Expectation is a factor that new traders must seriously consider and have under control before they embark upon their trading careers. Unfortunately, these days trading has been hijacked by the many and varied ‘operators’ on the internet who promise quick and easy riches.

As an exercise, type in the words ‘trading’, ‘profit’ and ‘easy’ into Google and see what comes up.

You will be bombarded with tag lines such as “we will give you a simple strategy which can make you big profits in around 30 minutes per day and anyone can learn it quickly” and “Trading for Profit – Make Money Fast” and “Learn how to create consistent monthly income trading stocks and options like a Wall Street Pro”.

Now, I cannot say that the strategies taught by the people/companies using these tag lines are rubbish, because in truth I have never used them, but what I can say is that in my opinion, such tag lines are misleading and indeed dangerous.

The simple fact of the matter is that trading is a difficult pursuit and that the clear majority of retail traders end up leaving the game with less money than when they started. If it were so easy, everyone would be doing it and everyone would be making money.

So, coming back to expectations, new traders MUST be mindful that the odds are stacked against them and that unless they are very careful when they start out they will lose money.

As hard as it may be to avoid the hype, understand that you are not going to take $10,000 and turn it into $1,000,000, you are not going to be sailing the Whitsundays in your private yacht, and you are not going to be driving your new Ferrari around anytime soon.

To put it in perspective, I give you the example of Warren Buffett. Admittedly Warren is not a trader, he is an investor, but he is widely regarded as the most successful market participant the world has ever seen. I repeat, he is widely regarded as the most successful market participant the world has even seen. In 2006 Forbes reported that over a 40-year period, Buffett had delivered an annual compound return of 22%.

Below is a table highlighting what you would return if you started with $10,000 in your trading account and matched Warren’s returns over a 10-year period;

	Starting balance	Profit at 22% per annum, compounded	Cumulative balance
Year 1	$10,000	$2,200.00	$12,200.00
Year 2	$12,200.00	$2,684.00	$14,884.00
Year 3	$14,884.00	$3,274.48	$18,158.48
Year 4	$18,158.48	$3,994.87	$22,153.35
Year 5	$22,153.35	$4,873.74	$27,027.08
Year 6	$27,027.08	$5,945.96	$32,973.04
Year 7	$32,973.04	$7,254.07	$40,227.11
Year 8	$40,227.11	$8,849.96	$49,077.07
Year 9	$49,077.07	$10,796.96	$59,874.03
Year 10	$59,874.03	$13,172.29	$73,046.31

 
So, as can be seen from the table above, if you start with $10,000 and average 22% return per annum, compounded, at the end of 10-years you will have $73,046.31. As mentioned above, this will not get you a yacht and it will not buy you are Ferrari (unless you are looking for one without an engine!!!)

The point of all of this is not to scare you away from trading. It is simply to keep your expectations in check. I have seen many new traders come to the market thinking they will make huge amounts of money or having spent their winnings before they have even earned them. This is an extremely dangerous attitude. In my experience it is indeed the new traders who are most cautious and who have a healthy fear and respect for the market that tend to achieve success.

If you want to get the latest recommendations and learn more on how to start trading, access our research and educations files free for 7 days by clicking here

   Written by: Chris Conway   Other posts from: Chris Conway

When someone who is new to the market contemplates the question ‘how to buy shares’, they are really asking to different questions;

1. What is the process I need to go through in order to actually purchase shares?

and, far more importantly…

2. Which shares should I buy or which companies should I invest in?

The answer to the first question is simple enough. Everyone who wants to purchase shares must either do so

›	From the company itself in the very first instance of the shares being offered in a float. The word float is used when a company seeks to raise money by offering its shares to the public for the first time.
›	Following the float, shares are bought from other investors via the sharemarket. THIS IS THE MORE COMMON METHOD.

Whatever the method, you will need to set up an account with a broker. Setting up an account is not particularly difficult and most people simply set up an account with their major bank (i.e . Commonwealth Bank customers typically use Comsec).

Most stockbroking firms require you to provide funds before they accept your first order to buy shares. Many brokers will require that you set up a client account or trading account before you can start trading. This can take up to a week to finalise but can usually be done in 24 hours. Many brokers will require you to establish a cash management account with a bank or financial institution, to which they have access. This is to facilitate the transfer of funds to pay for your purchase of shares and to allocate proceeds to you from the sales of shares.

When you place an order to buy or sell shares, you have a choice of two ways to tell your adviser what price you will accept. You can place your order ‘at market’, meaning you will accept a price at or about the market price of the shares at the time you place your order. Alternatively, you can place your order ‘at limit’, and inform your adviser of the highest price you are prepared to pay or the lowest price at which you will sell.

When placing an order with your adviser, make sure you are fully informed and that your order is confirmed. Ask for the current market price and write it down. Then tell your adviser the details of your order (i.e. the amount of shares to be bought or sold and the price at limit or at market). The adviser should then repeat the order back to you.  Internet based stockbroking websites provide confirmation screens for you to double check your order before it is processed.  Your adviser will not necessarily call you as soon as your order has been filled. However, if you place an order very near the current market price, it may be filled quickly.

When you buy shares in companies listed on ASX, you are buying them from investors who currently own them. Shares bought and sold on the sharemarket can only be done so through the services of a stockbroker.

So, all of that is fairly straightforward stuff. It’s a matter of simply dotting your i’s and crossing your t’s and making sure you understand the process.

What is far, far more challenging and of exponentially greater importance is what one should buy, now that they are able to do so.

Which companies one chooses to invest in and when, will of course determine whether or not one makes money or loses money. As such, it is at this point that new entrants to the market should seriously consider the guidance of some professionals.

That might sound costly or time consuming but it really needn’t be. It does not mean that you have to have a dedicated financial planner or full service broker who charges you an arm and a leg for his advice.

It could be as simple as picking up the Financial Review each day and reading about companies, or regularly visiting a free financial website in order to educate yourself about what is affecting the market.

As long as the bodies from which you source information are credible, reliable and trustworthy, you’re on the right track. Those who are prepared to outlay some capital should also consider buying research reports from independent research companies or engaging the help of a seasoned investor.

In short, you MUST conduct research – as much of it as possible. Reading all the information you can on a company will help you to see how all factors affect the price of its shares and subsequently help you determine whether or not to invest.

Once you’ve conducted enough research to satisfy yourself and you’re comfortable with a company, then you can go ahead and buy the shares through your broker. Always remember though, the sharemarket is not a casino. Sound, well reasoned research will trump hopes and dreams every time.

Get started with what share to buy with 7 days of free guidance- click here

   Written by: Chris Conway   Other posts from: Chris Conway

Our Head of Trading and Research Chris Conway examines what technical analysis is, to read the complete article please click here.

Why Technical Analysis?

Written by: Chris Conway – Head Of Research & Trading – Australian Stock Report

In simple terms, technical analysis is the study of a financial instrument’s price and volume movements. It contrasts fundamental analysis, which is a study of a company’s earnings, dividends, product innovations, management team, research and development, etc.

Technical analysis discounts all of these factors by examining what investors believe about the aforementioned fundamental factors and, most crucially, whether or not investors/traders have the courage to back up their beliefs with their money. If that sounds like mumbo jumbo, let me put it in perspective for you.

I personally might believe that stock XYZ is a great company with strong earnings and growth potential, solid management, and a fantastic R&D department that has numerous quality projects in the pipeline. In believing all this, I think XYZ should be trading at $10 per share. When I search for XYZ’s price, however, I discover that it is only trading at $3 per share.

Faced with this startling discrepancy between my beliefs about the value of the company (however they are arrived at) and the actual market price, I consider the possibilities;

1.	I am the best fundamental analyst in the world and I have managed to uncover significant value in the company using only my limited resources. Value which other analysts and whole research teams, with huge budgets and sophisticated forecasting models and far greater access to the company in question, have failed to uncover. Not likely, but possible.
2.	I have not uncovered any value; the market has simply priced this instrument incorrectly. The collective market universe, for some inexplicable reason, simply has not priced this instrument correctly and will likely soon realise this. Markets are inefficient so this is slightly more possible than option 1, but still unlikely.
3.	I have completely messed up my calculations. Whilst performing the pages and pages of calculations required to do a discounted cash flow, or a debt to equity ratio, I have made a mistake somewhere (for those of you out there who are screaming that this can all be done by computer nowadays, let’s say that you put the wrong figures into your model). I am usually pretty good with my numbers, but this is more likely than options 1 and 2.

Faced with these options, I simply decide that I am not confident enough to invest in or trade XYZ. I’m not so arrogant as to think that I am the best fundamental analyst in the world and there is a good chance that I messed up my calculations. Furthermore, and this is the kicker, I don’t believe that markets are that inefficient that they will misprice an instrument so badly.

So, my fundamental analysis has left me in no better a position than I was before.

To continue reading the remainder of this article please click here

   Written by: Chris Conway   Other posts from: Chris Conway

Are you wanting to find out first hand from our panel of professional traders and analysts which stocks are set to sizzle and which could fizzle in 2103?

This half-day forum will deliver the best information you’ll find anywhere for investing in the share market. In addition to this you’ll also enjoy complimentary refreshments and post-event drinks and canapés plus a FREE book – Futures made simple (RRP$29.95), by professional trader and panellist Kel Butcher. Regardless of whether you are an experienced investor or a complete novice this event will be the smartest and most prosperous way to start the New Year.

Participants in our last What’s Hot, What’s Not Forum were provided with a number of investing tips which have proven to be extremely rewarding, see for yourself below.

	Recommendation	Recommendation Date	Entry Price	Last Price (19/12/12)	Return
IRI	Long (Buy)	17-Feb 2012	$0.65	$1.35	+107.7%
JIN	Long (Buy)	7-May 2012	$1.35	$2.50	+85.2%
LYC	Short (Sell)	17-Feb 2012	$1.22	$0.58	+52.3%
IIN	Long (Buy)	17-Feb 2012	$3.07	$4.55	+48.2%
MTU	Long (Buy)	7-May 2012	$3.08	$4.17	+35.4%

 
Our team are constantly identifying stocks with big potential, so we’re sending them on the road to show you which stocks are set to sizzle and those set to fizzle. Our team will cover topics that include;

Global macroeconomics review:	our panel will tell you what’s in store for the Australian market in the first half of 2013, which sectors will take advantage of the current global economic conditions and which sectors to avoid.
The ‘HOT’ stocks:	we reveal our analysis and research showing the stocks we believe are set to sizzle in 2013.
The ‘NOT’ stocks:	we take you through our rationale and research showing you which stocks in your portfolio to give the flick in 2013.
Audience Q&A:	was a stock you’re interested in not covered? Ask our panel what they think. They will give their raw and uncut honest opinions, backed by years of experience, research and analysis.
Beyond Stocks:	a guide to FX, Commodity, and Index Trading: a special keynote address from Kel Butcher – Author, Professional Trader, Trading Coach.

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Direct vs indirect exposure

The most popular method for retail investors to gain exposure to gold has been by buying shares in gold miners or gold explorers. This is often a poor method for making money out of gold price movements as gold companies are not only influenced by commodity prices, but also operational issues, management decisions, mining cost pressures, exploration success and development progress. Gold mining companies are also often involved in mining copper and silver (and often other minerals), so you are being exposed to many more factors than just the gold price.

Newcrest Mining (NCM) is a great example. While gold prices have risen almost 400% in the last 10 years, NCM shares have only risen around 250% (plus a little more in dividends). NCM has had a litany of operational problems across several of its key mines and these have seen NCM shares fall even in some times when gold prices have been going up.

The following chart compares gold prices over the last 10 years to four well-known gold companies – NCM, Santa Barbara (SBM), Kingsgate Consolidated (KCN) and Panaust (PNA).

The red line shows the gold price rally over the last 10 years, and how the four gold stocks mentioned have failed to keep up with the commodity. It is our belief that if you want exposure to gold prices, you are best to invest or trade gold directly, rather through gold miners and all their added issues.

So what is going to be best for you?

If you want to invest directly in gold for the long-term, you can go down the ‘old school route’ and buy a gold bar. As simple as this seems, it’s probably not the best solution as you will pay more than market prices, you have to find (and possibly pay) for somewhere to store it and there are risks such as it being stolen.

If you would like to trade gold prices actively, then the best solution is likely to be through a CFD broker, such as IG Markets. IG Markets allows traders to trade gold positions from as little as 10 ounces, and on margin of only 1%. So, you can trade 10 ounces of gold (worth around $17,000 in late 2012) for only $170. And for experienced traders, it also offers the advantage of placing stop losses and profit targets.

In our opinion, the best way to invest in gold over the long term would be through a gold ETF. An ETF (Exchange Traded Fund) is like a managed fund that is tradable on the ASX. Essentially, you are investing in a fund that invests in gold. The gold ETF listed on the ASX trades under the ticker GOLD. Each unit represent one-tenth of an ounce, so you can invest in as little as $170 worth of gold.

Whatever option you choose, remember that investing in gold miners may not be the best choice for making money out of the gold market.

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The stock market can be a confusing place, and part of the reason why so many people are confused when they first begin investing is because there are so many different opinions. One stockbroker might say Telstra is worth buying, but another might tell you to steer clear. How can this be?

One reason for this disparity of views is that different people will use different types of analysis to come to conclusions about stocks. There are two major types of analysis: fundamental and technical.

Number crunching

Fundamental analysis is frequently used by traditional stockbrokers and fund managers, and involves an assessment about a company’s operations. A number of factors will be considered in a fundamental assessment of a company.

These factors include profits, the outlook for the industry the company operates in, forecast profit, key personnel in senior appointments, and who is on the board of directors.

In fundamental analysis, cash flows are particularly important, so the analyst pays close attention to sources of revenue and whether they can be consistently relied upon in the future, plans for business growth to name a few.

The assumptions of the technical analyst

Technical analysis is widely used by private traders, although many stockbrokers and an increasing number of investment funds also utilise this form of analysis. Basically, technical analysis is only about the price, and understanding how is moves today should give us an understanding about how it might move tomorrow.

The use of technical analysis and its effectiveness is based on a number of assumptions about the way the market operates. They are:

- The market price calculates the impact of all the news that drives buyers and sellers

- Human nature is constant, so investors generally react in similar ways to similar situations, which in turn creates repetition in certain price patterns

- Prices are not random and will generally move in trends for significant periods of time.

It’s all in the price…

Technical analysis assumes that all the factors that influence the price of a security have already been factored into place.

This is why technical analysts never concern themselves with why prices go up or down. More interestingly, this is also one of the reasons why often the price will be a leading indicator of published information.

The question is, of course, which form of analysis should you use? Unfortunately, there’s no clear cut answer.

At the Australian Stock Report, we use both forms of analysis, but with an understanding that you need to make sure the analysis you are using suits both the company and the timeframe in which you want to hold the stock.

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Fundamental stock analysis can seem scary to most newcomers to the market – and with some reason. Looking at some of the 30-page reports from broking houses, about just one company, can seem stupefying to the best of us.

However, one of the reasons it appears terrifying is that analysts can make it as complex as they like: there’s virtually no end to the level of calculations you can perform.

Importantly, when it comes to numbers, there’s a simple four-step process to fundamental stock analysis of companies. First, is the company likely to still be around in a year? Second, is there cash coming in? Third, is the company making money from this cash? And, last, are you likely to get any of that cash?

1. Balance Sheet

A balance sheet is a snapshot of a business’ financial condition at a specific moment in time. From this, analysts try to identify whether the company is financially healthy, especially in relation to debt.

A balance sheet comprises assets, liabilities, and owners’ or stockholders’ equity. Assets and liabilities are divided into short and long-term obligations including cash accounts such as checking, money market, or government securities.

At any given time, assets must equal liabilities plus owners’ equity. An asset is anything the business owns that has monetary value. Liabilities are the claims of creditors against the assets of the business.

2. Cash Flow Statement:

This is a financial document detailing the exchange of cash between a business and the outside world. The flow is categorised as:

-       flow “in” from Operations (cash the company made by selling goods and services)

-       flow “in” from Financing (cash the company raised by selling stocks and bonds)

-       flow “out” to Investing (cash the company spent investing in its future growth)

Each of these flows can actually flow both ways. It is a measure of a company’s financial activity. Investors like to see that the company can cover its spending with cash from operations, without having to turn to financing.

The cash flow statement also has to reconcile the net effect of these flows with the difference in its cash holdings at the beginning and end dates of the reporting period.

3. Earnings per Share (EPS)

Total earnings divided by the number of outstanding common shares. Great companies have earnings that are growing quarter by quarter, year on year.

However if the number of shares have increased markedly or there has been a merger, the earnings per share can be diluted. Therefore, earnings per share are more important to the investor than total earnings.

4. Dividends

Dividends are distributions of money, stock, or other property a corporation pays you because you own stock in that corporation. Most are paid in cash, but you can also be paid in shares.

Basically dividends constitute the element of profit the company does not reinvest back into itself.  Shareholders will pay income tax with respect to their dividend income.

These four measures aren’t the full story, however. A company might look great, but it might be very expensive. The next step in stock analysis is to understand how much you are paying for the company.

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Stock analysis can be formed in a number of ways, but the end goal is determining a stock’s value.

As a brief summary, these are the stock value techniques most often used in the Australian stock market:

Discounted cash flow - is the most complex of valuation techniques but also among the most commonly used in stock analysis.

Under this technique, an investor or analyst will use a range of variables to try to accurately predict profit results for future years. These future earnings are then discounted back to their present value (value in today’s dollars) to give an estimate of what the company is currently worth (as a whole, or per share).

This technique is best used for companies in which earnings are expected to fluctuate or grow, start-ups, and companies with limited life spans.

Earnings before interest, tax, depreciation and amortisation (EBITDA) – should be used when most comparable companies are based overseas. For example, analysts rating telecommunications companies will often use this technique.

This technique strips out much of the financing and taxation effects from a company’s performance and leaves you with an indication of a company’s core earnings power. This method is also handy for valuing infrastructure companies.

Price-to-earnings ratio – one of the most commonly used valuation methods for stock analysis. P/E ratios are used when companies have relatively stable earnings and there are a number of comparable companies in the local market. Banks are often valued according to P/E ratios.

Net realisable value – is used for stock analysis when things get gloomy. An analyst will value a company according the amount the company’s assets are worth if sold (rather than the earning these assets generate) when the company is making sustained losses or is close to liquidation.

These methods mentioned above are all types of fundamental analysis, the pursuit of getting to the “fundamental” heart of a stock and analyse its worth.

Fundamental analysis observes the way a company runs – analysing the financial data that is “fundamental” to a company – its earnings, its profits, its dividends.

On the other hand, many traders instead use technical analysis, which involves analysis of stock charts in order to determine an understanding of the way prices move.

There is no “right” way in terms of approaching stock analysis, though most analysts will use a combination of both fundamental and technical analysis in their approach.

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The S&P/ASX 200 index (also known as the XJO) is the main benchmark for the Australian equity market (replacing the venerable All Ords as the industry standard).

The index is made up of 200 of the top stocks, which boast a total value of around $1.1 billion (end of March 2010).

While there are around 2000 stocks listed on the ASX, these top 200 stocks make up almost 80% of the total value of the market.

The XJO provides investors and fund managers with a benchmark, a level of performance to compare their own Australian share trading to.

The index also forms the basis for futures contracts such as the Share Price Index (SPI).

Piece of the pie

The index is weighted by the float-adjusted market capitalisation of each stock, which means a 1% move in one of the bigger companies, moves the index more than a 1% move in a smaller company.

The finance sector makes up around a third of the index (by market cap, not number of companies), mostly through the big four banks.

Around 25% of the index is made up by mining stocks, and BHP, the market’s biggest stock, accounts for around 12-13% of the index just on its own.

Wild ride

Started up on 31 March, 200, the XJO began with a value of 3133, which was the value of the All Ordinaries at the time, and there has been plenty of action since then.

The XJO hit a low of 2693 in March 2003, just before the start of a bull market.

Over the next four and a half years, the XJO rose by over 150%, hitting a high of 6852 in November 2007.

This is when the global financial crisis (GFC) kicked in, sending the XJO spiraling lower over the next 18 months.

After hitting a GFC low of 3120 in March 2009, the XJO rose by around 50% over the next 12 months.

This party is invite only

To be eligible for inclusion in the ASX 200 index, a stock must meet market capitalisation, liquidity and listing criteria.

Market capitalisation is determined using a function of current index shares, the latest stock price and the investable weight factor (known as IWF).

IWF is negatively impacted by strategic holdings that are corporate, private or government in nature, meaning shares owned by founders, directors of the company and other companies are excluded.

The liquidity requirement for inclusion in the ASX 200 is that the trading volume (in dollar value terms) and the number of stock transactions must be higher than 0.025% of the total trading volume of all eligible securities.

Lastly – and this goes without saying – a company can only be listed on the ASX 200 if it is listed on the Australian Stock Exchange (ASX).

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One common way to classify stocks is to make an assessment as to whether they are “cyclical” or “defensive”.

These two terms represent, as you can probably guess, two types of industry or stock that are at stark odds with the other.

Let’s take a deeper look at what these terms mean, and how they interplay with the stock market.

The terms cyclical and defensive are used to show how closely correlated a company’s share price, or a sector’s performance, is to fluctuations in the economy.

Cyclical stocks are those whose fortunes are tied to the strength of the economy. They perform well when the economy is strong, and will decline when the economy is performing badly.

In other words, cyclical stocks perform according to the big picture, where as defensive stocks generally perform solely on their own merits.

In general, defensive stocks tend to offer more steady products and services. Business doesn’t necessarily boom when the economy is strong, but also doesn’t suffer too badly when the economy is struggling.

Defensive stocks are non-cyclical because they experience solid profits regardless of the motions of the broader economy.

Defensive stocks, as we noted above, are not considered to be tied to the market. However, their fortunes are still party tied to how the broader economy is going.

Defensive stocks are seen as safer, and should perform better in a bear market. Even if they don’t manage to go up during a bear market, they shouldn’t fall by as much as cyclical stocks in bad times.

Because defensive stocks and cyclical stocks are polar opposites, when cyclical stocks are doing poorly, defensive stocks tend to do well.

An example of defensive stocks to choose in a bear market would include those that are in the healthcare industry, namely CSL Limited which is a biopharmaceutical company.

Additionally, other sectors that are generally considered most defensive in a bear market are officially known as the consumer staples and the utilities.

Generally, some experts believe defensive sectors include industries such as drugs, healthcare, information technology and food on a wider spectrum.

Defensive stocks are defensive in nature because the demand for them tends to be strong no matter how the general economy is performing. This is because defensive stocks produce items considered necessities, and product demand should continue regardless of the big picture.

For instance, people will always need electricity in their homes, so utilities companies tend to perform steadily over time; it’s not like you will buy twice as much electricity when times are good!

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