that's it, check out our daily segment. see you back here next monday at 5:00 p.m. eastern time. meantime have a safe and happy halloween. my mission is simple. to make you money. i'm here to level the playing field for all investors. there's always a bull market somewhere. and i promise to help you find it. "mad money" starts now. hey, i'm cramer. welcome to "mad money." welcome to cramerica. other people want to make friends, i'm just trying to make you a little money. my job is not just to entertain you, but to educate and teach you, so call me at 1-800-743-cnbc or tweet me @jimcramer. tonight i want to take a step back and talk about the big picture. my ultimate goal in this show, as always, is to teach you how to become better at managing your money. not just investing, but every
aspect of your financial life. and sometimes that means we need to take a deep breath, step back from the day-to-day nitty-gritty of the market, and focus on the educational side of things. what i call investing 101. honestly, if any university was ever crazy enough to give me tenure, i could teach an entire semester's worth of classes on just the basics. but that presupposes any institution of higher education here in america would even be interested in teaching you how to manage your money. most schools are much more interested in taking your money than helping you make money search that's why you can get a bachelor's degree in economics without knowing how to balance a checkbo checkbook. that's not going to change, but we can do our best here at "mad money" to help. so, investing 101. what's the first item on my syllabus in this class? we need to talk about savings, because if you don't save your money, you're going to spend the rest of your life as a slave to
your paycheck. [ buzzer ] or hostage to the social security system. and for those of you in your 20s right now, who knows if social security will even still be around by the time you need it when you retire. more importantly, i can't teach you how to invest your money if you don't have any money to invest. that's why it's really crucial that you save, and save consistently. look, i'm not going to tell you all the reasons it makes sense for you to save money. you don't need one more person badgering you about the obvious, one day you're going to need that money, whether it's to buy your house or simply so you can retire on more than just social security, which you will need more than. trust me. for most of you when you hit retirement, social security, it's not going to be enough. plus, social security can always be altered or taken away by washington. which makes it inherently unreliable. it wasn't so long ago that the president and congress were both willing to change the way social security keeps up with inflation. something that would have meant serious de facto cuts in benefits for those of you who expect to collect them 20 to 30 years from now. these changes didn't actually
happen. because nobody in washington can ever agree on anything anyway. but if things ever get more amicable in the capitol, you should be prepared for them to start tinkering with your social security, and i have to tell you i don't think it will be in a good way. look, that's all the nagging i'm going to do tonight, okay? honestly, from my perspective, the best reason to save is not that it will ensure you that you have to subsist on cat food in your old age. no, the real reason to save money, a reason that i think may do a better job of motivating many of you, is that for the vast majority of people in this country, you're never going to get rich from your paycheck alone. look, that's just a fact. for everybody who is worried about income inequality or the growing lack of social mobility out there, there's not much you can do to fix our system of late stage capitalism on your own. but there are still ways you can help yourself. mainly you could increase your wealth pretty dramatically by saving part of your paycheck and
investing that money in stocks. as long as you invest it wisely. that's my reasoning. if you don't save or you don't save enough, then you're at best a hostage to that paycheck and your job and your boss. when you're living from paycheck to paycheck, you don't really have the option of quitting your job, even if it's horrible and your employer is the biggest jerk in the world, your only options are to keep doing something that makes you miserable or go broke and possibly lose everything, including your home, which is even more miserable, as i can tell you from my personal experience. trust me, the back seat of your car a lousy place to live. so i don't need to go over it any more, but you can see, i know where of i speak. however, if you save and invest your money year after year, if you grow your assets, and for those of you in the dark about how to do that i suggest you pick up a copy of "get rich carefully." you won't be hostage to anybody, and that makes life a whole lot more enjoyable. it may not be fair, but we live in a world where wealth is
pretty much synonymous with freedom, which is pretty darn good reason to save 15% of your paycheck, if you can afford to, or at least 10% if you're really strapped for cash. once you start saving money, though, you have to know where to put it. and that's an issue that we don't spend nearly enough time talking about on "mad money." let's say you're saving 15% of your income, where should you invest that cash? that's optimal. how much of it should go into a tax favored retirement account like a 401k or i.r.a.? these are the questions i get all the time. so let me tell you the answers. my rule of thumb here is to invest for retirement first. because the bet against retirement is really a bet against your own longevity. for those of you who are still decades away from retirement age, i recommend putting half to 2/3 of your savings in your retirement accounts like a 401k or an individual retirement account. remember, these are tax-favored vehicle. mean you don't pay any income tax on the money.
you don't pay any taxes on your profits within the account. you only pay taxes once you decide to withdraw the money after you've retired. at which point your withdrawals are tax as ordinary income. i've told you about how to use these retirement accounts before, so i'm not going to belabor the point. half to 2/3 of your savings should go to retirement. what about the rest of your money? that goes into your discretionary, or mad money account. that's just a normal brokerage account. i recommend using a cheap online broker with low commissions if you're going to go my way here. there are two reasons why you should have parallel accounts like this. the first is simply at the rise of 401k and i.r.a. plans means that your retirement money gets all sorts of special tax benefits. you can't take advantage of those benefits with money that you intend to spend before retirement. unless you're using a roth i.r.a. but in the case of a roth, your contributions are taxed going in, and while you're allowed to withdraw those contributions early without any penalty, you still get hit with a penalty for withdrawing any of your profits early. if you don't feel like you have enough capital to justify
keeping two separate accounts, one for retirement, one for discretionary investing, then a roth i.r.a. is a good way to square that circle, especially since a roth is more favorable to younger people with lower incomes than a regular i.r.a. there's a second reason i recommend using two different portfolios, though. you're supposed to take fewer risks with your retirement money. you can take more risks in your discretionary mad money portfolio. although when you're young, there's much less difference. if you're at the age of 30, you can afford to take risks with all of your money, because as i tell you all the time, you've got your whole life ahead of you to make back any losses. here's the bottom line. don't think about saving money as the mature responsible way to make sure you have a comfortable future. no. think about savings as the fuel for investments in the stock market. investments that when done correctly could free you from the shackles of your paycheck and even make you, well, let's just say, especially rich. that's why you should have a retirement portfolio to make sure you've got enough money once you stop working.
and you should also have a discretionary portfolio where you can take more risks and use your gains to have some fun before you turn 65. deborah in california. deborah? >> caller: hi, jim. thanks so much for the show. love it. >> of course. thank you so much. >> caller: my question is, i frequently hear you and other analysts say to buy a stock on a pullback. >> right. >> caller: but nobody ever says how to determine how much of a pullback we should be looking for. so how do i determine when it's the time -- how far it has to pull back? >> okay this is a great question. and i have an answer. i always say it's a 5% to 8%. 5% to 8% from the 52-week high is where i would start buying. i don't like to get started before then, because i don't want to risk that the next move down will force my hand. 5% to 8% and a little bit of
room, rather than 2% to 3% down. alan in new york. alan? >> caller: boo-yah, professor cramer! >> thank you so much for that degree. how can i help you? >> caller: hi. i know that you always say that when you're ahead, you should take some profits off the table. when you have profit on core holdings, that still have big upside, you keep or sell and invest in something else? >> okay, my goal, since i started investing, my first trade in 1978 is to play with the house's money. take your time scaling out of a core holding. you can even tab it as a franchise player. but when you have a double, i need some money to come off. when you have another double, you need some money to come off. but the goal is to play with the house's money and never touch it again. because you can't lose. that's the way it should be played. trust me. that's how it's done. debbie in idaho. debbie? >> caller: hi, jim.
we've been getting those invitations for dinner and a financial presentation that usually includes a free consultation. while we've been successful at accumulating money in our 401ks over the years, with the assistance of somebody we trust, we've moved and we're considering a change. so we're now getting close to 60 years old, and are looking for a different plan, one that includes income distribution, social security maximizization and tax savings. so what should we look for in a financial or an adviser at this stage of our life? >> okay, you have got to get invested in your community. a civic activity. a ymca, which i support. you know, some organization locally. and then get some feedback. i demand that people have some sort of contact with friends who use these people. because referrals are the only
way to be sure. not advertising. not seminars, but referrals. okay, a penny saved is a penny earned. think about your savings as the fuel for your investments. you don't have to be held hostage to your paycheck. and "mad money" will be right back. now, on "mad" tonight, how many is too many? find out how many stocks you should own, and i'll show you thousand master the art of diversification.how to master t diversification. how does a stock really work? i'll show you how to figure it out. plus, a lesson on how much cash you should carry around in your portfolio. stick with cramer. don't miss a second of "mad money." follow @jimcramer on twitter. have a question? tweet cramer, #madtweets. send jim an e-mail to email@example.com. or give us a call at 1-800-743-cnbc. miss something? head to madmoney.cnbc.com.
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portfolio using a 401k or i.r.a. and a more discretionary mad money portfolio that you can manage out of a regular brokerage account. but how exactly can you start to get involved in the stock market? where do you even begin? my short answer, and i know this will sound glib, but i'm totally serious, buy a copy of "get rich carefully." i wrote that book to tell you how to invest in this not so brave new world. how about the longer answer? less promotional. i believe that a diversified portfolio of five to ten individual stocks is the best way to go. remember, you can do the index fund, but now i'm talking about the other part, all right? before you start picking stocks, you need to forget everything you've heard about that classic piece of so-called investing wisdom buy and hold. we don't buy and hold on "mad money." that's reckless. instead, we practice buying and then doing homework once we've bought. buy and homework. that means if you're going to
pick individual stocks, you have to be willing to read a company's s.e.c. filings, which i do love. the conference calls. you've got to do all that. the most important element of the homework is beginning over the earnings reports, and not just the earnings release. you actually do have to read the transcripts of these calls and they are so readily available, people. they're everywhere on the web. there's no better source of information than these calls. and now it's incredibly easy to read them or listen to them online. you also have to research the company's sector. try to figure out if there's a good moment in the business cycle to own things in the particular industry you're looking at, and then compare the stock to its competitors to see if its valuation make sense, or maybe something else is a more attractive buy in that exact same sector. if you're not willing to put in at least that much work, nope, i don't want you to do it. i want you to stay away from owning individual stocks. this is jim cramer saying it. mr. stock is telling you i don't want you to touch stocks. the fact is investing like
everything else in life takes effort if you want to do a good job. but i'm not trying to guilt trip you into spending more time doing your homework. i know a lot of people who simply don't have the time or the inclination to do the individual stock research that i believe is so essential. if you're one of those people who lacks the time or the interest, please don't try to wing it. i mean, i'll give you a good alternative in a second. and to have a meaningful diversified portfolio, you really need $10,000. until then, until you have that much saved up, there's not much point in going into individual stocks. so where should you invest your money if you don't have $10,000 to invest in individual stocks or you just don't have the time to manage your portfolio of at least five stocks? in that case, put your money in an index fund. yes, i'm endorsing index funds. mr. stocks endorsing mr. index. specifically you want a cheap index fund with low fees that mirrors the s&p 500.
now, you'll never beat the market with an index fund. the whole idea is that an index fund is the market. so if you put your money in a fund that mirrors the s&p 500, you'll have the same benchmark performance. you'll have the performance exactly like what the s&p gives you, minus whatever fees you have to pay to the funds administrator. that's why i always say picking your own stocks is the best option, but for those that can't commit to stock picking for whatever reason, keeping your money in an index fund that mirrors the s&p 500, that is a perfectly reasonable, responsible way to go. i happen to like the vanguard 500 index fund. that's vfinx. very low funds. the first step is to build yourself that diversified portfolio that i mentioned earlier. i'm always getting questions about what constitutes a diversified portfolio and what you should put in it, so let me spell things out for you. diversification is simple, but people are always tempted to forget about it, which is why we try to play and diversify every week here on the show. but in a nutshell, you're
diversified with no more than 20% of your portfolio is in the same sector. diversification is all-important, because if something happens that crushes one particular group of stocks, you don't want it to eviscerate your entire portfolio. i've seen too many people put all their eggs in one basket and when the basket broke, they lost everything. we saw it in 2000 in tech. we saw it in 2008 with commodities. 2009 with the juicy yields that people couldn't resist. don't repeat that mistake. if you're building a diversified portfolio, you need a minimum of five stocks. on the other hand, my rule of thumb is you don't want to own more than ten stocks because then you're going to have to do way too much homework to keep up with all of them. with more than ten stocks, you'll practically be running your own mutual fund. and that would be hard on anyone with a full-time job, let alone the desire to have even the illusion of a personal life. let me give you an example. first, you might want a tech company that's riding the triple wave of social, mobile, and cloud. second, maybe you own a pipeline
company as a way to play the tremendous surge. third, perhaps a health care name. either a biotech, a big pharma company with a solid yield for the risk, i always talk about bristol-myers. fifth, let's round out things with an entertainment stock. tech, energy, health, retail, entertainment. that's what a diversified portfolio looks like. here's the bottom line. if you're just getting started as an individual investor, remember that to own individual stocks, you need to do homework on each and keep your money spread out among at least five sectors. there's much more "mad money" ahead. including the money factors that determine a stock's price tag. the actual what you pay, that dollar amount. i'm going to help you understand what a holding is really worth, then solving the cash conundrum. how much should you hold in yur portfolio? don't miss my take. plus, everyone should pay their taxes. but are you giving the government too much of your money? i'll help you keep what's yours. stick with cramer.
i take prilosec otc each morning for my frequent heartburn. because it gives me... zero heartburn! prilosec otc. the number 1 doctor-recommended frequent heartburn medicine for 9 straight years. one pill each morning. 24 hours. zero heartburn. why am i taking a step back tonight to focus on the basics of investing 101? because with very few exceptions, almost nobody tries to teach this stuff. nobody at all. you can get a graduate degree without knowing how to read your credit card bill or your bank statement, and this stuff, i've got to tell you, it's driving me
nuts. and that's why i'm trying to teach -- well, it's why i teach you all about how to handle your finances and the base ins of investing. the stuff we normally gloss over in our never ending quest to find you the next bull market. obviously that's what "mad money" is about. but sometimes we've got to step back and do it right. so we've talked about, what, setting something aside for retirement. we talked about homework and diversification, why you should own a portfolio of five to ten stocks. now let's talk about something we don't talk about enough at all, really, because it's hard, and sometimes boring, but i'm going to make it exciting for you. let's talk valuation. when you're picking stocks to fill out your portfolio, how do you tell what's cheap and expensive? you hear me go, oh, that's a cheap stock. whoa, that's an expensive stock. how do you compare stocks on an apples to apples basis? you never judge a stock by its actual dollar price. it's pretty meaningless.
you judge pristocks by their pr to earnings multiple. anyway, valuation is a concept i can use all the time here on "mad money" to show you how we value stocks. but tonight i want to spell it out in more detail. to understand it, you don't even need to know any math. just elementary school arithmetic. here we go. the price of a stock, write this down, that's called p. divided by its earnings per share. that's the e. equals m. the price to earnings multiple. m, the p.e. multiple. you want to look at the earnings estimate for next year. we use the future earnings estimates because that's what the major institutions are looking at. we have to play by their rules. so the multiple is the thing. not the share price, okay? but what exactly makes for an attractive multiple? ten times earnings? 15? 20? here's the thing. this is not an absolute way to value stocks. it's all relative, relative. there's no price-to-earnings multiple that's always
attractive. remember, the reason we use the price-to-earnings multiple method to value stocks is very simple. it's because it gives us the actual apples to apples way to compare one stock with another. let's say general mills, cereal company, trading at 16 times earnings. while competitive cereal company kellogg is trading at 15 times earnings. does that mean general mills is more expensive than kellogg? no, not necessarily. and this is where things get a little more complicated. because the truth is the price-to-earnings multiple by itself doesn't give you nearly enough information to assess a stock's value. the multiple tells you what investors are paying for a company's future earnings stream. but it doesn't tell you why. let's consider the case of salesforce.com, the king of cloud computing. that sells for more than 75 times earnings. does that mean per se that salesforce.com is super expensive versus general mills? may seem like it, but no, in
reality the comparison just doesn't make sense. a slow-growing emphasis, consumer staple play. while salesforce.com is a rapidly growing cloud base software as a service company. these two companies are just in different lengths. but they're also playing a different game. and the reason for that is growth. remember when i said that the price-to-earnings multiple measures what investors are willing to pay for the future earnings stream, the future, that's the keyword. general mills is a relatively slow grower, a long-term growth rate of about 6.5%. investors simply aren't going to pay a nosebleed valuation for those earnings. hence the 16 price-to-earnings multiple because it doesn't grow that fast. salesforce.com, on the other hand, has a long-term growth rate of nearly 30%. that means three or four years down the road, the company's earnings will be much, much larger than they are right now, which is why investors are willing to pay up, really pay up. that's how they get that 75 times price-to-earnings mull
approximately. so when you're assessing a stock based on its multiple, you always have to consider that multiple versus the growth rate. generally speaking, stocks with higher growth will have higher price-to-earnings multiples. the growth rate is definitely the most important factor, which brings me to a whole new valuation metric that underpins our show. it's what's known as the peg ratio. this underpins all of "mad money." it's the price-to-earnin price-to-earnings-to-growth rate. this is way of relating the p.e. multiple to the growth rate and it's not complicated. you just divide the multiple by the long-term growth rate of a company. we're driven by peg rates on stocks whenever we make our judgments and comparisons. and when it comes to the peg ratio, we can talk in more absolute terms about what's a good number and what's a bad number. my rule of thumb, a goodline
that i've arrived at based on more than three decades of trading and investing is i don't like to pay more than two times a company's growth rate for a given stock. meaning any stock with a peg ratio of more than two, i just say no, i'm not going to touch it. >> don't buy, don't buy. >> if a company has a 10% growth rate but trading at more than 20% earnings, i'm generally inclined to say -- >> don't buy, don't buy. >> it's too expensive. sometimes there are companies where the opportunity is so great that you have to suspend traditional analysis. in 2013, momentum stocks soared without any regard for their price-to-earnings multiples. then in the spring of 2014, they fell out of favor. and sometimes there are companies that look expensive on near-term earnings but are darn cheap based on what we call the out years. 2016, '17, '18. by the same token i consider any stock that's trading at a peg ratio of less than one, i
consider that stock to be cheap. many stocks deserve to be cheap and some are what we call value traps. but when you see a high quality company selling for less than one time its growth rate, you might just have a terrific long-term buy. for example, priceline, a company that people are invariably saying wow, that sounds too expensive. sometimes it sells for 18 times earnings but has a 20% growth rate. if priceline's gigantic dollar amount scares you away, just divide everything by ten and then it won't seem so frightening. for those of you new to the game, we use the price-to-earnings multiple to value stocks in relation to each other, and whenever you're making a valuation comparison, you always have to consider the growth rate, too, but if you only take one thing away from this segment, just remember that you can't value stocks in a vacuum. you can only value them in relation to each other, and the index overall. herb in florida. herb? >> caller: sunny florida boo-yah, jim. >> sweet. wish i were there.
>> caller: yeah. listen, jim, i've become a bit of a crameraholic since my retirement. >> thank you. >> caller: i've raised cash preparing for a correction. then went on a bit of a shopping spree. >> okay. >> caller: i messed up on one of your prime directives of trying to keep it under ten. find myself with 45 positions. >> wow. >> caller: i go through them regularly. looking for the weak sisters and i just can't find one. >> here's what you have to do. i'm not asking you to just randomly sell. i want you to rate them on convention. one is a buy. two, if it comes in, you want to buy. three, if it rallies, you want to sell. four, just sell right now. peel off the fours, then peel off the threes. i don't think you should be able to manage more than 20 stocks, frankly, sir. you just can't.
i can do 15 to 20 in-depth with stephanie link, but you know what, when you get over 30, we begin to stretch ourselves, so don't be stretched. fred in utah. fred? >> caller: yes, i want to know what ebeda was and why it's important. >> that's earnings before interest tax. what it does is it makes a look at -- when you have a company that spends a lot of money to buy certain things, that stuff has to be depreciated. it's kind of like an accounting class. but it actually gives you a truer look at the money coming in. take a look at the crash at the beginning of the year. that's another way to be able to value to see whether the company you earn is losing money or making money, which is why we use ebitda sometimes because we need a better depiction than just what we can get from straight earnings per share. stock people are not valued in a vacuum, but only in relation to each other and the indices. we use the price-to-earnings multiple and always consider the
stock's growth rate along with it to factor in the price. much more ahead. they say cash is king. but how much should you hold in your portfolio? don't miss my take. then uncle sam is very hungry. i'll help you make sure you're not feeding him too much of your hard-earned money. plus, i'm taking on your tweets. stick with cramer.
how we like to buy them on "mad money." because you can't buy low if all your money is already committed at higher levels. how much cash should you keep in your portfolio so you can pounce during the market's next moment of weakness? and you know they always come along. first of all, your best chance to prepare for the market's next selloff is when the averages are riding high. the best way to do that is by stockpiling some cash in your portfolio. remember, we sell strength on this show, not weakness. let me make one thing crystal clear. you should always have some cash in your portfolio. in fact, you might say that there are moments when cash is your most important position. too many of the people i talk to tend to be fully invested all the time. meaning they have 100% of their portfolio invested in stocks or bonds for that matter. some are even reckless enough to borrow money to own stocks. >> boo! >> i've got news for you. being fully invested s something you should almost never do.
having no cash in your portfolio removes all your flexibility in the downturn. borrowing money to buy stocks, who do you think you are to be that confident, to be that brazen, to be that foolish? using margin is the height of arrogance. it's bound to get you in trouble. so don't do it. even though i know many brokers do encourage such borrowing because they can make a little extra money off you. okay, so how much cash exactly should you leave in your portfolio at any given time? that varies. i will say this, my travel trust, which you can follow along at actionowners.com, which is a paid service as part of thestreet.com, i like to keep my cash position at 5% at any time. anything below, it might as well be running on empty. you should try to have that 5% figure to be the absolute minimum so you're ready for the next big selloff that others aren't expecting. now, how do we figure out what's the right amount of cash in any particular moment? this is something that's actually pretty
counterintuitive, which is i decided to devote an entire segment to explaining it. the higher the stock market goes, the more cash you should be keeping on the sidelines. you heard me right. when the averages have heard an incredible run. when stocks are making a killing, that's the moment when you actually want to increase your portfolio's cash position. >> sell, sell, sell. >> how does that make sense? shouldn't you want more exposure to stocks when the market's on fire. remember the reason you need cash in the first place. it's so you can be at a position to buy more stock the next time you catch a pullback. you need to have cash in your portfolio if you go to take advantage of the pullbacks in the market and there are always going to be pullbacks. that means the best time to raise cash is when the market is really moving. if you wait for a selloff to start raising cash, you're just going to end up selling stocks at lower prices, perhaps at the exact moment when you should be buying them. after a big run that's taken the averages up to their all-time highs, it doesn't have to hit the exact all-time highs, it
might make sense to err on the higher side if you're concerned that the rally could be on its last legs. you should always be thinking that could be the case. you may feel like keeping such a large cash position could cause you to miss out on some upside. but the point here is that the next time we catch a downdraft, you'll be able to quickly put that cash to work, buying more of your favorite stocks. keep in mind, there's always another selloff. i have to pound that in because there always is. whenever the next one happens, you don't want to be caught with your pants down. finally, is there ever a moment when it makes sense to put all of your cash to work? theoretically, yes. there are times when you do want to be fully invested. when you should pour all of your cash into stocks. but those times are rare. like the haynes bottom that we had many years ago for the late great mark haynes. that was a moment. we don't get many of those moments, though. my rule of thumb is you only put all of your cash to work after a dramatic selloff, and i'm talking about a decline of at least 10% in the s&p 500. so for example, when the s&p plunged roughly 6% from late
december of 2013 to its lows of late february 2014, that would have been a terrific moment to move a big chunk of your cash position into stocks. but that wasn't a 10% decline, so you should have still kept some cash back on the sidelines, just in case the market went even lower. when i tell you to keep 5% of your portfolio in cash at all times, that 5% cash position is there precisely so you can use it to take advantage of the next 10% decline in the averages. or 10% decline in some of your favorite stocks. hopefully you'll have to wait a long time before that happens. when it does, i want you to be prepared. a lot of my favorite stocks have been down 10% in the last couple years and it's been the right time to buy them, not sell them. why am i so emphatic about the need to have cash in your portfolio? i know it's fashionable so you can't beat the averages. but by shrewdly keeping the cash position at the ready, i was able to triple the performance of the averages, after all fees for 14 years. i was able to triple. so it's not just wow, you can never beat it, because i did. living and breathing embodiment,
and it was cash that made me king. here's the bottom line. never underestimate the importance of keeping some cash in your portfolio. you need it if you want to be able to quickly and carefully buy stocks in the weakness. so those of you who are fully invested, use the market's next up draft to build up your cash position by selling some stocks into strength. that's simply the kind of discipline you need to practice, if you want to be a good investor. oh, you know what else you can call it? hmm, how about this? buy low and sell high. has that ever really gone out of style? "mad money's" back after the break. take a photo and twee tweet @jimcramer. it's cramer's stock photography. (receptionist) gunderman group.
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investing 101. when we're dealing with financial planning, we have to talk about those things in life that inevitable. no, i'm not referring to death. talking about the end of life planning or how to set up a living will. too morbid even for me. i mean taxes, which you believe some people on tv, may be worse than death. a lot of people like to wait until the end of the year or even until we get right up until that april 15th tax deadline before we talk about tax planning. tax planning is something you need to understand and you understand year round. why? because of the difference between how we tax long-term and short-term capital gains. the capital gains issue has troubled investors for ages. if you buy a stock and sell it less than a year later, your profit counts as short-term capital gains and they get taxed at the income rate, which is very high. thank you for bringing that top rate back. >> boo! >> and i mean that as insincerely as possible. if you hold on to a stock for over a year, suddenly your profit becomes a long-term
capital gain in the eyes of the irs. even under the new higher tax obama regime, the long-term capital gain rate is just 15% for most people. if you're in one of the higher tax brackets, that rate becomes 20%, still much cheaper than the 39.6 rate you might be paying. for those of you in the top three tax brackets, there's now a 3.8% surtax on what you have to pay, or you modified adjustment gross income, which means the actual long-term capital gains rate may be 23.8% in many cases. that's still heck of a lot lower than some of these same tax brackets. so here's the real issue. when many of you look over your taxes and see how much more you're paying for short-term money, that you've made in less than a year, i know you're going to be kicking yourself and saying how could i be so stupid? i had just held the darn thing for over a year, i'd be in tax heaven, with those still super low long-term capital gains rates and that's a problem. all else equal, i think it's a very bad to let tax planning have too much control of your
portfolio. just think about it like this. imagine you owned all those biotechs and cloud-based softwares that were red-hot in the second half of 2013. suppose you'd owned these stocks for eight months already. and let's say you decided these gains are so huge, i don't want to have to pay the tax man that horrible short-term capital gains rate. instead, if i just hold them for three months longer so that that holding period is over a year, i'll be in the clearing, and my tax bill and these holdings will be nearly cut in half, thanks to the wonders of the long-term ca capital gains rate. in other words, suppose you let tax planning drive your decision making over the first four months of 2014. remember, these stocks were eviscerated. during the spring of 2014. the gains, they evaporated almost overnight. you see what happened? if you held on to the high-flying biotechs and cloud stocks just so you could get the benefit of paying lower long-term gains rate, in that
case, let's just say you probably lost all your gains. i'm not saying you'll give up your gains every time you decide to hold on to a stock simply for tax reasons, but i am saying you should never stop holding a stock that could have an iffy future because the stock is so expensive, just so you can avoid paying the higher short-term capital gains rate. that's not because i have a problem with tax avoidance. tax avoidance is both legal and terrific. remember, not talking about tax evasion. that's illegal. you own stocks because you believe they're going higher. you don't own them -- you don't keep owning them solely in order to flex around with your tax bill, when you think there may be problems with the businesses underneath, or you're worried that they've gotten overvalued and you know you're being greedy. that's why when it comes to investing, i've always had one simple rule. it's okay to pay taxes. you don't have to like it. but you do have to accept it. whenever you make money, the government's going to take its cut. that's just the way it works. but you shouldn't let these t considerations drive your investment decisions. you don't need to add another
whole step to the process. how many more months do i need to to hold this thing to get that lower 20% long-term capital gains rate test, even though the business might be faltering? no. of course, if you've owned the stock for 364 days and decide to sell it, there's no harm waiting a couple more days so you can cross the one-year threshold. but unless you're right on the threshold, taxes simply shouldn't be a factor when you're deciding to sell something. let me give you the bottom line here. there's a lot you can do to minimize the damage uncle sam has to do to you on tax day. take every deduction you can legally get away with, but don't let the difference between short-term and long-term capital gains rates drive your investment strategy. just tell yourself what i used to tell myself at my old hedge fund. it's okay to pay the tax man. more important, it's a sin to give up your gains. stick with cramer. jim cramer, you're one of my heroes. >> i look forward to your show every weeknight. >> thank you so much for helping beginning investors like me.
who wants to know, can school be back in session. please explain #stockoptions so even a 2-year-old could understand. would really appreciate it. thank you. first of all, this is not reddit. i can't do it. what i'll tell you is in the book, getting back to even, i started to write a chapter that was meant to be able to explain to people options. it started in 25 pages and expanded to 50. by the time i finished, it was 110 pages. why? because they're that hard to understand. which is why i rarely talk about them on the show. no such thing as easy learning about options. oh, here's kevin. just used a copy of real money to smash a fly. thanks for the advice and help around the house. [ laughter ] you know, it's funny. i remember reading your seminal text and i smashed a spider with it. anyway, whatever's useful. fine, great. i like fly swatters.
you can get them at dollar tree. okay, what's your favorite boyz ii men song, jimbo. >> "end of the road." >> how about "end of the road"? not bad, right? pulled that one right out. ha ha! greg wants advice. he tweets the following. don't need a lot of money. what's a good percent of retirement account to have in fixed income or bond? i'm going to allow you to have some fixed income. i'm recommending the bond market equivalent stocks. i'm going to stick with that, then we'll do some bond work, not until then. mike wants to know why does the yen strengthen? the yen is a manipulated stock.
it's a currency. the government manipulates it. who knows what the government's doing over there? all i can tell you is that country has not produced a good return in the stock market and everyone keeps thinking it's about to. i remember when that market was worth so much more than ours. i said short it and buy the dow. i still don't like japan. i like the country. not the stock market. stick with cramer. cramer! you are super. you are awesome. >> i'm a first-time investor. >> thank you for inspiring me to get in the game. >> your show is the best. i am so glad you're on tv. >> i want you the know that you have transformed me. >> thank you, cramer. the equipment tracking system will get you to the loading dock. ♪ there should be a truck leaving now. i got it. now jump off the bridge. what? in 3...2...1... are you kidding me?
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thanks for watching this special show. there's always a bull market somewhere. i promise to try to find it just >> the following is a cnbc original. >> high above the coast of maine, a single-prop cessna is headed 23 miles out to sea. it's bound for matinicus, the most remote inhabited island on the atlantic seaboard. amazon has extended its reach so completely into the fabric of american life, it's even made it here. >> beyond that island, the nearest land is portugal. yes, it is remote.