The Stock Market Cash Flow Read online

1.There is no “right” or “wrong” (“better” or “worse”) when it comes to asset classes or investing options...it just depends what you enjoy and what fits into your investing strategy.

  2.Wealth building is learning to buy assets intelligently.

  Wealth building is about making purchases and adding to the asset column of your balance sheet.

  3.There are four primary classes of assets.

  You can expand the asset column of your balance sheet by adding any of these types of assets: businesses, real estate, commodities, and paper assets.

  4.Business is about taxes and leadership.

  When you think about starting or buying a business, you can take advantage of tax laws. A business requires leadership. In business you’ll be using other people’s energy, other people’s education, other people’s experience, other people’s effort, and other people’s everything!

  5.Real estate is about other people’s money.

  The three most important things you can gain in your real estate education are: learning how to find and select the right partners, learning about creative financing, and learning about management. One of the great advantages of real estate is that it uses debt as a lever.

  6.Commodities are about hedging.

  Commodities are those basic items that people want or need, such as corn, soybeans, pork bellies, oil, precious metals, lumber, and cotton. These items tend to retain their value because there is typically a strong demand for them, even when a currency fails.

  7.Paper assets can be effective for all levels of investors.

  Most paper assets are liquid, which means they can be quickly and easily converted to cash. Paper assets are traditionally very agile and can be used to make money, no matter if the markets go up, down, or sideways. Paper assets also allow scalability, meaning that a person can begin with a very small investment. Some paper assets also allow for leverage without the use of debt.

  To strengthen your understanding of these concepts, consider teaching them in your own words to a friend or family member. Good luck!

  Chapter Three

  Introducing the 4 Pillars of Investing

  Let me introduce you to the 4 Pillars of Investing. As a student you will find that everything you will ever learn about making money with stocks will fit into one of these four pillars.

  In Chapter Two we described wealth building as learning to buy or create assets intelligently. We also saw that the asset classes include business, real estate, commodities, and paper assets such as stocks and options. We learned that each asset class has its own language and nuances.

  So how do you learn to buy these things intelligently? How do you make sound decisions when an opportunity presents itself? The answer is in learning the 4 Pillars of Investing. These pillars contain vital information for every type of investor in any asset class, and they are vital whether you are investing for capital gains or cash flow.

  In preparing to write this book, I sat down and reviewed everything I had learned from my mentors and teachers about investing. I realized that everything I knew fit very nicely into four categories:

  1.I had learned about studying entities (Fundamental Analysis).

  2.I had learned how to study trends (Technical Analysis).

  3.I had learned techniques to position myself for profit (Cash Flow).

  4.I had learned about managing risk (Risk Management).

  These categories make up what I call my 4 Pillars of Investing. When you dedicate yourself to studying these four pillars you will learn the criteria that will allow you to look at any investment opportunity in any asset class and make better decisions. These four pillars will support your financial education goals. You will learn to buy assets intelligently and build wealth.

  So let’s get started by looking at Pillar #1.

  Pillar 1: Fundamental Analysis

  Fundamental analysis examines the strength of an entity. We need to be able to tell the difference between an entity that is strong and an entity that is weak, be that entity a private company, a charity, even a nation. And we do that by looking at the financial statements. The financial statement tells us the strength of the entity.

  My college basketball coach was a master when it came to teaching fundamentals. His teams won many championships, and he was well known among avid college basketball fans. People often ask me why I think he was so successful. My answer is always the same: He absolutely demanded perfection in the parts of the game that don’t require talent, but do require tremendous effort. Not everyone has the same level of talent, but we all can give supreme effort. There are certain parts of the game that are basic at any level, be it high school or the pros. To have success, you must become proficient in them. My coach was obsessed with the fundamentals, and he coached them well.

  The same rigor in fundamentals is needed for financial success, and basic rules apply to every entity—from sovereign governments to corporations to individuals. There are certain financial fundamentals that must be in line for any entity to flourish. In this chapter, you will begin to understand what these fundamentals are. You will also discover how to compare one entity to another and immediately know which one is in a stronger financial position.

  Fundamental analysis is the process of looking at some basic numbers and evaluating the financial strength of the entity based on those numbers. I’m going to help you discover what those numbers mean and where you can find them. You’re going to discover that as you learn more about how to look at these fundamental numbers you will have an increased ability to make wise investment decisions. You‘ll be able to set a bar for comparison and then quickly see if the opportunity measures up with your expectation of a good investment.

  One helpful way to look at fundamental analysis is to think of it as going to the doctor for a checkup. To analyze your condition, the doctor begins with the basics. She’s probably not concerned with the color of your hair or the color of your eyes. These things don’t tell the doctor very much about how healthy you are. But she will check your blood pressure and your pulse. She’ll tap you on the knee to see if your reflexes are responding properly. She’ll use a stethoscope to listen to the beat of your heart and the sound of your lungs. She’ll write down your “vital signs.” These vital signs represent the fundamental state of your basic health. Collecting and analyzing these numbers is the doctor’s first step in figuring out what’s happening with your overall system.

  When it comes to analyzing a nation’s economy or your own financial standing, conducting a fundamental analysis as the first step will give you a quick understanding of financial fitness to see if everything is in order. The financial vital signs can tell us a lot about the health of the entity.

  Fundamental analysis also helps us determine value. The more financially healthily the entity, the more valuable it is in the marketplace.

  Fundamental analysis is a critical tool for leaders of all kinds. It can be used to discover weakness and, in turn, guide policies for improvement, whether it is being used at the highest levels of government or a for couple at the head of a household. It is a very valuable diagnostic tool.

  As we study fundamentals you will learn:

  1.How to measure the financial strength of any entity

  2.How to see the value of the entity

  3.How to diagnose causes of weakness

  4.How to change policies to fix weakness and predict change

  5.How to see the two sides of any transaction and identify the winner and the loser

  6.Why it seems that investors can predict the future

  Now, those are things I wish I could have learned in school!

  Pillar 2: Technical Analysis

  The second of the four pillars is called technical analysis—“technicals” for short.

  Technicals are the story of supply and demand in pictures. Supply and demand creates trends.

  Picture yourself as the owner of a golf course. You’ve done a great job with every part of your business.
Your course is one of the best golf properties anywhere in the world. In fact, there are so many people who want to play on your golf course that there’s no way you can accommodate everyone. You have earned the luxury of being in high demand. As a result, tee times on the course are in short supply.

  What does this mean to your business? Now you can charge more than your competitors because there’s a higher demand for a tee time at your course than anywhere else. On your computer you have a chart that shows the history of your prices as they’ve climbed year after year. Using this trend, you can forecast where your prices are likely to be in the future. This process of examining a chart and projecting what you expect to happen in the future is called technical analysis.

  When you buy a share of stock in a company, it makes sense that you will want to carefully examine at least two things:

  1.Since you’re going to own a share of the company, it feels very natural to want to know how strong the company is financially and how it stacks up against other companies when it comes to the basic numbers (or fundamental analysis).

  2.You want to see how eager other investors are to buy shares in the company and if there’s a high demand for the shares that could drive the company’s stock price higher and higher (or technical analysis).

  It is very important to understand trends because you will see that, with the stock market, opportunity is always present. In the section on technical analysis you will learn:

  1.Rules to identify a trend

  2.How to read the story the trends are telling

  3.That investors use patterns to determine what is most likely to happen next

  4.How the use of technical tools helps investors find opportunities and see warnings

  Allow Discovery to Happen

  The first two chapters of this book introduced you to the idea of context. Those discussions were designed to help open your mind so you can begin to think differently. Now you can feel that we are beginning to move into content and some of the important how-to’s of investing.

  At this point, I want you to give yourself permission to learn about fundamental analysis and technical analysis in a different way. If you do this, your experience will be more fun and enlightening right from the beginning. Here are a few suggestions to keep in mind as you dig into the chapters on fundamental and technical analysis:

  Move at Your Own Speed

  Unlike school there’s no test at the end of the week, there’s no grade, so there’s no pressure for you to learn everything completely and perfectly the first time you see it.

  I remember in college I had to take an organic chemistry class. The material was very complex. But what compounded the problem was that I had to learn it so quickly. I felt pressure because I had to understand everything that was being presented the first time. The stress was brutal and not conducive to really learning the subject. I started to panic because the penalties for not understanding things were so severe and so immediate. I could become ineligible to play ball if I failed the test. It was hard to think of anything but that consequence.

  Even after college I found myself reacting the same way, out of habit. If I was in a situation where I didn’t understand a concept quickly when it was given to me I became tense, nervous, and stressed out. Now I have learned to relax and let things come to me at my own pace, but it took changing my context. By taking the pressure off, learning has now become one of my favorite activities.

  So when you study the chapters on fundamental and technical analysis, please allow yourself—remind yourself—to relax. I’m confident you will do just fine. If you ever do feel anxiety, let that be a signal to take a breath…and relax. Remind yourself that it’s okay to read the material more than once, and it’s okay to slow down.

  I still remember the lesson I learned from a teacher as she used the analogy of learning to drive a car with a manual transmission. We can surely move from ignorance to awareness to competency on the Education Continuum simply by listening to someone else explain the process of letting out the clutch and pushing the accelerator pedal. But proficiency comes when we’re actually trying to follow the instructions by sitting in the driver’s seat and trying to operate the car. When we try to put those concepts into action, we will inevitably stall the car. But it’s not that big of a deal because stalling the car is part of the process. That’s how you learn to drive a car with a manual transmission. We learn by making mistakes. After several attempts, you begin to get the feel of it. You learn how to make tiny adjustments until you get to the point where you can shift from gear to gear, listen to the engine, and know when to up-shift or downshift,—and even gently balance the clutch and brake when starting on a hill. Before long, you’re driving that car without even thinking about it. You have arrived at proficiency.

  And just because you stall the car, it doesn’t mean you’re not learning. I stalled the car when my dad was teaching me. Will I teach my sons the exact same way? You bet I will. It’s still the best way to teach. Killing the engine is just part of the process. No harm will come to my sons; I’ll be sitting there right next to them until they get the hang of it.

  So please remember there’s no need to put pressure on yourself as you learn these investing concepts. Take a breath and enjoy the discovery. Once you’ve built your investing foundation with these first two pillars, it will be time to move on to the third pillar, which is certainly the most exciting one to an investor: cash flow.

  Pillar 3: Cash Flow Strategies

  Once we see the strength of a company (fundamentals), and the trend of the market (technicals), we then decide how we want to position ourselves to profit.

  Some investors put themselves in the position of aiming to profit from a capital gain, which means buying low and selling high, like when you buy and sell a house. Others aim to place themselves in a position of cash flow, like renting a house. To understand one strategy, it helps to understand the other.

  The term cash flow certainly gets everyone’s heart beating a little faster. Ultimately, that’s what we really want as investors. Because as money freely flows into your account through smart investment decisions, you will experience what true freedom feels like. The goal of this book is to help you begin to feel confident and comfortable in your ability to draw cash from the stock market on a regular basis—no matter the direction in which the market moves. That’s the beauty of it: You’ll learn how this can be done in markets that go up, down, or sideways.

  Cash Flow Is a Solution to the Problem of Expenses

  Everyone has expenses like food, clothing, shelter, taxes, and recreation, among many others. Expenses are the basic financial problem of life. We can solve that problem in one of four ways:

  If you need $5,000 each month to solve your expense problem, then to move from the left side of the quadrant to the right side, your financial statement must change from this:

  to this:

  The Best Cash Flow Is Not Dependent on Bull Markets

  Many people who work at a job put money away into some sort of a contribution retirement program such as a 401(k) or an individual retirement account (IRA). The money put into these accounts finds its way into the stock market through mutual funds or unit trusts, depending on the country in which you live. Whether or not you make money is often directly dependent upon the performance of the overall stock market. Due to the fact that these strategies are almost entirely focused on the long term, they are not a source of current cash flow for the investor. But here’s the problem: The stock market doesn’t always (or only) move in a steady upward direction. It can—and definitely does—travel upward, or downward, or remain stagnant for long periods of time.

  In the United States the predominant account for retirement investments is called a 401(k). Unfortunately, the value of these investments is dependent on a bull market. So rather than being designed to grow cash flow, they are designed to grow net worth. As the market fluctuates, so does net worth.

  When I think about 401(k) account
s they remind me of Aesop’s fable about the goose that laid golden eggs. Most contribution retirement plans rely on money earned in the past (what I call “old money”) to solve expense problems in the future.

  The plans that rely on old money are in a risky situation. Instead of having monthly cash flow that could last indefinitely, the investor is left with what feels like two hour glasses. One is filled with money and the other with time. That’s why one of the main fears people have is running out of money in retirement. This wouldn’t happen if they knew how to generate “new money.”

  I want to introduce you to a totally new way of thinking—one you may never have considered before. These new “golden-goose” ideas are different from what you experience when you let your money sit in long-term retirement accounts.

  When it comes to purchasing stocks, fundamental analysis is the process of gathering information about the strength of a company, and technical analysis is the process of gathering information about the supply and demand for that stock. When you have that information, you can use it to determine whether you’re investing your money in a golden goose or a golden egg. You’re going to discover there are a variety of ways to harvest what you see in fundamental and technical analyses.

  In the chapters on cash flow strategies you’re going to see some examples of how to turn this information into potential profit, as well as some of the rules that we follow when we execute a certain investing strategy. I’m also going to give you some insight into how to choose one strategy over another and some methods to give you confidence in the decisions you make to help you move toward your money and lifestyle goals.

  Learning many different cash flow strategies is like having many different colors available to you when painting a picture. With a variety of colors in front of you, think of how much more effectively you can mix and match those colors to help that painting match your vision of what you want it to be.