Blessed by the Potato

Netbug asked recently:

I keep asking how to get into stocks[…]

And Ben had a similar question:

How do you go about buying these stocks anyway? Is it through your dad, or do you have a personal account, and if so do you pay a monthly fee, or a per-transaction fee? I’ve been looking into that recently and it all seems quite expensive unless you have a ton of money and are looking to make ~100 trades per month or whatever.

So it might be time to resurrect my early series on Intro to Finance and go over that.

First off, the short answer to Ben’s question: I have my own personal account with TD Waterhouse. There’s a $29 per-transaction fee (known as a commission), and no maintenance fee. I wouldn’t say a “ton” of money, but you do need to be investing a fair chunk of change into each stock to make the commission worth the expense. Generally, I look to invest about $3,000 into each “position”, which keeps my transaction costs to about 1% (or 2% if you include the commission to sell down the road). Note that with a lower-cost account, such as Questrade, the same 1% rule of thumb allows you to invest $500 at a time. That compares favourably with the ~2% per year MER charged by many mutual funds, and is not too much worse than the MER for lower-cost index funds (especially if you hold for a few years). I don’t make a ton of trades, and I don’t recommend signing up for some of the active trader accounts that give you lower commissions if you make ~100 trades/quarter. This has been an incredibly active year for my portfolio as the stock market has been very chaotic, offering up what I considered to be opportunities, leading to some churning of positions, and also as I bought on the way down there were more transactions, draining my car/emergency fund that was sitting in cash at PC Financial to put in the market (here’s hoping the old Accord really will last till I finish grad school!). However, even though this has been such an active year for me, I’ve still only had 9 trades. A typical year for me features 2 or 3 trades — the past few months aside, I do generally follow a buy and hold (forever) philosophy.

Now, on to the more general introduction. Stocks, or shares, are pieces of ownership of a company. People will buy and sell these shares on the market or stock exchange; there are several markets, but the ones to focus on for Canadians are the one in Toronto (the TSE or TSX), and the ones in New York (the NYSE and NASDAQ). You can buy shares via a broker with your brokerage account, who puts in an order on the relevant exchange on your behalf. I’ll get into that in more detail in just two more bullet points. You can also buy shares directly from the company or from an organization, which is a little more complicated and something I don’t have direct experience with, but I’ll give some links at the end.

Stocks are, when push comes to shove, worth whatever someone will pay for them on the stock market. They are traded between 9:30 and 4 in Toronto and New York on weekdays. How to value a company’s shares is a whole series of posts on its own, but I will say simply that there is a lot of volatility in stocks: they go up and down on a daily basis, and you can easily drive yourself totally batshit fucking loco if you stress out every time the stock moves up or down on Google Finance (trust me, I speak from experience). Not only to they vary all over the place on a daily basis, they can also make large moves up or down over time. Stocks, on average, over long periods of time, generally have better returns than savings accounts, bonds, and real estate. However, there is a lot of risk that comes with this improved performance, and you could lose everything.

This is an important point to make before going forward: you must be able to stomach a large amount of risk and volatility if you’re going to look to make money in the stock market. You must never invest more than you can afford to lose. Now, my dad (and I’m sure others) view that as an important litmus test: if you invest this money and it disappears, will you be fucked? This is not necessarily to say that you should only have as much money in the stock market overall as you can afford to lose: if you had to plan for the possibility of all your stock holdings going to zero, then you might as well invest in ammunition and canned goods. But I will caution you all that the stock market, overall, could lose up to say 50% of it’s value. Any single stock could go to zero, and indeed this has happened to me before (cf. Surebeam). If that happened and you couldn’t afford to eat or pay your rent, then you had too much invested in that single stock.

So, to avoid the disastrous effects of having a single stock (or sector, such as the financials in general sucking lately) it is important to diversify. Diversify between sectors, across countries and currencies. Asset allocation is a very important part of building your portfolio, and deserves its own topic. For now, I’ll leave it up to you to research on your own, and I’ll just say that I am not happy with my own asset allocation, and am slowly trying to make it better match what I want (I have a decent sector diversification, though not as much retail as I’d like, with 75% of my portfolio in Canadian companies, 20% in US companies, and less than 5% abroad — I’m aiming for 50% Canadian, 25% US, 25% International, which is still probably Canadian-heavy). I talked a bit about diversification and the value of mutual funds (esp. low-fee index funds) earlier.

Registered (RRSP) vs. Non-Registered: Here in Canada, we have tax-deferred accounts known as RRSPs or registered accounts. Trading stocks in a registered account is slightly less complicated in terms of record-keeping — since you don’t need to pay tax on any gains as you go, you don’t need to track that sort of thing as closely. However, registered accounts are harder to set up, to fund, and at least at the brokers I’ve looked at have an extra maintenance fee of ~$100 for “self-directed” accounts. Soon, we will also have tax-fee accounts known as TFSA’s, and we’ll have to look at those when they’re available next year. I only have a non-registered account, and will only be talking about those types of accounts (though most of the details will be the same for an RRSP). For a non-registered account, you have to pay taxes on money you make from the stock market. When you sell a stock for more than you bought it for, you get what’s known as a capital gain, and you have to report that in the tax year in which you sold. If you sell a stock for less than you paid for it (it happens, unfortunately) you have a capital loss. You can use capital losses to offset capital gains, so you only need to pay taxes on the net of what you made in the stock market that year. You will need to keep records of your transactions in the stock market. Some companies also pay out a portion of their income directly to you in what is known as a dividend. You also have to pay tax on dividends, but they are “tax efficient income” — you generally pay considerably less tax on money you make from dividends than you would on money you make at a job (and for that matter, capital gains are also taxed more favourably than employment income). It’s a good idea to keep track of the dividends you are paid, but your brokerage will send you a tax slip (a T5 IIRC) summarizing your dividend income for the year.

The Discount Brokerage: So the preamble over, you now understand the risks and want to buy stocks. To do this you’ll need to open a brokerage account. Like most people, you’ll probably want a self-directed discount brokerage account. All the big banks offer one, as do a number of brokerage companies. If you search around, there are a number of reviews around, especially at Million Dollar Journey.

I’m with TD Waterhouse, as I’ve said before, and would recommend them to others. Their fees are $29 per trade, which is comparable to the other big banks, but a fair bit higher than the fees charged by the online brokers below. TD has, in my experience, excellent people on the phones to help you if needed, and you also have the option of going in to any TD Canada Trust branch if you need help getting started, though the knowledge of the people in the branches can be quite spotty at times (largely because they’re there for the bank, to make loans, etc., not necessarily to show you how webroker works). You can also make your trades over the phone with a person there to help guide you, but the commissions will be higher than using the web interface. The main reason I’m with TD, I’m somewhat sorry to say, is sheer laziness and momentum. I’ve had a savings/chequing account at Canada Trust since I was 12, and a brokerage account since high school. TD took them over and I just went with the flow and haven’t bothered changing. That said, they do have other things to offer: I find their web interface pretty good to use (though I don’t have any experience with other brokerages). Their research reports I find appallingly formatted, and it’s impossible to pull up all but the most recent update, but their analysts generally have good insight and commentary to help get the wheels turning. My dad also has accounts with CIBC and RBC, and their research reports tend to be a little dryer and less useful. The biggest advantage to going with TD IMHO is that they offer their e-series low-cost index mutual funds. They’re not quite as low-MER as say an iShares ETF, but you can buy in with as little as $100 at a time (note: if you get an RRSP you need a separate account for the e-series funds).

Note that TD may have an annual account fee of $100 if your total account is less than $25k. I say may because I think that this fee is only for the registered account (RRSP), and that non-registered accounts are exempt. Canadian Capitalist also has a review of TDW up.

The others from MDJ’s readers’ top 3 are QuesTrade and E*Trade. They are both substantially cheaper than TD on a per trade basis ($10-20 or less, depending on your trade). If you follow the link to MDJ, there’s an offer for $50 in trades if you sign up with $1k in your account for Questrade (which for small accounts looks to be the best option).

You’ll have to start out by picking one and setting up an account. If you go with a broker not mentioned here (and there are a number of them out there that could work for you), remember to be sure that they are a member of the CIPF.

How It Works: Once you’ve opened an account, you’ll need a way of getting money into it. Since I have a TD chequing account, I find the simplest way is for me to deposit a cheque into my chequing account, and then move the money over through TD’s EasyWeb. It’s also very easy to set a broker up (any of the ones mentioned) as a “bill payment” company with whatever chequing account you have currently (e.g.: PC-Financial) and then send money by “paying a bill”. You can start buying stocks once you have money in your account. In fact, while it’s not entirely recommended, you can buy stocks before you have the money in your account (after your first successful trade) since the stock market works on a 3-day delay for payment. If you buy a stock on Monday, you don’t need to have the money in your account until Thursday, which lets you buy a stock if there’s a price dip that you like, and then transfer the money from your chequing account (the fund transfer, in my experience, takes 2 days to clear, so you have just enough time for this to work — I don’t recommend planning on it though). The reverse is also true: if you sell a stock, you often can’t get the money out of your account to spend for 3 days.

To buy a stock, you have to go to the order entry screen. For TD, there is a link to this on the left-hand side, and then it will look like this:

You’ll want to first off enter the ticker for the stock that you want and the exchange it’s traded on. In this example, I entered “TD”, the stock ticker for TD Canada Trust, and the Canadian market. Then I hit “get quote” just to have the quote information at the top there. In the quote box is a bunch of useful information. I’ll start by saying that stocks are usually traded in units of 100 shares, what are known as “board lots”. You can trade any amount you want, but it’s slightly more difficult for your broker to fill the order if it’s not in an even multiple of 100 (and indeed, the TD system will warn you that you may have to pay a price premium to fill an odd lot trade). Odd lots are easier to fill when there is a lot of volume in a stock — when a large number of shares trade in a given day.

So if you look to the top-right of the quote section near the top, you’ll see that the volume for TD is 2,573,441. That’s the number of shares traded in the day, and that’s a lot of shares — TD is what we call a “liquid” stock. It’s a big bank with a lot of shares floating out there, so it’s not too surprising. Contrarily, Fralex (FXI on the TSE), a “microcap” biotechnology company, traded 11,500 shares all last week. That is a very non-liquid company. It would be more difficult to get the shares you want at the price you want in a non-liquid company than in one that is liquid, and likewise, very much more difficult to deal with an odd-lot trade in a non-liquid company.

To buy some TD, we now have the symbol entered, and the quote pulled up. The last trade was at $64.25. There’s also the bid and ask up there. The bid is how much someone is willing to buy a share for: here it’s $63.59. The ask is how much someone wants to sell their shares for, $64.25 at the moment. Below that is the “bid size” and “ask size” – this represents the number of shares on offer at each of the bid and ask prices. This is given in lots, so essentially it’s 100 times that many shares: 10 lots are up at that bid, or 1000 shares. 66 lots are up at the ask price, or 6600 shares. Notice that there is a fair spread between the bid and ask price. Usually for a large, highly traded stock, the bid and ask are quite close — the spread is usually just a penny or two. For less liquid stocks, like Fralex, the spreads can be larger. If you want to buy some stock, there are two ways of doing it. The first is to check the “market” box. This puts your order in for so many shares at the “market” price. If you’re buying, that means that you’ll pay whatever the “ask” price is from those people trying to sell. If you’re selling at market, you’ll get the “bid” price. The other way is to put on a “limit”. I highly recommend using the limit price. For most stocks with lots of volume and liquidity, you’ll generally get a market price that is very similar to the “last” or “ask” price seen. However, there is the possibility of getting screwed in a low-volume situation. Let’s say for example that you ordered 10,000 shares of TD (100 lots — a ton in this example, but it’s just an example) “at market”. There are 6600 shares offered for sale at $64.25, so you’d snatch those up right away. Then you’d move to the next higher offering price, and snatch those up, until your entire 10,000 share order was filled. Generally, there are offers sitting there for higher and higher amounts (or, if you’re selling, bids at lower and lower amounts) but the screen here will only show you the first ones that will trade – the lowest asks and the highest bids. So let’s say that after the 6600 shares at $64.25 were purchased, there was another 400 shares offered at $64.50, and then 2000 shares at $65, and 1000 shares at $68. You would buy all those up with your market order. You might have expected to pay $642,500 for your 10,000 shares when the ask price was $64.25, but because of how that market order worked you ended up having to pay $647,850. You hopefully see how this could, in a very rare but very bad situation, screw you. You can instead put in a limit order and your broker will only get shares that are offered at or below your limit price — this is essentially putting in a bid of your own. You can put in a limit order (bid) above the current ask price, and your broker will simply fill it as though it were a market order (that is, you won’t necessarily pay more just because you bid more). In this way, you can bid slightly higher if you want to just grab some shares at market, but still have a limit to how much you’ll end up paying if suddenly sellers run short (or vice-versa for when you’re selling).

You can see then where you would enter your quantity (and here you enter the number of shares, not the number of lots, despite how confusing that gets with the bid/ask size just above), and where you’d enter your limit price. You can set an order to only be good for the day, or you can set it up to last for a given time — TD seems to only work out to a month in advance — and it will stay active until filled.

And that’s about it! You enter your stock ticker and exchange, the number of shares you want, your limit price, how long you want your order to be good for, and of course, whether this is a buy or sell order. You then hit next, and if applicable clear any warnings (e.g.: if you enter an order after the market is closed, you will get a warning to that effect; likewise you’ll get warnings if buying a stock on the US markets in US dollars, and a warning for odd lot trades), and you’ll see a summary of the expected cost of your trade, including the expected commission.

I shouldn’t have to mention it, but picking which stock to invest in at what price is a whole other kettle of fish that you’ll have to research separately.

Lower-cost investing: So $29 (or even $10) per trade is too rich for your blood. There are cheaper ways to trade.

First off is the Dividend ReInvestment Plan, or DRIP. If you have a stock that pays out a regular dividend, then you can have your broker automatically buy more shares of that company with the dividend, rather than collect the cash and let it stagnate in your account until you have enough built up to buy something else. Usually, shares purchased through DRIPs are at a slight discount to market value. Most brokers offer this service for free (including TD). Most brokers require that the dividends you receive be enough to purchase at least one whole share for the DRIP — if the stock price is too high, or the dividend too low, then you may just get the cash instead (and you’ll also get the cash for any amount above the whole shares reinvested). Some brokers offer fractional shares for their DRIPs, but I’m not going to get into that in any more detail right now, except to say that TD will only buy whole shares for you and then give you the cash for any remaining dividend. Also, at least with TD, a DRIP will delay getting your monthly/quarterly dividends by about 2 weeks.

There are some organizations out there that will let you buy shares from them, including fractional shares, and these are not necessarily orders placed on the market. For instance, you can join or form an investing club, and buy shares from the club’s pool/between members. I don’t have any direct knowledge to share in that regard, but Ellen Roseman’s recent column might give some pointers.

Some companies will let you purchase shares directly through them with no commission, and sometimes at a discount (especially for employees), often in amounts that would be below a typical order placed on the stock market. These Share Purchase Plans (SPPs) can be tricky to set up in the first place though, and it may be difficult to sell the shares when you’re done with them. I don’t really have any other information on that, unfortunately, but again you can search for information on that on your own.

Summary: Buying and selling shares in the stock market is surprisingly easy with a discount brokerage account. The fees are relatively high, especially if you don’t have much to invest. I don’t like to give specific advice, and I especially do not take any credit or blame for what might happen if you read my stories here and act on anything here — do your own research! That disclaimer out of the way, there are three things I want to say about investing in stocks. The first is that, at pretty much any age, you should have some money in the stock market (as soon as your debts are paid off) since it offers some of the best long-term average returns of any place to put your money. The second is that despite the first point, the stock market is full of ways to lose money. Diversification is important. The market indexes (the index funds, such as TD’s e-series or iShares ETFs) are some of the most robust ways to get your money into the stock market since they offer a one-stop spot to pick up a basket of diversified companies. My third point is that, generally speaking, it is a fool’s game to try to beat the index. You will often face more risk and even possibly more commissions in trying, and the odds of failure (not beating the index) are high. That said, it is my personal belief that when the markets lose their head and fear rules (such as in the current climate), it may be possible to find bargains, stocks that are undervalued by risk-averse investors, that could potentially beat the index in the future. Be cautious, be conservative, and be prepared for it to all blow up in your face. Don’t invest what you can’t afford to lose, and don’t put any money in the stock market that you will need back within 3-5 years.

If you’ve got any further questions, ask away!

Further Reading: I mentioned already the Canadian Capitalist, Million Dollar Journey, both Canadian personal finance blogs that will touch on some of these subjects. Michael James on Money, The Money Gardener, and Four Pillars are all also good blogs that focus on investing in the stock market — the Money Gardener is more of a stock picker, Michael James talks more about the markets in general and not trying to outsmart the market. Four Pillars will talk about just about anything :) Preet at Where Does All My Money Go? generally posts on more advanced topics, but right now is going through a series of beginnner posts, including “The P/E ratio”.

TD Waterhouse also puts out a “Trade Today Guide” which is specific to their service.

Disclaimer: I am not a financial advisor, and this post (or any other) is not to be construed as financial advice. In fact, I’m a graduate student, and thus have obviously made one of life’s worst financial mistakes and you shouldn’t listen to a thing I say. Seek the advice of a professional, and only invest what you can afford to lose in equities. I’m not even a very experienced stock market investor, so there may be better ways to invest or conduct simple transactions than I’ve shown.

Blam! That sound is my dry powder going off — 15 minutes before the close YLO.UN dipped back down to $8.80 and I bought some more with the very last of my cash.

I have mixed feelings on this event. I am pleased with the value I’m getting — I believe in Yellow Pages as a company (I’m one of the most internet-addicted people there is, and I still use the hard copy Yellow Pages at least once a month), and that they can maintain this level of distributions (12.7% return). Even without any further growth I think that’s pretty decent. I bought some around $12 and $11 on the downward slide, and this brings my average cost to $10.26/share (and my average yield-on-cash to 11%). On the other hand, that’s it, I’m tapped out in terms of buying values in a rough market, and I’m not sure yet that this is the bottom or that this was the best value I’ll be faced with in the near future.

This was a stressful thing for me. My heart was racing and my skin was cold. I was pretty scared that the market knew something I didn’t, that Yellow Pages was secretly in the throes of an accounting scandal or was going out of business even faster than the internet-based alternatives could dream of. I was afraid that there was more trouble in the market to come (or more trouble with my car!) and that I should keep that cash at the ready. But the side of me that saw this as a good place to put my money, and that saw my own fear as perhaps something that was gripping the other investors out there (even if I don’t see any evidence of it out in the media/blogosphere) and that this was a good time to be greedy ended up winning out. Of course, this now means some more tranquil times for me ahead: no more wrenching decisions about which great value is awaiting my investing cash, since now I have no more. All new cash (from dividends, etc) is going to be plowed back into TD’s e-series index funds, per my plan. For the next little while, it looks like my stock picking days might be over and I can relax into the hold phase of my buy-and-hold strategy.

I know that my very limited readership is probably bored to tears by the continued stock market updates, but I just can’t help but vent.

So here we are on a Monday before the market closes for Canada Day on Tuesday, and things aren’t going so well. CIBC is having the shit kicked out of it, down 4% or so on the day. It’s at a new low — yes, lower than on the panicked day when Bear Sterns was going under. When there was blood in the streets and people were running around afraid that banks might be going out of business and people might go back to the days of closing leveraged buyouts with sparkly beads and seashells… CIBC today is below the price set on that day. I appreciate that the banks, CIBC in particular, have had a rough run of it, and the earnings for the next year or two are expected to be dismal due to the whole credit mess. Added to that is the growing realization that Canadian real estate is not a special unique snowflake, and that there may be some additional pain to factor in for the Canadian banks as we finally find out how many zero-down condo speculators really are in the market. However, there’s no news, no commentary, nothing that should be driving this kind of sell-off today, which is a bit worrisome. But despite all that, I still can’t help but feel that banks might be, you know, a bit of a value at these prices. Of course, that’s tough to say since it’s kind of hard to tell what part of a bank’s balance sheet is actually junk, as well as what the economy might have in store. As my dad says, a stock is not a value just because it’s less than it was. You’ve got to see if the value of the underlying company is there.

Yellow Pages has also had a rough day, and I nearly bought some more, using the last of my “dry powder”. It went down below $8.80 today, and I thought that was just getting a bit ridiculous (and also a new low). The yield at that point is something like 12.7%, and I figured that that was higher than the long-term expected return of the stock market, so if I could lock in for that then I’d be sitting pretty. I put my bid in at $8.80, but by the time I finished entering all the info, the price had moved back up. I wasn’t too interested in chasing the price up, even though it’s only a difference of a few cents, since the brief chance to second guess myself made me value holding on to that cash and waiting to see how much worse things get. I’m leaving the bid in until the end of the day — I think it’s a good value if there is a reversal towards the close — and then I’ll see what tomorrow and the next day and the rest of the year brings in terms of value.

Another nasty day on the stock market today, and a new-found 52-week low for the Dow. Back in January/February I was buying up “values” like crazy on dips like this, but these days I’m finding it harder to stay positive that the end of the bleeding is near, and that things might at least stabilize even if not turn bullish in the near future. After watching “A Crude Awakening” I’m even worried that we might truly be on the cusp of the Second Great Depression. That despair itself might help indicate a market bottom, but since I only have a bit of “dry powder” cash left I think I might be sitting out any more buying for a few weeks or months until I see a real gem.

It was an added psychological blow today when I saw that my capital for the year to date was down over 10%. The real story is not quite that bad, as distributions and dividends have made my overall return a less than 5% loss — beating the S&P500 and the Dow for these 6 months, but not the TSX. Unfortunately, my worst two performers were my most recent buys and the two companies that I thought I snatched up at real bargain prices: GE and Yellow Pages (each down about 20%). I am tempted to be greedy and dollar-cost average or “double down” into either one at this point, but am having real trouble trusting my value-trap avoidance senses, especially after how they’ve performed in the last 2 months. I could be really greedy if I thought that this was the market bottom (or close enough to it) and get some leveraging going, which has been something I’ve avoided as being outside my risk comfort zone.

A guy I used to work for is a big believer in the power of leveraging to multiply returns. Unfortunately, today’s market downturn triggered a margin call for him and that is a very unfortunate, very painful situation to be in. He still thinks that I should maybe look into getting a 5-10% leverage… but is now suggesting that I wait a few months before taking that plunge.

Anyhow, Netbug asked in a recent comment about how to get into the stock market in the first place, so maybe in a few days I’ll do up a post on that, though I’ll probably talk to him via other channels directly, and let that experience guide me in setting up a template (plus it’ll give me a chance to search the other personal finance blogs, as I’m sure CC or MDJ has a post of that sort in their archives.

“Be greedy when others are fearful.” Is the mantra of Warren Buffet, and I’ve been trying to take advantage of stocks that I think might be undervalued during the turmoil in the market this year. Unfortunately, it’s been pretty tough, and I’ve grabbed a few falling knives: GE and YLO.UN are two that stick in my mind (aside from the banks, that is). Both were hit pretty hard this week to find new lows today. While I have plenty of each, I do still have my last bit of “dry powder” to double-down or dollar cost average into one. I liked each of them at the point where I bought them (GE at $32.50 and YLO.UN at $11.50), and don’t really see the potential return from either one being all that different today… nonetheless, I find it’s hard to feel brave and invest in much right now. I’m still rolling my dividends/new money into the index funds, though unfortunately that happened at the beginning of this week rather than today. But other than that I find it very easy to second guess myself and very difficult to be greedy while others are fearful.

I think it’s because I’m getting a different “vibe” from the market right now than I was from the sell-off in January/February when I did much of my buying. It could be because I’m in PEI and not watching the news, but there doesn’t seem to be blood in the streets or the stench of fear in the air. Bear Sterns isn’t going under, there isn’t a panic that banking as we know it might be ended forever, which almost makes me wonder if the sell-off is for “real” reasons in the fundamentals or outlook rather than an emotional over-reaction. That of course makes me afraid of potential value-traps — especially since my previous “values” haven’t done so well in the last few months, which can really eat away at one’s confidence.

However, as the interest rates drop, having some cash sitting in my high interest savings account looks like a poorer and poorer idea. While I do like having it there as an emergency fund and/or car payment fund (which might be needed in <2 years, so shouldn’t really be in the stock market), the dividend yields of some companies looks very appealing to get paid to wait for a recovery in banks, or GE, or YLO…

For now, I think I will continue to be patient and sit on my dry powder, and see if the market makes a new low beyond what was seen in March, and maybe buy then.