How I Trade Stocks For a Living -- [Chapter 2]

The often excited and sometimes obnoxious bald man we see daily on
Madmoney generated an average of 30% returns in his 10 year tenure as a
hedge fund manager of Cramer & Berkowitz from the early 1990's to 2000. 
Even though he was riding the biggest technology bull market, 30% average
for ten years managing millions of dollars is quite awesome.  Whether he
could beat Warren Buffet over 40 years remains to be seen, but my guess is
he probably won't.  However, he was smart enough to close his fund before
the bull market imploded.
Despite his constant "flip-flopping" of his stock recommendations on
television and on his site, the man is still on top of his
game.   You can still see him in action on his ActionsPlus Premium Service
on his website  Through all the times we've seen him on
television, we see that he has had many successful stock recommendations
as well as many dismal failures.  But what most viewers or listeners seem to
miss is that Jim Cramer isn't really about stock picking than he is about
teaching his concept of "Trading Around A Core Position".  Basically, you sell
some shares on the way up and buy back or add some shares on the way
down.  On one of his shows, he had explained it in detail:
"We are talking about all the little tricks I use to find you opportunities. To pick stocks, to know when to sell- all the methods that made me a great money manager. Yes…I was considered that. That helps me put together this show every night so that I can try to help you make some money. Today I am trying to transcend that model because I want to teach you how to do what I do for yourself. I am not always here. So far we’ve focused on picking stocks. Now I want to teach you about a way to trade stocks. Trading is not a sin despite what the grey beards tell you. Trading is a defensive way to make money. It is not for the
yahoos and crazies and the fast-buck guys and the day guys. It’s a defensive way to keep your profits. The way I do it is called trading around a core position. And it works best in volatile markets. But it’s a discipline that you can use at any time.
I know the rap on me- at least among the Cramer haters. It’s that I am all about trading- fast buck… that I don’t have advice for regular investors, that I am all short-term…that you can’t do what I do and make you money- matter of fact I’ll lose you money. That’s entirely untrue. The show is mostly about long term investing, not trading. However, to put aside whatever little humility I have left…I will admit that I was, and remain a great trader.
Although, of course now I can only trade for the charitable trust…
I can teach you some of this. And the first step is to learn how to trade what is know as a core position. So what does that mean? Let’s go over it step by step. First you need a stock. Pick one that you really like, not one that you’re into because you felt like you had to have something diversified. Pick something you really like that you’ve got an opinion about, one you are biased about. Find a stock you believe will be going higher over the long term… What you’re really looking for here is a great company that could get tossed around by market volatility- some strange things happening in China…something happening in the Middle East. But it will go higher and recover if you’re patient. If you’re just investing then you would set up a position in this stock, buying in increments because we all know that
buying at once is arrogance…you buy a 100 shares three times over the course of a couple of weeks and that would be your core position. But let’s say you want to trade to be defensive as the stock goes up. A lot of people want to, but they feel discouraged because they remember how all the amateur day traders got crushed when the bubble burst…
You can make money trading if it’s done right. In the old days when commissions were higher that just wasn’t true. The commissions would eat into your profits and it just wasn’t worthwhile trading. But that hasn’t been the case for ages ever since commissions came down. Remember, they are one tenth of the commissions that I used to charge when I was at Goldman Sachs in the 80’s. Now, let’s come back to the notion of our core position. We have [bought] slowly, not at once…300 shares of a stock. Let’s say it’s a $100 stock, just to make things easy. Every time the stock jumps three points you can sell 50 shares- again this is just an example. You shave a little off to bring in some profits. Then you wait until
something happens…as long as it doesn’t hurt the fundamental outlook of the company you own. As the stock comes down you buy it back in increments. Since we started with 300 shares, let’s use increments of 50 to buy it back. Remember, there’s no penalty on commissions… Now 50 shares might appear to be small potato- up 3% sell 50 shares, down
3% buy 50 shares, up 3% sell them again. But over time those profits add up hugely. It is how I consistently outperformed everybody else on Wall Street… A lot of people think trading is incredibly exciting, and it can be. But if you’re good at trading around a core position, you should be bored- it’s by rote. All you’re doing is watching the stock move and trimming or adding to your position accordingly. You can do it up 10, it doesn’t have to be up 3. I use that example to show you how tightly you can keep the range. 

We do have some rules to follow. In my example, we started with a core position of 300 shares of a $100 stock. If I were trading around that as my core position, I wouldn’t want to own more than 300 shares or less than a 100 shares… Obviously you can scale these numbers depending upon how big your position is. But the basic idea is to avoid putting yourself in a position where you have too much on the table in case the stock gets swatted down… or too little on the table to take advantage of any upside that comes your way. Trading around a core position is an exercise in delicacy. Bottom line, now you know the basics of how to trade around a core position. That’s another method yet again to my madness. "
Cramer's Trading Around A Core Position is useful for all practical purposes. 
But there are some issues one might not agree with.  One is that the
percentage points he sells or buys stocks seem very arbitrary, ranging from
3% to 10%, as though stocks will always oscillate back and forth that way.  
Secondly, what if the stock continues to go down down and down after
you've used up your ammunition to buy incrementally?  This can fail
miserably in a bear market.  And on the opposite end, what if the stock
continues to go higher after you have incrementally sold ALL your shares of
that particular stock?  I suppose you'll have to look for another stock to play
with?  The problem with this, of course, is that generally stocks tend to
move together depending on market direction.  That is, a bull market lifts
most of the stocks and a bear market sinks most stocks, so that constantly
looking for new stocks that are set to go higher may not be the most
practical approach for most people.
Still, I think Cramer's strategy is good and sound, at least better than what
most traders are doing these days.   Somehow, though, I don't think this
strategy will beat Warren Buffett's 23% average returns if it were to be used
over a 40-year period, going through both raging bull and severe bear
markets.  Once you incrementally sold ALL your stocks as it goes higher in a
bull market, you must either buy it back at higher prices or substitute it with
another stock (which may already be running or may not be as good quality
as the stock you sold).  These are issues Jim Cramer has never really
explained how to resolve.  Another issue I have with Jim Cramer's strategy
is that you will need quite a bit of cash to be able to continually buy on dips,
and if you don't end up having the opportunity to add on dips then there will
be lots of cash that you're not putting to work.
Since I don't think this strategy can beat Warren Buffett in the long run, I'll
pass.   I feel The Beanieville System is infinitely superior in many regards, as
you shall see.
Years ago after I had formulated The Beanieville System in my mind, I
thought maybe I shouldn't get too excited.  Maybe there wasn't anything
special about it?  Anyone could have figured it out, right?  But when I first
heard Jim Cramer talk about his strategy of Trading Around A Core Position
about two years ago, that was when I realized what I've discovered was
truly amazing.  I was very proud to have discovered a system that was
much more powerful than Cramer's.  If he consistently beat his hedge fund
peers with his Trading Around A Core Position, then imagine what you can
do with The Beanieville System!  Incidentally, the unique thing about The
Beanieville System is that it is a big picture system that caters to the
individuals, allowing them to plug other trading systems into.  The
Beanieville System is not an automatic system where it gives you the same
results regardless of your trading abilities.  The better you are as a trader,
the greater the results you get, but everybody benefits. 
On occasions, I personally incorporate Cramer's idea of trading around a
core position, as well as several other trading methods, into The Beanieville
System.  But you can incorporate any trading system, assuming your system
works, you are comfortable with into The Beanieville System and produce
spectacular results.  I recommend reading some of Jim Cramer's books, as
he is generally a "fundamentals" trader.

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