion into new markets AND new, exciting products being offered that can help the company make revenue.
  2. Is the total addressable market (TAM) big enough for the company to sustain its growth? 
    • You want the company to have a huge, popular market/audience to serve.
    • Ex. Starbucks — Ready-to-drink coffee market is $60 billion in US alone. The at-home (K-Cups) coffee market is a $50 billion. That’s a lot of people to serve. 
    • You want the dominate player in the market that can serve a big TAM. 
  3. Can the company stay competitive? 
    • Are there competitor companies that pose threats? Or is the company the definite leader in the industry? 
    • You want to invest in companies that are always looking to innovate and improve. This allows them to stay ahead of the competition.
      • Ex. Best Buy got lazy and allowed Netflix to put them out of business. 
    • Remember — no company stays on top forever.
      • IBM was once a juggernaut and has since been passed up by Microsoft and others. 
  4. Can the company return capital over time via dividends or share buybacks? Or is the company planning to continue to pile money into the business to get consistent and accelerated revenue growth? 
    • There are plenty of ways to give back to shareholders:
      • Dividend
      • Stock split
      • Merger/Acquisition 
      • Share buybacks
    • The company can also choose not to do these and pour Retained Earnings back into the company to continue its growth by expanding its business into new markets, investing in new products, etc. 
    • Remember, dividends are taxed twice (at the company level and individual level). I personally prefer the company to buy back shares (at a good market price) to improve EPS, reduce share supply, and drive up the market price. I also like the idea of the company using its Retained Earnings to continue its growth. 
  5. Can the company expand internationally? 
    • Can the company infiltrate, and compete in, international countries? We want companies that can. Especially in China.
      • Ex. Starbucks has successfully entered and thrived in China. 
  6. Can the balance sheet support strong growth?
    • You want companies that have a lot of cash and little debt on the balance sheet.
    • Cash is king and is the lifeblood of the business. 
  7. Is the stock expensive on the out years? 
    • Check out forward P/E number
  8. Does the company have the right management? 
    • You want companies that have excellent management that makes good decisions and pioneers growth.
      • Bezos — Amazon
      • Schultz — Starbucks
  9. Does the company need macro growth to meet the numbers? 
    • You want companies that can still do well in hard world economic times.
    • We don’t want companies that NEED the world economy to be thriving for them to also thrive. We want companies that can generate profits regardless.
      • I.E. Not cyclicals. 
  10. Can the company maintain or grow its margins? 
    • Looking for companies that can increase revenue/sales and decrease COGS and operating expenses.
    • The result is improved gross margin and operating margin.
  • Oil is on the rise in the U.S.
    • Our need for imported oil has reduced drastically in the last decade or two.
      • The U.S. actually has so much of it now that we export 2 million barrels of refined gasoline per day.
    • A lot of this is due to hydraulic fracturing — or fracking — which involves using technology to bust up oil formations that had been left for dead or were too expensive to extract from before recent technology enhanced our ability to map and drill for oil.
    • Fracking has allowed us to drill into oil shales that we knew were there but were not worth drilling in before the world price of oil went sky high. 
      • This fracking technology has brought drilling costs way lower.
    • Big profits are now being made in oil because the price of oil worldwide is much higher than the costs to drill for and extract it.
      • London sets the price for oil.
        • Fall 2021 — $81 per barrel. 
      • Natural gas isn’t as profitable because we have a ton of it worldwide, which keeps the price down. Oil is more limited worldwide. 
    • The Bakken oil field in North Dakota is considered one of the biggest oil finds since Alaska’s Prudhoe Bay in the 1960s. 
      • Eagle Ford in Texas is also big. 
      • EOG Resources is drilling in both locations. Cramer’s top pick for an oil company.
    • Oil is the foundation of the 21st Century economy. 
      • Most companies need oil to do business. When oil prices are extremely high, the cost of doing business goes up and margins shrink. Net income is negatively affected due to the higher costs.
        • The airlines suffer a lot because their primary cost is fuel. When oil prices are high, fuel cost is high, which directly eats at the bottom line.
    • Big funds/money managers are refusing to invest in oil stocks due to the rapid rise of ESG investing. Clients don’t want to be invested in companies that cause environmental damage by pumping oil.
      • Because of this, oil stocks are probably not a great play. 

7 Trends to Invest In

  1. New Tech 
    • Technology that embraces cloud, mobile, and social is the future. Invest in these companies.
    • Best companies in this area:
      • Amazon
      • Google
      • Sales Force
      • Facebook
  2. Wellness and Health
    • People are interested in looking and feeling younger. Organic and healthy foods are on the rise. 
    • Best companies in this area:
      • Chipotle
      • Whole Foods
      • Hain Celestial 
  3. Discounts and Deals
    • People are looking for deals and discounts more than ever. They want bargains that will save them money.
    • Best companies in this area:
      • Costco
      • TJX
      • Cedar Fair
      • Priceline 
  4. Increased Mergers and Acquisitions
    • It’s hard to grow revenue and earnings consistently these days. It’s a low growth world. One way companies have been able to boost growth (and stock price) is by merging with or acquiring competitors to increase market share, lower costs, and gain access to new markets and products.
  5. Stealth Technology
    • Traditional technology stocks (like computers) are on the out. You want companies that embrace innovation and use technology to create unique businesses. 
    • Best companies in this area:
      • DuPont
      • Under Armour
      • Colgate
  6. The Rise of Biotech 
    • Biotech has replaced big pharma for growth and consistent profits.
    • Best companies in this area:
      • Celgene 
      • Gilead 
      • Regeneron 
  7. Oil and Gas Revolution 
    • Oil and gas is thriving in the U.S. with the rise of fracking and new oil mapping/drilling technology. You want companies in this area. 
    • Best companies in this area:
      • EOG
      • Schlumberger 
      • Pioneer Natural
      • Core Labs
  • Enterprise Value
    • Market Cap + All Debt on Balance Sheet – Cash
    • This is used to value a company in a takeover or acquisition scenario. It’s what the acquirer would have to pay to get the business.
  • Similar to how growth can be achieved through a merger or acquisition, a company can also benefit by separating its parts.
    • There are some large companies that have many unrelated businesses under their roof. Sometimes these companies can be undervalued by analysts — and therefore the market — because the analyst doesn’t fully understand all of the different businesses.
      • Normally, analysts are assigned to companies based on the analyst’s specialization. If the company assigned to the analyst also has other unrelated businesses, the analyst may not understand everything clearly, resulting in lower estimates and ratings for the company. 
    • Some companies with multiple unrelated businesses under the same roof also suffer from lower overall earnings because one of the divisions might underperform. This is why breaking them into separate tradable companies can be beneficial. 
    • Ex. Phillip Morris successfully separated its pieces into Kraft (food business), Altria (domestic tobacco business), and Phillip Morris International (international tobacco business)
      • Separating these three divisions into their own tradable companies allowed each to be valued on their own, which ultimately led to more market value for Phillip Morris and its shareholders.

The CEO Matters

  • Focus on the jockey, not the horse.
    • The CEO is CRITICAL to a company’s success. 
    • The CEO is a difference maker.
  • The CEO plays the biggest role in determining revenue and earnings growth. 
    • Responsible for the vision, priorities, decisions, and performance of the company.
  • Place your bets with excellent CEOs.
    • Previous record and character matter! You need to investigate the CEO of companies you invest in.
  • An excellent CEO can come in and completely transform a company that was on the brink of extinction. 
  • When it comes to restaurant companies, you want ones that franchise their restaurants, rather than own them and operate them.
    • When a restaurant is franchised, the responsibility to pay for costs related to that restaurant are on the franchise owner, not the company.
      • Ex. Buffalo Wild Wings. If the costs of wings go up worldwide, it won’t really affect the company too much because the franchise owners would have to deal with that. If BDubs owned and operated all of its stores, rising wing costs would negatively affect the company’s COGS, margins, and, ultimately, the bottom line (net income).
  • Fuel costs are the largest costs for airlines.
    • 40-50% of an airlines cost is fuel, depending on oil prices.
      • Therefore oil prices have a big impact on airline companies.
    • Boeing planes use 20% less fuel than competitors because of the efficiencies of the plane.
  • Random Fact: Mountain Dew is the top selling soda at convenience stores in the US and India.

Technical Analysis 📈

  • It’s not good to make buy and sell decisions solely on charting, but technical trading can be useful when paired with fundamental analysis. 
  • Technical Trading — Examining the pictures of stock movements over different periods of time to identify lows, highs, breakouts, and breakdowns.
    • It involves trying to predict the movement of a stock based on patterns its charts are showing. 
    • Used for “timing”. Used to time the buying and selling of stocks.
  • A stock that breaksout or breaksdown is on the verge of a big run.
  • When used correctly, technical trading can be a useful way to pick good entry points on buying a stock that you’ve researched and done the needed fundamental homework on.
  • Look at the charts over a 20-day, 50-day, and 200-day time period. 
    • These time periods are best for spotting trends.
    • Look for potential breakouts or breakdowns. 
  • Chartists rely on volume spikes to detect what might be going on with a stock. 
  • To confirm a rally, you need to look at the charts of the financial, tech, and retail sectors. These sectors/companies make up a large percentage of the S&P 500.
    • XLF = Financial ETF
    • RTH = Retail ETF
    • If a rally is going on and these sectors are ALSO RALLYING, good things are going on. If not, be skeptical.
      • Leading up to the 2008 recession, these sectors were not rallying, but the overall market was. So less important stocks were rallying and making a big push, but the important sectors of tech, retail, and finance were not participating in that rally. The recession quickly followed.
    • The financial companies (banks) make up 17% of the S&P 500 index, the largest group in the market.
      • These companies have the ability to send the market up or down significantly. They have major influence.
  • Breadth of the Market — Look at THE NUMBER of stocks advancing versus THE NUMBER of stocks declining within an average, like the S&P 500. 
    • More stocks are advancing vs declining = Good
    • More stocks declining than advancing = Bad
  • High-Low — Look at the number of stocks hitting new highs vs the number of stocks hitting new lows.
    • More stocks hitting new highs / increasing number of stocks hitting new highs = Good
    • More stocks hitting new lows / declining number of stocks hitting new highs = Bad
  • Think of a stock as a house. The floor is the stock’s floor and the ceiling is the stock’s ceiling. When a stock breaks through the floor or the ceiling, it usually goes on a good run in that direction. If it breaks through the ceiling, it will go on a nice run and establish another floor above the first house. These floors act as launching pads for the stock to go to the next ceiling and establish new highs.
  • When a stock is declining, look at volume. If volume is much higher than usual, it’s a sign that the sellers have exhausted themselves and there are a group of buyers that are providing resistance. 
    • This is when you buy. Because volume is high and yet the stock is not declining anymore. This is likely the farthest the stock is going to drop when it is declining.
    • When sellers are overwhelming buyers, no floor can be established. It will just keep falling. 
  • Resistance — Where a group of sellers sell as the stock is moving up. It’s the ceiling.
    • When a stock breaks through this resistance, it goes on a run and establishes a new (higher) floor. 
  • Support — Where a group of buyers buy as the stock is moving down. It’s the floor. 
    • When a stock breaks through this support, it goes on a run downwards. 
  • Moving Average — Formed by taking the closing prices of a stock over a period of time, adding those prices up and then dividing those prices by the days of that particular period. 
    • Ex. 200-day moving average. Take the closing prices from the past 200 days, add them up, and divide the sum by 200. Plot the point.
      • Then take the next day’s closing price and repeat the same process, removing the chain’s very first day’s closing price. Add them up and divide the sum by 200. Plot the point. 
      • Continue this process for 200 days. 
  • Head and Shoulders Pattern
    • The scariest pattern in charting
      • Occurs when a stock rallies, declines, rallies, declines, rallies, and declines big. 
      • Creates a left shoulder, head, and right shoulder appearance on the chart.
      • When this happens, usually big investors know something that the market doesn’t. Use this pattern as a sign to get out.
    • The neckline is the key — if the stock breaks through the neckline, it should go on a big drop.
      • The neckline is the line that connects the two low shoulders.
  • Reverse Head and Shoulders Pattern
    • This is one thing you want to see in a chart.
      • The stock creates this appearance after declining, rallying, declining even more, rallying, declining, and then going on a big rally. 
      • If you see this, it’s a sign to buy the stock.
    • The neckline is the key — if the stock breaks through the neckline, it should go on a big run.
      • The neckline is the line that connects the two high shoulders.
  • Earnings (EPS) is the most important metric to look at, not revenue. Although, revenue is still a key metric. 
    • Unless you’re looking at oil companies. Production growth is more important than EPS with oil.
  • Core Holdings are Franchise Players — don’t sell them unless the fundamentals of the company turn bad.
    • For me, Apple, Microsoft, Google
  • When you open a position on a stock, buy in stages or increments. Start with an initial position. Then, buy more if it drops below your cost basis.
    • NEVER compromise your cost basis. Only buy more of the stock if it falls below your basis. Don’t chase a stock. 
    • Only buy above your basis if something big has happened at the company and the stock didn’t really move.
  • Companies that ONLY cut costs to improve earnings are not good. 
    • Cutting costs is great, but there should also be a defined path to growing revenue/increasing sales. 
    • If both are happening, buy stock because earnings will be going up, which means analyst estimates will later go up as well.
  • When insiders of the company buy, that’s a great sign. 
    • It means they believe in the company, they think the stock is a bargain, and are willing to add it to their own portfolio. 
    • Insider buying by the CEO and CFO is the most impactful. If they are buying, it’s a great sign.
    • Look for purchases of at least 10,000 shares or $100,000 cash. Anything less is not meaningful. 
    • Only be concerned if an insider is selling ALL of his stock in the company. 
      • Small sells are not meaningful. They could be selling for tax reasons or estate planning. 
  • The Monthly Labor Report is a really important document. It comes out on the first Friday of every month at 8:30 am.
    • You want to look at non-farm numbers.
    • The market tends to react strongly, in both ways, to this report.
      • If the percentage of unemployed people is better than expected, the market jumps.
      • If the percentage of unemployed is worse than expected, the market falls a lot.
    • The sheer number of hires number is just as important, if not more important. 
  • One good way to analyze a stock: Look at growth rate and P/E in comparison to the average of the S&P 500.
    • If the company you are analyzing is growing at a greater rate than the companies in the S&P 500 AND it is trading at a lower P/E than the companies in the S&P 500, it is likely to be a good buy. 
      • This combination means the company is growing faster than than the average S&P 500 company and it is trading at a cheaper price than the average S&P 500 company.
  • Reasons banks are so influential:
      1. They lend credit to businesses.
      • Businesses need credit to fuel operations and grow and expand. 
      1. They lend money to people for houses.
      • Normal people need credit to buy houses. Housing is such a critical driver of our economy.
      • If banks are being stingy about lending, it can cause problems in our economy. 
  • With retail companies, same-store sales year-over-year is THE KEY figure to look at.
    • Retailers: Clothing stores, restaurants, etc.
    • Do not invest in a retail company with three straight months of negative same-store comparable sales.
    • Overall growth isn’t important because the company could have just opened more stores to improve that number. You want to know how each individual store is growing.
    • Negative numbers = too much inventory. This leads to having to discount prices. This leads to employee layoffs and having to unload the inventory at super low prices. 
  • Be careful investing in a company that is reliant on a commodity
    • Commodity: Oil, aluminum, corn, etc.
    • Ex. Alcoa. 
      • Alcoa had been included in the Dow Jones for 40 years but was kicked out during The Great Recession after reporting terrible earnings. The stock went from the $40s to the low single digits. 
      • Alcoa produces aluminum that is used to build cars, planes, commercial buildings, real estate, etc. 
      • During The Great Recession, the demand for aluminum went way down because people weren’t buying cars, businesses weren’t buying planes and constructing commercial buildings, and landscapers weren’t building houses. Supply was still very high because aluminum was still being produced by companies like Alcoa, and China was producing a ton. They are the top producer of aluminum. 
      • The result of low demand and high supply is a serious price drop. Aluminum dropped a ton in price, meaning companies like Alcoa took big hits to their earnings. Alcoa did a great job cutting costs all over the place, but it still was not enough. Earnings suffered.
      • All of these events led to earnings falling and, ultimately, the stock of Alcoa falling hard. Analysts reduced earnings expectations and downgraded the stock.
    • Lesson: Be very careful investing in companies that are so tied to the value of a commodity. The price of that commodity has a significant impact on earnings.

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