About the author Bruce Gould is the author of the "Dow Jones-Irwin Guide to Commodities Trading". He is a former commodity price analyst for a FORTUNE 500 corporation. For ten years he wrote a newsletter, "Bruce Gould on Commodities", which was widely read throughout the commodity trading community. He is the author of the book, "How to Make Money in Commodities", the "Greatest Money Book Ever Written", and the "Commodities Trading Manual". He has also published numerous other trading manuals and guides. He first began trading stocks in 1965 and opened his first futures account in 1967. He has over 30 years of experience following the financial markets of the United States and Europe. The 52 lessons of his online newsletter are structured to help any investor who is interested in investing in commodities, stocks, futures or options contracts. These lessons are free to all online subscribers He currently devotes his time to helping new and experienced commodity and option investors work toward their goal of becoming successful traders and investors in the nation's commodity and option markets.

Lesson 1

A friend of mine once told me a very interesting story. It seems that he had an uncle who was the manager of a very large investment bank in a very famous town in Europe. When he was a young man he worked for his uncle and my friend was put in charge of taking a very large position in the cotton futures market. He was told, by his uncle, that he was to manage this futures position in cotton and manage it well on behalf of the investment bank. It seems that this bank did a great deal of business in cash cotton and used the cotton futures market as a hedge against their cash needs.

The young employee, wanting to impress the firm and his uncle, bought many contracts of cotton for future delivery. That was okay as far as it went.

But, unfortunately for him and the firm, the price of cotton declined after the young man's purchases. Declined substantially. At one point, the loss to the firm was over $1,000,000.00. It was not a realized loss, since the young man had not yet sold the cotton, but it was a loss on paper. A loss that would be realized just as soon as the positions were sold. What to do, pondered my friend? What to do?

Eventually, as always happens, he was forced to walk into his uncle's office and confess the error that had been made. It was a straight forward situation. Large quantities of cotton had been purchased on the futures markets, the price had declined, the unrealized loss was over $1,000,000.00. "What shall I do", asked my friend of his relative and employer? "What shall I do"?

What do you think his uncle told him? And how can that advice given so many years ago to a novice cotton trader be helpful to you today as you ponder your own position in stocks, futures, or options? Remember, as in most cases, his superior, who just happened to be his uncle, did not become his superior due to a lack of intelligence or diligence. His superior became his superior because he most likely was superior, in experience, talent, or simply in survival and staying power. This is the advice that his uncle gave him and it is advice which you should write down for yourself and never forget,

First, he told the young employee to be ready to walk out of his office.

Second, he told the young cotton trader never to walk into his office again until he already knew the answer to the question he was going to ask.

And then his uncle proceeded to help his young relative. He said that whenever one takes a position in a stock, in a bond, in a commodity futures contract, in a stock option or in a commodity futures option, one should always ask themselves the "what if" question. No investment should ever be made without having asked that question and having an answer for it.

In this case, the question would have been "what am I going to do if I find myself and the firm with a $1,000,000.00 loss in cotton futures one day?". The time to ask this question, said his uncle, is before one takes a position in cotton, not after the loss has occurred. And the answer should be arrived at before one makes the investment, not after the investment has gone sour. In other words, had the young man wanted an answer to the question, he should have received it from his senior associates prior to the million dollar loss having occurred, not after it had occurred. If such had happened, he would have known the answer before he entered his uncle's office. He and his uncle would have discussed it many days, weeks, months earlier and all the young man would have had to do is to announce what the answer was, not ask the question for the first time.

How does this story affect you as a stock investor, futures or options trader? It should be very good advice to you for one sound reason.

The uncle's merchant banking firm was a privately held bank which had survived for many years during periods of war, depression, inflation, hyperinflation, and stagnation. This was a bank which had been very successful. It did not become successful by accident. It became successful because the owners knew the rules to follow in order to be successful. One of the rules was that just conveyed to the young man who was just starting out - "never ask a major question about your financial investments that you have not already considered and arrived at an answer for".

For my friend, his questions should have been asked before the beginning of his cotton future purchases. He should have knocked on the door of his uncle and asked for an hour of his time. He should have explained to him that he planned to buy contracts at these different price levels and that it was possible the market would move against his position before it moved in his favor. He should have received advice or clearance as to what type paper loss the firm was willing to absorb in order to hold the cotton trades. Was the firm willing to absorb $1,000.00, $10,000.00, $100,000.00, $1,000.000.00. If the limit of risk that the firm would absorb was $1,000.00, should he get out at that level. If it was $10,000.00 should he liquidate then? What if the risk was $1,000,000.00 and what if that level was reached, should the positions then be sold for the $1,000,000.00 loss? All this should have been discussed, considered, resolved before the very first trade in cotton was made. Had that happened, my friend would never have had to walk into his uncle's office with a question he did not know the answer to, the answer would have been decided long before the trade was ever made.

Whenever you buy a stock, a futures contract, an option, you should always, before you invest any money in that opportunity, ask yourself the same 'what if' question. What are you going to do if this or that happens? What are you going to do if you find yourself with a $500.00 or $1,000.00 loss in your stock or futures or option position?

You should, like my young friend, know the answer to that before you take your position and you should have it always present in your mind or in a notebook on your desk or written down in the ledger where you keep track of your stock or commodity trades. Knowing before you start what you are going to do if adversity occurs will allow you to plan for adversity and make the intelligent decisions that you must make if you hope, like the merchant bank above, to survive and prosper for a long long time. It can best be summed up in a single sentence,

Before investing capital in any enterprise, have a plan for what you will do in the event that the markets turn against you.

If you have such a plan, you will always be prepared for whatever may happen. If you have a plan to liquidate your position whenever you have a $1,000.00 loss, you will never have to consider what you will do when you have a $5,000.00 loss. You will never have to consider what you will do when you have a $10,000.00 loss, you will have sold your position long before any such loss ever occurred. You will never have to worry about the $1,000,000.00 loss. You will never be surprised. You will never be without a plan. You will always be prepared.

How did the cotton trade turn out? Actually, it turned out quite well for this merchant bank and there should have been a couple of hints in this story that it would turn out well. What was the first hint? The first hint was that this was a merchant bank. You do not get to be a merchant bank by being stupid. The second hint was that my friend was telling me a story about his firm and his uncle, he was not telling me a story about his ex-firm and his uncle. It seems that this merchant bank was a very large buyer of cash cotton which it bought on the cash market. Whereas, it might have had to spend $10,000,000.00 for cotton at the cash market before, with the decline in prices it now only had to spend $9,000,000.00. Thus a million dollar loss was not actually a net loss to the firm. There is something else that my friend told me. He told me that his uncle knew all the time the amount of the loss he had suffered. That his uncle had simply had the accounting officer keep him appraised of the position from the first day it had been taken. The uncle was not surprised at the loss, he had known all about it from the day it had started to accrue. My friend only thought he was acting alone, actually he was being watched over like a hawk at all times by someone who was not only senior in age, but senior in trading cotton futures experience. It appears that some of the trades my friend made had been offset by spread trades made by his uncle. The firm never actually suffered the million dollar loss, only my friend had thought it had, as most of the losses had been offset by the uncle whose responsibility was making sure that his merchant bank survived long enough so that the trainees could take over and make the necessary decisions to allow the merchant bank to be passed on to yet a fourth and fifth generation. My friend, however, never forgot the advice he had been given and he followed it for the rest of his life.

Always remember,

Before investing capital in any enterprise, have a plan for what you will do in the event that the markets turn against you.

 

Lesson 2

I first began trading the stock market back in 1965. I was 23 years old and a graduate of The George Washington University in Washington D.C. I was in the nation's capital when President Kennedy was shot and well do I remember his funeral, the crowds of people who came to Washington during that time, and the saddness of the event. My parents always remembered where they were when they heard of the news of President Roosevelt's death. I remember where I was when I learned about Dallas and the shots from the School Book Depository. I was in the basement of my Foggy Bottom apartment doing my laundry. A stranger came up to me and asked if I had heard that President Kennedy had been shot. As long as I live, I won't ever forget that moment.

By April of 1967, I considered myself an experienced stock market investor and I decided to try my hand in futures contracts. Not that I knew a lot about futures in April of 1967, I didn't. But if not knowing a lot about a topic kept people from acting, the world would be a much less interesting place than it is. I walked into a brokerage office and decided to give the futures market a serious try. I opened an account and deposited $5,000.00 into it. "Live and learn" is a well known expression and "live and learn" is what I was about to do.

The market I decided to invest in was experiencing a quiet phase. Everyone following that market was waiting for some economic news before deciding whether to buy or sell. Being a novice trader, I decided to make a bet that the market was going to go up once the news came out. Few novice traders ever do anything else. How often will a new trader go short stocks or futures or anything else? While I waited for the economic news to be released the market stayed rather stable. Then came the news and the market made its move. It was a move substantially in my favor. One of the oldest trading rules in existance is to pour good money after good and that is exactly what I did. I added to my futures position by buying additional contracts.

It was, as I recall, three weeks to the day from the time I opened the futures account at that brokerage firm that I closed out my long position, sold my futures contracts and realized a net profit of $10,000.00. I had invested $5,000.00 in original margin money, added another $5,000.00 later to double my position, and in three weeks from the time I had opened that account, I had made a 100% profit on my money. Percentage wise, my three week profit in futures exceeded the net profit that I had earned by trading stocks for the previous two years. "Live and learn".

It is often hard to remember the value of money at earlier times. My parents used to tell me what a nickle, or a dime, or a dollar was worth when they were young. Recently I purchased an ice cream cone for $1.50. Even I can remember when such a cone cost 5 cents. And my memory is good enough to well remember the value of $10,000.00 in 1967. Ten thousand dollars was a lot of money for a 25 year old graduate student in 1967. A lot of money. And I can remember, like it was yesterday, exactly what I did with those ten thousand dollars that I had just earned by my three week trade in the futures markets.

I asked the brokerage firm to provide me with a check in exactly that amount. I converted the ten thousand dollars in profit into one hundred hundred dollar bills. I then drove back to my parents home and we took the hundred hundred dollar bills and laid them out on the living room carpet and simply looked at them. It was a very awe inspiring experience. It was clear to us all that futures trading, when one is successful, offered an opportunity to make a very high return on one's capital in a very short period of time. Prior to investing in futures, I had been earning interest on my bank savings at the rate of 3% to 4% a year. In the stock market a return of 10% per year was considered very good. Now, this venture into futures trading had resulted in a profit of 100% in three weeks time. The same return that I might have earned in ten to twenty years on bank interest or many years of investing in stocks. "Live and learn". By April of 1967 my attention was clearly directed to the new world of futures contracts, the door of which had just been opened to me.

Lesson Number 2. The world of futures and options trading is a world where time has a different meaning. A world where long term is often viewed as a matter of weeks or sometimes months, but never as years. It is a world where those who are on the right side of a price move can make a lot of money in a very short period of time.

I made my first $10,000.00 when I was 25 years old. I am now 57. In the 32 years that have passed between 1967 and 2000, I have learned much about having money in the bank, about having money invested in stocks, about investing money in futures contracts or option contracts. I have learned much about the value of time and the value of money and the value of things beside time and money. In those 32 years, I have seen many markets soar and I have seen many markets collapse. I have learned what one must do to be on board markets that are soaring and what one must do to avoid or go short markets that are collapsing. In those 32 years I have learned a great deal. You and I are about to embark upon a journey. It is a journey of those thirty-two years.

Think of it this way. Suppose you were about to set forth on a trip down an Imaginary River. You are all alone, or maybe your best friend or spouse is with you on your journey. You have no idea what is around the next bend in your Imaginary River, let alone what is around the bend three miles away. Suppose, before you left the dock or traveled too far along the waterways you were given the opportunity to talk to someone who has been sailing on this Imaginary River for the past 32 years. Wouldn't you like to have some private time with that river traveler in order to familarize yourself with the smooth and rough waters ahead? You are not obligated to talk to him. You could always travel on without knowledge. "Live and learn" as they say. You could travel with blindfolds on. But would you want to?

I have been down the Imaginary River. I have been on it for the past 32 years and I have traveled on it from one end to the other many times. Now, I am going to tell you what I know. It will cost you nothing. It is all free. Come with me while I show you what it is like to live in this world. A world where time has a different meaning and clocks move faster. A world where a 5% change in price can be a day's action and not a year's. A world where there are perils and pitfalls, and opportunities. In the next lessons, I am going to teach you much of what I have learned since I made my first $10,000.00 so many years ago. I am going to walk you through parts of my life. I am going to show you where the bends in the river are located, where the rapids are, and where the waters are easy going. By the time you have completed these lessons, you too will be a river traveler. You may not have sailed the waters yourself from 1967 to 2000, but it may seem to you that you were there right beside me during each year of my journey.

Welcome aboard to this time travel journey. I am going to enjoy having you along. I have traveled by myself so often that it will be a pleasure to have some company. Welcome aboard. The trip is about to begin.