DISCLAIMER: This is an interview with a friend and should be read as such. For professional investing advice, please consult your personal financial advisor. This interview should in no way be construed as professional investing advice for your personal portfolio. You are responsible for your own money, not me or Greg Hull.

Last time, Greg and Charlie and I got into the nitty-gritty of options. These week we wrap up the essentials like a diaper.

LS: Are there any other guidelines that are really important? Like what if a stock drops really low? What if it loses a lot of value?

GH: You have to have an exit strategy, obviously. If a company declares bankruptcy, you’re losing your entire stock, everything you invested in it. Doesn’t happen very often, but that’s why you do your research and buy companies with solid financials.

LS: It’s not like they got bought out and you got paid. . . something.

GH: Right. It’s like you get $0.00 for your investment, which would suck and has happened. But that’s do to lack of research. That’s never do to a surprise in a company.

LS: What about Enron?

GH: That was just illegal. [laughs.]

LS: [laughs.]

GH: That was just illegal. And I still think it’s due to lack of research because that comes down to researching leadership, not just bad financials ‘cause they hid the financials. That comes through research in leadership, finding out who the C.E.O. is, who the board of directors are, what their histories are – things like that.

LS: How do you do that?

GH: A lot of it’s public knowledge. Any board of directors, any C.E.O.s – all of them are public knowledge, you can find them on the internet.

LS: Wikipedia?

GH: Wikipedia’s a good source.

LS: Really?

GH: Yeah. You can find a lot on Wikipedia. You can find a lot on the company’s home page. Just go to the company’s web page.

LS: What’s. . . obviously the company’s not gonna be like “Hey our guy who runs this company? He’s really sucky.”

GH: [laughs.] Right.

LS: “He’s terrible. He totally wrecked his marriage and blew up five government buildings and got arrested for smuggling queludes.”

GH: [laughs.] Right. But the internet a web of knowledge.

LS: This is true.

GH: Google—

LS: Well I just didn’t know if their were any kind of red flags or smoke alarms that say “Hey, Charlie’s been smuggling drugs!”

GH: [laughs.]

CA: [laughs.]

GH: A good indication is what they’re doing with their own stock of the company. Any time an insider (CEO, CFO, whatever) – any time someone inside the company goes to do anything with their stock, they have to file with the SEC. They have to disclose it before they do it. A good indicator of the company’s strength is what the insiders are doing with their stocks. If the insiders are buying up stock, it’s a good sign. If they’re selling off stock, it’s not a good sign. It’s not just a sale here or there. It’s mass sales. Large quantities of stocks. Things that are abnormal for someone inside the company to do. Things like that. Other things you could do is to look at their employment history. Where have they worked before and what was that company like? Is that company still in business? Is it thriving? Is it doing well? If you see that the CEO of Enron, for example, has run multiple other companies into the ground, it’s usually not a good thing. You can find information that way. If a company goes bankrupt and your invested in it, it’s usually because of lack of research, not because of a surprise in the company.

LS: Right. And that’ll affect the whole market too. Even people invested in 401k, their 401k will be affected by that, right?

GH: Yeah. It’s gonna be a broad. . . when the banking industry – or when the airline industry (a good example) when the airline industry. . .  Delta Airlines was a good airline during that time, but its stock still dropped. It was affected by the rest of the market. Its financials were good. Its leadership was solid. I made lots of money on Delta during the airline crises. But the rest of the industry was going down, so it brought panic and greed into the market and people started to sell off Delta as well. This is good for me. I just bought more of it because I already did the research on Delta. I knew the other airlines weren’t doing well, but because the industry as a whole was going down, it brough Delta under attack and undervalued it to where when all the smoke cleared, it was the only one still standing strong and it actually made profits in the company. It was actually a really good time for me. That research that you do can find those kinds of stocks. To get back to your original question, you have to get an exit strategy. There are two types of people in the buy-and-hold strategy. The first type are the diehard buy-and-hold strategists. This is what Warren Buffet does. He WILL NOT sell a stock. Period. If he’s done his research and thinks it’s a good company, he will hold onto it ‘till the day he dies. Okay? Whether it’s up or down or whatever. Doesn’t matter if it loses 10% of the value or 80% of the value.

LS: So how does he make money?

GH: He makes money through diversification and through price adjusting. When it goes down and is down 80% — if I buy a stock at $100 and then I buy that stock at $50 and I buy 100 shares of each price, my average cost is only $75. If the stock ever gets back up to $100, I’ve actually made money on all my shares because of the stock I bought at $50. It’s dollar-cost averaging, is what it’s called. By buying the stock at a lower price, you actually gain value on all the shares you bought at a higher value. That’s the diehard buy-and-hold strategy: never ever get rid of your stock.

Another strategy is once a stock loses a certain amount of value to where you can make more money taking that money and putting it somewhere else to regain the value of the loses, it might be better to do that. If a stock is $100 and it drops to $70, okay?

LS: 30% down.

GH: 30% drop in the investment, I look at it and go “Can I take that $70 and put it somewhere else to gain that 30% back faster than waiting on the company to come back up 30%?” That comes back to research. What’s the volatility of the stock? Is it known to make large swings in its history to be able to go up or down 30%? Things like that. If it is, that’s something you want to consider – stay in the stock until it makes one of those upswings. You know it’s a solid company. You know that its financials and leadership and public relations are strong. You undervalued it at $100 – how much more undervalued will it be at $70! That type of thing. But if I can take that $70 and turn around and make a 10% rate of return in a month and recoup my losses in a few months? Verses waiting six months to a year to wait for the stock to come back while staying in it, it’s a better move for me to put my money somewhere else than it is to wait for the company. Those two things are a debate between investors. Both of them are good strategies. Both are solid strategies.

LS: Buying when it’s down and. . .

GH: Buying when it’s down or moving. It’s just a matter of personal conviction or personal preference and how confident you are in your research and your ability to do research. If you have done your research well in the company you’re staying in? Stay in it. If you’re comfortable doing research on another company and you think you can do better by moving your money? Move your money. That’s just a preference and how comfortable you feel with your own research.

LS: Does some of that come through conference calls and things like that?

GH: Yeah. Anybody who wants to do research in a stock can find a plethora of information on the web. One of the greatest things I find is that anyone who owns one share of stock can call into a conference call and just listen and find out what the inner workings of the company is. You can talk to the CEO of the company and ask what he’s doing. Anybody who’s doing research for the company should find out when the next conference call is, listen into that conference call and try to get a feel for what’s going on. The internet is a plethora of information, but any time you can hear the words of the CEO himself, you can kinda get a vision for where the company is going.

LS: Or lack thereof.

GH: Or lack thereof.

LS: Like Zales.

GH: [cackles. laughs hard.]

LS: That was terrible.

GH: [laughs.]

LS: It was.