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Cutting Your Losses

I lost a friend, but I'm not losing money anymore. I should also point out that the investments

I made on my own during that time made excellent gains. And what's most relevant about

that example isn't so much the broker story as it is the fact that I made more money by

managing my own investments. Had I lost more money through my own transactions, that

would have been okay, too. At least I would have been responsible either way since I was

making my own decisions regarding my money.

The point is this-control your own money in all aspects. This means that even if you do hire

a professional to help you, you are still responsible for ensuring that the person you choose is

effectively doing exactly what you hired him or her to accomplish. Make sure then, that you

periodically reevaluate their performance. Don't get sidetracked by things like emotion or

friendship. As with any professionals, if they are not cutting the mustard, get rid of them and

hire someone better.

The Loyal Loser

For example, I personally fall into that last category. A couple of years ago I hired a full

service broker from a well-known firm for some of my accounts. She was a nice young

person, and I liked her so much that I was loath to leave her

even though I consistently lost

money with her management. I took the losses without saying a word, because I figured we

were friends. So did she-until she got a promotion and turned over all her portfolios to a

replacement. The new broker was even nicer and friendlier than the first, but she was a

goner before she unpacked her nametag. I closed my account immediately.

The point here is that I was looking to make a profit, not new friends. The first broker, really,

was a nice person, and probably used a lot of that friendliness to keep clients such as me.

She certainly wasn't keeping clients because of the profits we were making.

As for the second broker, I never lost a cent, but that was because I finally wised up to the

fact that I was keeping these professionals on my payroll because they were friendly, not

effective. Who would keep a plumber on staff when all the faucets still leak? In all fairness,

the replacement broker may have been poised to make me a great deal of profit, but I had

decided by that point to take control of my money and manage it myself.

Full Service Stockbrokers

You can find full service stockbrokers at the most well-known and established companies,

including

Salomon Smith Barney

Morgan Stanley

Goldman Sachs

Merrill Lynch

For all their eminent reputations, however, brokerage firms use a substantially different track

for selling stock than the average investor would think. The company that uses the

expression about making money the old-fashioned way-earning it-isn't lying. They just

didn't specify for

whom they were making that old-fashioned money.

Bluntly put, stockbrokers have to make a living, too. And that lifestyle isn't cheap. Did I

mention that full service brokers also charge the highest commissions? I've heard of full

service brokers who charge up to $75 per transaction. Even though the average investor may

be aware of these commissions, what goes largely unsaid is the other ways in which

stockbrokers make money or further their business.

You should know upfront that in all fairness, full service brokers and brokerages have their

uses and place within investment. Many people, for a variety of reasons, do utilize the

services of full service brokers and brokerages and do very well by them.

For example, someone with enough money in the market to prohibit the time needed to

effectively keep track of investment trends (because the person is using all that time to make

the money that's being invested) would make a good candidate for a full service broker.

Also, someone who was planning to buy and/or sell on a daily basis is an example of

someone who might fare well using the services of a broker. Although this type of client,

however, would still do well to consider excessive service fees involved in these kinds of

services. In addition, most stockbrokers aren't dishonest and do play upfront with their

clients. After all, unhappy clients will leave sooner or later, so it's in the stockbroker's best

interest to keep them happy.

The average stockbroker, however, does have to make a living. So, for example, a

stockbroker with his or her huge wealth of knowledge tells you that purchasing stock in XYZ

Company is the single best thing you can do. You invest as the stockbroker tells you to; after

all, who are you to second-guess the stockbroker? You're a dentist with little or no knowledge

of how all this works, whereas the broker has years of experience and access to a substantial

amount of firm research- usually from within the brokerage house itself. So, the stockbroker

takes a commission for placing the purchase order. The stockbroker is happy; you're happy.

What could be wrong?

Did the stockbroker mention that the reason you should buy XYZ Company stock is also

because he or she needs to sell a certain amount of XYZ Company's stock in order to retain

his or her account, and the broker was running pretty close to the end of the month without

having reached that quota? Or did the stockbroker mention that the company is giving him or

her a cut of the sale out of the backside for each share the broker places with a client? The

stockbroker wasn't lying about XYZ Company stock being the best purchase you could make.

The broker just failed to mention that the payday was his or hers, not yours.

Also, the "research" that you thought would make a difference, and that went largely

unnoticed in this transaction was flawed anyway. The analysts who compile this research are

under extraordinary pressure from upper management as well as from the clients themselves

to back up the interests of the company. Not necessarily to lie, mind you, but to present the

information in its best-or in the case of the competitor, the worst-possible light.

CAUTION

A full service broker usually manages his or her client's account directly and charges

the highest commissions.

And finally, from personal experience, many people develop a good working relationship with

their brokers and a strong sense of loyalty keeps them as clients. Even in these situations,

however, be aware of the whole story.

.

Securities and Exchange Commission

The

Securities and Exchange Commission (SEC) is the U.S. Government commission

charged with the responsibility of ensuring compliance with its securities act. Through the use

of its own financial professionals, which includes qualified stockbrokers, the SEC monitors

trading and the markets through the computerized networks for strange and/or unusual

trading activity, for example. These professionals would then further investigate to uncover

illegal activity such as insider trading (trading with prior or nonpublic information). To

eliminate conflict of interests, SEC financial professionals do not engage in professional

trading activity themselves, but work for and are compensated exclusively by the U.S.

Government.

Role of Stockbrokers

The term

broker has been used to describe financial transaction agents since the

seventeenth century. Brokers are part of a bigger category known as investment bankers, a

group that is also not new. Investment bankers have been around since at least the Middle

Ages when they were responsible for raising the monies necessary for kings and queens to

wage war on one another. The adjective "investment" describing banker only means that the

banker focuses on investment as opposed to other banker functions such as retail banking,

which deals with such things as checking and savings for the general public.

Modern standards are substantially less dramatic and violent. A stockbroker today is a

person who has passed a test called a Series 7 Exam administered by the Securities and

Exchange Commission (SEC) and, as such, has the necessary qualifications to buy and sell

stock for his or her clients. A brokerage firm is nothing more than a firm composed of, you

guessed it, stockbrokers.

What kind of people become stockbrokers? Those who obviously have some sort of interest

in finance, economics, and the stock market. This would be necessary, as the Series 7 exam

is not easy and the career of a stockbroker, because of the high pressure, is generally pretty

short (about two to three years). For those reasons, most brokerage houses will pay for new

brokers to take classes, similar to preparing for the SAT, and even pay for the new broker to

take the exam. The new broker would then, however, be committed to work for the brokerage

house for a period of time, again, usually a couple of years. Most of the people who go

through this are also attracted by the availability of high income. As brokers work on

commission, their pay is directly tied to how motivated they are to sell stock. An aggressive

broker can make hundreds of thousands, or even millions of dollars per year.

In addition to having the qualifications including licensing and knowledge of stocks and the

markets, brokers are the only ones legally permitted to buy and sell stock, so they've got a

lock on the market. Like it or not, you've got to use a broker or brokerage firm to buy stocks.

Luckily, since the abolishment of standardized broker fees in 1975, many different types and

price structures for stockbrokers now exist. Everyone has access to any number of

competing firms, so you can pick the type of broker or brokerage that is most applicable to

your needs.

Types of Stockbrokers

Stocks are available for sale through stockbrokers. You can find many listings for brokers in

Appendix B, "Resources,"

at the end of this book, in the financial pages of your local

newspaper, or even in your local Yellow Pages. You will find

Full service brokers

Discount brokers

E-brokers

Brokers and Brokerage Houses

In this lesson you will learn about the various types of stockbrokers and about brokerage

houses where you can purchase stock.

Other Markets

In addition to the markets already discussed, which deal primarily with stock, a number of

different markets exist to service the trades of derivatives, options, futures, and other stocklike

investments. These niche exchanges are of great importance to their particular products,

although their exchanges may not be as widely known.

The Chicago Board of Trade, for example, deals almost exclusively with the exchange of

grain futures. The New York Cotton Exchange deals with cotton, of course. These specialty

markets rarely make for exciting financial news, yet the Chicago Board of Trade, for example,

is one of the most important exchanges in the world. A day's activity here could determine

changes in the

consumer price index, an indicator that measures the percentage of change

of the cost of goods and services in well-developed nations and that also measures the end

or beginning of famine in emerging markets.

Plain English

Remember that stock index explanation from Lesson 6, whereby an average would

indicate whether the price of everything in the market had gone up? The consumer

price index is the same thing, except that instead of averaging the cost of stock or

a farmer's market, it averages the cost of all things the average person in this

country buys, like food, clothing, and utilities.

Most of these exchanges operate on basically the same principle as the stock exchanges,

but their clientele as well as their purpose are usually substantially more specific. In addition,

the governing entities may be different from their stock exchange counterparts. The

exchange of futures, for example, is regulated by the Commodity Futures Trading

Commission (CFTC) rather than by the Securities and Exchange Commission (SEC). Like

stock exchanges, these various exchanges are located around the country, in Chicago,

Minneapolis, and Phil-adelphia, as well as around the world, in Paris, Winnipeg, and Sydney.

Finally, be aware that in the past the activity of these various exchanges could be a little

more difficult to find. Usually only the very large financial publications such as The Wall

Street Journal or corresponding local publications carried the reports. Fortunately, today's

computers and dedicated financial media are so broad that information on any of these

markets is usually available at the touch of a button.

The Big Bang

Even if you don't actually own stock in foreign companies, their performance can provide

great insight into the future performance of the American markets. The day of the

Big Bang

marked the beginning of a global market. As the increased globalization of trades continues,

the effects of a day's trading around the world will continue to directly affect the performance

of other international markets. A recent example was the collapse of many Asian markets, an

event that dealt a fierce blow to the stability of the American markets. International investors

who were awake during the open hours of Asian trading were aware of the impending

damage hours before the American exchanges even opened. In this particular example, I'm

proud to say that the American markets were strong enough to withstand the blow, and the

damage was quickly repaired.

Plain English

The Big Bang was a red-letter day in trading history. On October 27, 1986, the

London Stock Exchange dropped its restrictions on allowing foreign investors to

participate in their markets. Symbolically, this day represents the unification of

markets around the world into one global marketplace.

International Exchanges

The scope of American finance is absolutely unparalleled anywhere else on the globe. The

American economy is somewhere around 16 times the size of its closest competitor. The

sixth largest economy on the face of the earth, for example, is that of the State of California.

For all its size, however, the U.S. economy does not, by any stretch of the imagination, stand

alone. Exchanges and financial markets all over the world, through the use of today's

computerized systems, have created a world where stocks trade 24 hours per day.

Exchanges exist in almost every major city in the world, including Paris, London, Frankfurt,

Tokyo, Johannesburg, Sidney, Hong Kong, and Singapore. While every one of these

exchanges directly affects, and is directly affected by, each other, they are all under the

authority of their own governments and must follow their government's laws. As a result, they

differ from each as much as they are the same. While learning about international markets is

interesting, actually investing in them as an individual is an altogether different matter. As a

general rule, most international investing is done by corporate entities such as banks or

mutual funds which then provide opportunities for international investments domestically

through the use of ADRs or globally invested funds.

CAUTION

Moving money and stock from country to country is a very difficult transaction as a

result of conflicting tax structures, exchange rates, and permissible investments.

In addition, although the activities of the international exchanges are not as widely reported in

the United States as those of our own exchanges, that fact in no way reflects badly on the

prestige or importance of these markets. Several of these exchanges, for example, predate

the founding of either or both of the major American exchanges. London claims the world's

oldest stock exchange, having been founded in 1773.

The results of the day's trading in international exchanges are readily available in the United

States, though the reports are not as extensive as for the U.S. exchanges. Many financial

publications list the results of any day's trades in a number of financial markets.

The Wall

Street Journal and The New York Times both publish the results of the most actively traded

stocks worldwide.

Small Fry Regional Exchanges

Regional exchanges conduct their own proprietary business as well business for their bigger

counterparts. The requirements for a company to have its stock listed on the two major

exchanges are often prohibitive for many smaller companies. However, these companies can

usually meet the requirements of the smaller exchanges and for that reason are traded there.

For example, in the same burger joint scenario let's say you are a lobster fisherman. You

know that the national burger joint has no interest in your new product, the Lobster Burger. In

Maine, however, the Lobster Burger is a big hit. Rather than attempting to sell your Lobster

Burger to Burger Joint headquarters for distribution in all its locations, you take your Lobster

Burger idea directly to Burger Joint headquarters for the State of Maine. They agree to

distribute, or sell, your Lobster Burger exclusively through Maine. In the same way, a regional

exchange offers access to markets where many smaller companies can remain competitive.

Regional Exchanges

The two principal markets in the United States, the NYSE and AMEX, can actively trade only

a minuscule proportion of the total number of shares in the United States. For that reason, 14

other smaller exchanges, which are scattered around the country, are linked to the NYSE

and the AMEX in order to help them trade stock more quickly and effectively. These

exchanges, known as

regional ex-changes, operate the same as the two big exchanges, and

often even duplicate their work.

Some of the better-known regional exchanges are …

Pacific Stock Exchange

Boston Stock Exchange

Midwest Stock Exchange

Philadelphia Stock Exchange

These exchanges, while perhaps not quite as well known as NYSE and AMEX, are significant

in their own right for many reasons. The Philadelphia Stock Exchange, for example, has the

distinction of being this country's first stock exchange. Its founding in 1790 predates the

founding of the NYSE by more than a quarter of a century, and the founding of AMEX by

over half a century.

Again, many of these exchanges trade the same stocks as their bigger counterparts to help

reduce the load that the major exchanges are expected to service. At the end of the day, the

results of trading a particular stock are added up from all locations and reported to the

general public as composite trading.

Think of the situation as a burger joint. The entire country couldn't walk into the same burger

joint and expect to be served within a reasonable time frame. So, the burger joint opens up

locations all over the country, and they all offer the same food to their customers. In the same

way, the regional exchanges offer the same stocks for trade to local investors as the big ones

do. At the end of the day, however, management wants to know how many burgers were sold

at all locations. After adding together the sales at all locations, the resulting total number of

burgers sold is known as the burger joint's composite trading figure.

The American Stock Exchange

The

American Stock Exchange (AMEX) is also based in New York and has a great tale of

origin. In 1842 men who were not considered "gentlemanly enough" to be admitted into the

New York Stock Exchange stood outside the building, trading stocks on the curb and yelling

and hollering loud enough to ensure that they were being heard by the "gentlemen" inside.

These rabble-rousers, known as the New York Curb Exchange, traded stocks in this manner

until 1921 when they finally moved indoors. Subsequently, in 1953 this exchange changed its

name to The American Stock Exchange.

Plain English

The American Stock Exchange is the New York Stock Exchange's rival trading 900

of the nation's largest stock to the NYSE's 1,600. In addition, the AMEX requires the

issuing company to maintain a balance of $4 million in assets to the NYSE's

minimum requirement of $18 million.

The New York Stock Exchange

Back in 1792, 24 men showed up to trade stocks under a buttonwood tree and pronounced

that location as their future stock-trading marketplace. The road next to the buttonwood tree

had been named for a blockade wall built earlier to keep Manhattan settlers safe from

marauding Indians and pirates. I'm not making this up. That market and its humble

beginnings eventually evolved into today's mammoth New York Stock Exchange, and the

corresponding road next to the blockade wall became known as Wall Street, synonymous

with today's financial world.

Plain English

The

markets is a term referring to the centralized physical locations and the

computer networks at which the business of trading stocks is conducted.

Trading Places

So, where are all these trades taking place? Way before there was money, people used to

trade items to each other. If I had a goat and you wanted it, you'd offer me three chickens in

trade, and we'd both go off happy. If someone else offered me four chickens, or if someone

else showed up with a bigger goat, there would probably be a lot of yelling involved.

Eventually, people finally figured out that they'd save time looking for other people with whom

to trade if they regularly showed up at one designated location where everyone brought

something to trade.

With the introduction of money, these trades evolved into purchases and sales. Thousands

of years later, the market concept is still very much alive. People who want to buy or sell

stocks figure that showing up at the same location at the same time to trade stocks is a pretty

good idea. Today, over 140 physical exchanges buy and sell trillions of shares of hundreds of

thousands of stocks 24 hours per day. Although those figures are mind-boggling, they

represent only a small fraction of the trades being conducted over computerized networks.

Here are the markets:

New York Stock Exchange (NYSE).

The largest physical stock exchange in the world.

American Stock Exchange (AMEX).

The rival of the NYSE in size and prestige.

Regional exchanges.

Fourteen exchanges located around the United States.

Over the counter.

A term for stocks traded over a computerized network called the National Market

System (NMS).

International exchanges.

Stock exchanges in other countries.

Other markets.

Markets where the trading of financial instruments other than stocks, such as futures,

options, and money, is conducted.

The Markets

In this lesson you will learn about the physical locations where stock is available for trade and

also about computerized networks over which stock is available for trade