Seven Big Things Professors Won’t Teach You
(But You Should Know)
by John Forman
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Are you studying finance? If so,
then terms like present and future value, efficient market
theory, capital budgeting, arbitrage pricing and a whole
slew of other exciting phrases are becoming part of your
vocabulary. And if you’re thinking about studying finance
in college or graduate school, be prepared to be lectured on
those topics and more during your coursework. This is all
well and good. If you plan on a future in finance, you’ll
need a grounding in financial theory. Here’s the problem,
though. Your instructors won’t teach you the good stuff,
the stuff that can really help you excel in your job or make
money in the markets. That all falls under the umbrella of
“practical knowledge” which is not what college curricula
are generally designed to pass along to young, eager minds
looking to learn.
Have no fear, though! This report will help fill in the gaps.
While it’s impossible to cover everything you could possibly
want to learn in this brief space, here you will be given
seven specific areas of focus. It is my intent to provide
you with something of a guide to help you go beyond your
text books and take your financial education to another
level. From there you’ll be able truly accelerate your
growth at a rapid pace, allowing you the opportunity to have
more success. Ready? Let’s go.
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#1 You Really
Can Make Loads of Money in the Markets
Have
you ever had an instructor talk about all the money there is
out there to be had trading the financial markets? Unless
you’ve had the great fortune of having one of those rare
professors who actually has experience doing just that (and
there are a few), the answer is most likely, “No”. This is
because most finance faculty have had the efficient market
theory drilled in to their heads for years. After all,
every bit of research they have ever seen says you cannot
make “excess profits”. Well, that simply is not true.
If
you want to trade the markets, or even think you might want
to, then these three books by Jack Schwager are a must
read:
Market Wizards,
The New Market Wizards, and
Stock Market Wizards. These books are all essentially
a collection of interviews in which the great money
managers, investors, and traders or our time share their
experiences with Schwager, a respected professional in his
own right. These men and women have literally made billions
in the markets. You get direct insight from these market
luminaries, and Schwager also provides tons of educational
content in his own right through glossaries, discussions of
market topics, and outstanding summaries of the knowledge
and understanding the interviews impart. Belief that you
can achieve awesome results is the first component to being
successful, and the Market Wizard series will definitely
make you believe! There are other books with a similar
concept, but Schwager’s works are by far the worth owning.
You will absolutely read them again and again, and they will
more than pay for themselves.
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#2 The Stock Market is
Not the Only Market
If
you read the Market Wizards books noted in the previous
section, you will quickly realized that there is money to be
made in all sorts of different markets: stocks, bonds,
currencies, commodities, futures, options. In fact, the
equity markets are really a minor player in the realm of
modern global finance. This is not something that gets a
lot of play in the classroom, though. Why? Because of the
focuses on portfolio theory, capital budgeting, and other
subjects which end up have relatively little importance to
the average financial professional. In particular, you
should explore currencies and fixed income in more detail
than what you will probably get in your classes.
The
currency market (also known as foreign exchange, forex, or
FX) is by far the largest. Currencies are usually discussed
in an international finance type of course which provides a
cursory coverage at best. Yes, the triangular arbitrage is
important, but even with the advent of many so called
“trading rooms” in business schools across the country,
students are not being taught the real practicalities of
forex trading and the impact of foreign exchange market
movements on the rest of the financial system. The fact of
the matter is that currency trading is now even easier than
is the case for stocks. You can do it on-line, 24-hours per
day. Those interested in learn more on the topic, or taking
the plunge in to foreign exchange trading would do well to
start with Cornelius Luca’s excellent book
Trading in the Global Currency Markets. It is a good
introduction to the market, including the terminology and
analytic methods one needs to talk the talk and walk the
walk. For those with an interest in learning how some of
the real currency superstars think,
Investment Biker and
Adventure Capitalist by Jim Rogers and
Soros on Soros and
The Alchemy of Finance by George Soros are well worth
the read. Rogers is a well known investor and commentator
and just the name “Soros” in and of itself has the power to
move markets.
Perhaps even more important than foreign exchange, if
smaller in actual trading volume, is the fixed income
market. Fixed income encompasses tradable instruments
ranging from very short term paper such as T-Bills,
Eurodollars, and Commercial Paper out to long-term debt in
the form of Treasury and Corporate Bonds, not to mention
mortgage and asset backed instruments. Fixed Income
securities are issued by governments, government agencies,
municipalities and companies all over the world. The sad
thing is how little coverage this topic gets in financial
education. This despite the fact that the basis of fixed
income is cash flow, which is also the core of most
valuation methods currently taught in college business
programs. Interest rates drive everything, from the action
of the stock market to fluctuations in currency exchange
rates. That is why even the slightest little comment from
folks like Alan Greenspan and other similar monetary
authorities around the globe is analyzed for its meaning and
potential impact. An understanding of the fixed income
markets will benefit you enormously, regardless of what area
of finance you specialize it. To that end,
The Bond Market by Christina Ray is a worthwhile
reference. Ray breaks down the intricacies of fixed income
securities in a very easy to understand fashion. Of course
there is also Fabozzi’s
The Handbook of Fixed Income Securities, which can
probably be found on every trading desk. The Fabozzi book
is comprehensive in nature, where as the Ray book covers
fewer topics, but breaks them down in a more manageable,
practical way.
There are, of course, many other markets and tradables
beyond these. The point I want to reinforce here, however,
is that as a financial professional you need to be aware of
what is happening in currencies and interest rates. Failure
to do so means you will have an incomplete market picture
for your analysis.
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#3 The Mind is More Important than the Tools
In
finance class we learn all sorts of things, like how
to calculate present and future values and how to price
securities. Finance is all about numbers, formulae, and
analysis, right? Wrong! We are given all sorts of tools
to use, but there is something very important missing - an
understanding of the human mind and its impact on how those
tools get applied, misapplied, or not applied at all. It
would behoove anyone with an eye on the market activity to
take a few psychology classes along the way.
The
financial markets, no matter how they may be characterized
otherwise, are a collection of individuals interacting with
each other. As such, it is important for us to understand
the impact of collective psychology. You merely have to
watch the markets to see the impact of group think. The
bubble in internet stocks that burst in 2000 is a perfect
example. Clear-headed market analysis went out the window
as everyone jumped on the bandwagon thinking that there was
no way to lose. Then, on the downside it was the exact
opposite. The no one wanted anything to do with stocks in
certain sectors, not because of any legitimate evaluation,
but because they had been burned before. This sort of thing
happens to greater or lesser degrees all the time, in all
time frames. A very good book on the topic is
Extraordinary Popular Delusions and the Madness of Crowds
by Charles MacKay and Bernard M. Baruch. It explores the
whole topic of manias, especially where it relates to the
financial arena, and should give you an excellent view in to
mob mentality.
But we should not just think about the market when we think
about psychology. If you want to be a successful trader or
investor, you need to understand what’s going on inside your
own head as well. Being able to produce sustained above
average returns takes more than luck. It takes a major
mental commitment and knowledge of the pitfalls we can
create for ourselves without even knowing it. We can have
the best trading system in the world, but if we cannot stick
to the methodology because we allow our mind to override the
signals or analysis, what good is it? Dr. Van K Tharp, who
is profiled in
Market Wizards and has worked with a great many traders,
put together an excellent work on the subject.
Trade Your Way to Financial Freedom is a good follow-on
to the Market Wizards series. Another good mental book is
The Way of the Warrior Trader by Richard D. McCall, and
Trading in the Zone: Master the Market with Confidence,
Discipline and a Winning Attitude by Mark Douglas is a
popular title on the subject as well. Be sure to take
seriously the psychology of trading. It really can make the
difference between success and failure.
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#4 Technical Analysis
is
Respected
The
weak form of the Efficient Market Hypothesis essentially
tells us technical analysis, which focuses a lot on
historical price movements, is worthless because it has
already been factored in to the market price. As such,
technical analysis has been widely looked down upon in
academia for years. Well, the real word of trading and
market analysis takes another view. It is true that
technicians were once a rare and misunderstood breed. Over
the past decade or so, however, the discipline has become
increasingly valued as a legitimate methodology. Academics
still raise their eyebrows at the mere idea that one could
make money looking at charts, but practitioners are paid to
get results and many use technicals to do just that. As
such, technical analysis should be seen as a legitimate
analytic tool for your own work in the markets.
Here’s the thing, though. Technical Analysis covers a vast
array of techniques and methods. Some folks are chartists.
Others use calculated indicators. Still others use
astrology and other more esoteric methods. As suggested
above, in a wide definition, technical analysis is the use
of past market action to determine likely future action.
The idea is that markets will react somewhat predictably to
certain occurrences. Underlying that notion is the fact
that people react somewhat predictably to stimuli, and the
market is nothing more than a collection of people. Ah,
ha! Psychology comes back again. I told you in the last
section it was important.
I am
not here to advocate technical analysis, though. It is
merely one of many available tools. Some folks prefer it.
Others are more fundamentally oriented, using earnings,
economic conditions, etc. to determine valuation. A lot of
it comes down to personality and interests. You learn the
basics of fundamental analysis (pro forma earning
projections, growth rates, discounting future earnings, etc)
in your finance classes. If you learn technicals at all, is
probably only in passing. It is up to you to explore the
topic on your own. There are several very worthwhile
resources at your disposal in that regard. Tops among them
is John Murphy’s
Technical Analysis of the Financial Markets. This book
is widely considered the bible of technical analysis and
will give you an outstanding overview of the topic. The
Steve Nison books on candlestick charting, starting with
Japanese Candlestick Charting, are excellent as well.
Mind over Markets by Eric T. Jones discusses the “Market
Profile” technique, which is not widely known in academia
but has many adherents in the markets.
Perhaps the best book on combining technical and fundamental
analysis is
How to Make Money in Stocks by William J. O’Neil. Among
titles to consider about developing trading
systems there are
Campaign Trading by John Sweeney,
Street Smarts by Laurence A. Connors and Linda Bradford
Raschke,
Long-Term Secrets to Short-Term Trading by Larry
Williams, and
Trading Systems That Work by Thomas Stridsman.
Anyone seriously considering the pursuit of technical
analysis, personally or professionally, should consider
joining the Market Technicians
Association. The MTA provides a certification and other
educational programs, and is a good way to meet technicians
from around the world. Also,
Stocks & Commodities
magazine is the industry standard for the discussion of
technical analysis and trading system design.
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#5 You
Can Trade Real Estate
You
know all that accounting you have to learn, and all those
finance basics they make you take before you get to the good
stuff? Well, you can put that education to use in the real
estate market right now. The most advanced topic one needs
to understand to play the real estate market is that of
leverage, or to put it another way, how to use other
people’s money (OPM). Property can be bought and sold just
like any other asset. You can trade it, which basically
means buying a property and selling it shortly thereafter,
preferably at a higher price, oftentimes after doing some
fix-up work. You can also invest in real estate by going
for longer-term price appreciation and/or cash flow from
rents. The best part is, anyone can do it, regardless of
income or education.
Analyzing a potential real estate purchase is much like
doing fundamental analysis on a stock you might like to buy,
and oftentimes with similar time frames in mind. You try to
determine a fair market value, see what kind of returns you
can generate, etc. Obviously, owning property does not
provide the same liquidity, nor does it have the same kind
of potential for that trading rush, but there are
advantages. You can buy property for very little down,
sometimes with nothing at all down. Can’t do that with
stocks where at a minimum you have to have 50% for the
margin requirements. That means your potential returns in
real estate can be truly exceptional.
With
all this in mind, you would do well to learn all you can
about real estate, and there is certainly a lot of
information out there. If there is a class available to
you, take it. Talk to people you might know in the business
- realtors, bankers, attorneys, investors. It is not
necessary for you to have loads of money, great credit, or
any of what we normally get told are the requirements for
buying real estate. Creativity, persistence, and a strong
desire to succeed are more important. A couple of books
that will help you learn some great techniques for building
a real estate investment program are
Nothing Down for the 2000s and
Creating Wealth by Robert Allen, the man who put the
concept of little or no money down on the map. Another
worthwhile addition to your library would be
Ira Wealth: Revolutionary Strategies for Real Estate
Investment by Patrick W. Rice, Jennifer Dirks. This
book provides a good discussion of how IRA accounts can be
used to invest in real estate, despite what you might have
been told by banks and brokers. Real Estate is a fantastic
way to build wealth, and the best part is the tax code
actually works in your favor! Make sure to take a look in
to it for yourself.
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#6 Study Personal Finance
Some colleges actually have personal finance courses
available, but oftentimes business students consider such
classes beneath them. I should know. I was one of them. It isn’t high finance. There’s no glamour in managing
your checking account, and insurance can put one to sleep.
Wrong attitude! A good understanding or personal finance
will go a long, long way in life. In fact, it will probably
be more valuable to you in the grand scheme of things than
all the stuff in your finance course text books. Personal
finance covers a wide array of topics. I will briefly touch
on some of the bigger ones.
Savings and investment is probably what most people think of
when we talk about personal finance. In short, it is what
you do with the income you have above and beyond your normal
living expense, commonly referred to as discretionary income
or funds. Obviously, retirement savings is a hot topic.
You need to be fully educated on whatever program your
employer provides, if any, and what options you have outside
that. Make the best use of what’s available to you. The
more funds you can get to work early, the better for the
long term situation thanks to the magic of compound
interest. At the same time, you should be putting money
aside in a rainy day fund. You will hear different experts
recommend anything from a month to a year worth of salary as
a reserve against loss of income, emergencies, etc. Your
situation will dictate what is right for you, but something
should definitely be set aside in a secure, easily
accessible place. Of course if it’s your ambition to trade,
you’ll want a program in place to build up a sufficient
bankroll for that purpose. In most cases, $5000 is the
recommended minimum. Starting much lower than that will
make transactions costs significant, plus you will have
fewer options in terms of working within a risk structure
suitable to your needs.
A
very important area of personal finance, and one that needs
more focus, is debt use and management. We are a society
fueled by debt. That has its plusses and minuses.
Borrowing, when handled properly, allows us to do things we
would not have been able to do otherwise: buy a car or a
house, pay for our education, fund investments, etc.
Unfortunately, too many people misuse debt, especially
credit card debt, and get themselves in trouble. A lot of
these problems can be remedied through discipline. Do you
really need those DVDs? Are you dining out more than your
budget allows? Remember, you are going to have a hard time
building up investment capital if you have to pay all your
excess earnings out to the credit card companies. Moreover,
you do not ever want to put yourself in a potential
bankruptcy situation? It takes a long time to recover from
that kind of filing.
The
last big personal finance topic we will cover is estate
planning. For a young person that sounds like something way
off in the future. True, it is, but that does not mean
there are not things you need to be looking at now. Do you
have a will? Not everyone really needs one, but if you have
assets you would like to make sure go to those you want
receiving them should anything ever happen, you should put
something together. The process is not that difficult. Do
you have life insurance? Again, you may not need it. Many
single people do not, whereas most folks with a family
should probably have a policy. It’s a topic a lot of folks
hate even think about, but it is well worth the time.
There are a lot of things related to personal finance you
can do now, or at a minimum learn about, that can help you
throughout your life. For example, taxes will be an ever
present part of your life. Understanding them, even if you
never do your own returns, cannot help but provide
benefits. Take that view with the whole arena of personal
finance. Make it a habit to explore something new all the
time. You never know when it could come in very handy.
Maybe you’ll even do it for a living!
A very useful tool for improving your personal finance acumen is
Cashflow® , a
game you can play in board version, or on your computer.
The game covers a wide range of topics in a fun,
entertaining fashion.
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#7 Beware of the Experts
Thinking
for yourself is a good thing. Learn to do your own due
diligence when it comes to your money. There are lots
of so called experts out there. They get quoted in the
media all the time. Be careful what you read in to
that, though. Newspaper columnists, for example, want
something to keep the reader’s attention, make them come
back again. Sometimes that means people get quoted,
even though they really do not have much to say. An expert
is born! I speak from experience on this topic. Myself and
my former colleagues often had inane comments not
even intended to be serious analysis find their way in to
major columns. We’re talking significant business media,
not to mention getting picked up by the wires and local
papers across the country. Reporters also have favorite
interview sources. That can be great if the source is good,
but if not the interviews and quotes will give credibility
to one who may not deserve it. For that reason, you should
really take anything you hear or read with a grain of salt.
People have a lot of different perspectives which will not
always match your interests.
There’s also the fact that sometimes even the best and the
brightest can really mess up royally. We need look no
further than Long Term Capital Management (LTCM) to see
that. A group of very smart, very successful traders did
quite well for a while. Then, it all fell apart and forced
some major action by the monetary authorities to prevent
what could have been a global financial market disaster.
You can learn more about LTCM by reading Roger Lowenstein’s
well titled book
When Genius Failed, which documents the rise and fall of
the firm and its major figures. There was also a PBS
documentary you can get on video called
Trillion Dollar Bet which covers mostly the same topic.
The
bottom line is that you need to make sure of the value you
are getting from these so-called experts. Use your own
education, experience and basic common sense, mixed in with
a good dose of research, to see if what they have to offer
is a) credible and b) worthy of your attention. Even then,
once you have decided that they can help your toward your
goals, make sure any recommendations you receive fit in with
your situation.
By
the way, this goes for you too. Do not allow yourself to
get big in the head once you have achieved some success and
set yourself up for a major reversal. The old saying “Pride goeth before the fall” is very true. If you are not
careful, you can lose track of what made you successful and
find yourself suffering a major set-back. Refer to some of
the interviews in the Market Wizards books noted earlier to
examples.
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Hopefully you have at least started the process of expanding
your financial awareness beyond the narrow bounds of what
college finance programs provide. The finance industry and
markets can be both incredibly rewarding and highly
frustrating. If you take the contents of this report to
heart and use it to guide your own personal education, I
think you will find yourself experiencing more of the reward
and less of the frustration.
I was never the best student growing up. Homework wasn’t
something I focused on a whole lot as a kid, especially when
I could just get it done in homeroom! We’re not kids
anymore, though. If you haven’t already, you will come to
find that homework is an important part of life. I refer
not to bringing work home from the office, however.
Instead, I mean being prepared. Whether it’s an interview,
a meeting, a class, a trade or investment, or just life in
general, it always is best to go in prepared. Consider the
topics addressed in this report, and do your homework.
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Keywords: finance, college, trading, markets, school, technical analysis, personal finance, psychology, real estate
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