The Advantages Of Being Young – An Investor Writes In

Every day I get a lot of emails from family, friends and those who visit my website, Fullyinformed.com. The other day I received an email from a young investor whose comments got me thinking about how I started investing and why starting out when one is young is a huge advantage. I thought I would share some of his email to me and my reply. I have broken his email up into four articles.

Investor Comments and Questions

(This email has been edited)

Hi Teddi,
I am 23 and about to graduate with my finance degree from Cal State Long Beach. I’m currently day trading with my grandpa about 2-3 days a week. He’s older(about 85) so computer speed is tough for him. But I’m a serious wiz on the computers and I’ve been into stocks since I was about 17; while really getting serious into it through the last year or so. His long-term knowledge combined with my computer prowess/growing knack for reading charts and numbers skills make a good team. I can’t tell you how much you have helped him. I know how busy you must be and the occasional e-mail you have sent him means the world to him. He really values your opinion.

I just wanted to e-mail you and introduce myself. I’ve been day trading using your Trading for Pennies strategy on the IWM and a modified form of your pennies strategy but on the /ES. Personally, I love day trading(paper trade for now) the /ES. It’s only ~$7 round trip for a trade and I’ve been having great success making around $200ish a day by aiming for 2 points per trade($50 a point). Support/resistance are your best friends when trading the ES. Volatility makes it fairly easy to minimize loss if the trade goes south too.

The trading for pennies IWM has been OK too though, I’m just having trouble setting a definitive exit/stop loss points compared to the ES. I go back and forth between 1 and 5 minute charts. Plus commissions run $35-$50+. I can see the great potential of trading for pennies IWM, it is just hard for us at this point since we are only doing 20 contracts (capital limitations).

I hope to one day have the capital to mimic the strategy you use. I love the idea of having a set list of stocks I like, writing naked puts at a price I wouldn’t mind owning the stock, and then if I have to own the stock writing free covered calls. Although it isn’t huge income, it’s continuous. I know I’m still young, but I’ve explored a lot of strategies and this one sticks out to me as the most fulfilling and beneficial. I looked over some of your returns, you really made a killing on Exxon last year (2012). Great stock for your strategy, I don’t think I saw one bad trade. I’m just curious to your reasoning when you decided to purchase shares outright instead of writing more puts.

Anyways, don’t worry if you don’t have the time to respond to this. I know between your puts, pennies, and great website updates you must be busy. Again I just wanted to introduce myself, awkwardly praise your awesomeness, and so on. Keep up the good work and thanks again for all your help with my grandpa and your informative website. P.S. Just a warning… be careful with having FB in your stock list.

My Reply

This young investor has a huge advantage in two areas. The first is his age.

Advantage 1 – Compounding Effect Of Capital

Every day I get emails from investors who explain they have just $10,000 to invest and wonder how they can “get rich”. The answer is consistent earnings and compounding of capital.

At 23 I was just starting out to invest and I can guarantee that being young when you first start investing is the biggest advantage most investors can ever have. I read ads every day on-line and see them on various media outlets that you can start at “any age” to invest and they often show a couple on the verge of retiring. I can say with absolutely certainty that they will never do as well as someone starting in their early twenties or teen years. The younger you start investing the better off you will always be simply due to the compounding effect of capital.

Let’s take a look:

Our young investor could start with $10,000 and at the age of 23, he could continue to invest until he is 60 years of age. That would mean 37 years. My goal is to earn 12% a year, every year. If this investor earned 12% a year and could also invest an additional $100 each month, he would have a total amount invested of just $54,400 of his own capital and would end up with a retirement nest egg of $1.6 million dollars.

Same Returns With Margin Use

But what about if this investor only had $100 a month they could scrape together to keep adding in each month. I know when I started investing I had less than $50.00 a month and some months I was out collecting pop and beer bottles, doing odd jobs and working extra shifts as well as an extra job trying to earn even more capital. So some months I was able to invest an extra $25 but other months I had $150 to invest.

Then my mentor showed me the power of margin, especially with naked puts. For those who do not know what margin is, it is a “line of credit” from the brokerage based on the value of the securities you are holding in your investing account. Basically they are loaning you additional capital based on available capital. Margin fluctuates based on the value of the assets, so if those assets are stocks and they move lower your available margin is reduced. If those stocks move higher, your available margin is increased.

When selling naked puts, the available margin is never actually used unless you are assigned shares of the stock you have sold puts against. Therefore available margin allows you to increase your investing through naked puts but as long as you are not assigned shares, you pay no interest on the used margin.

So if our young investor took his available capital and possibly used the available margin, or borrowed against his available capital each month, his results would be far different. While no calculator can actually show such a long-term result, let’s take the monthly amount of $100 and theorize that our young investor used an extra $50.00 of margin each month for the full 37 years.

Now the result is quite different. Using a small amount of margin, our investor over the 37 year period would earn 2 million dollars or an additional $400,000 or 25% more.

The 12% Consistent Income Rule

I always seek a minimum 12% of earnings each year. This works out to 1% a month and is easier to achieve through Put Selling strategies than most investor’s realize. Many investors love to aim for big gains on high-flying, flavor of the month or spec stocks and then often end up with years where they have zero returns and other years with 20% returns. While it is impossible to calculate what returns would be like, our calculator can take a random calculation.

An investor who has fluctuating returns might end up with an annual return over 37 years of just shy of 10%.. But the value of the investment after 37 years is far different. An investor who has fluctuating returns could end up earning only half of that investor who earns 12% consistent each year.

Negative Years Of Investing Returns

What about the concept that you can have some negative years as long as you have some great years. Let’s take a decline of 10% and a gain of 37% as averages over a 37 year period. The returns may end up as being around 11%. As the calculator below shows, having negative years and terrific years is hardly worth the work. A 12% consistent annual gain is far better to aim for.

Bear Markets and Corrections

Looking at the chart above, you also can see why market collapses are so harmful to a portfolio. Consider instead what an investor would earn who applies income producing strategies during corrections and bear markets.

Again no calculator can assist in providing a true picture, but if we theorize again and decide that bear markets and corrections will be used to add income to our portfolio, then we could use 12% each and every year as the minimum return and pick other years to earn as much as 23%.

Now the results are dramatically different. Instead of earning 1.6 million with a 12% consistent annual gain, we move up to possibly a 16.8% annual return which means earnings of 9.5 million dollars. Now you know why using strategies like the Spy Put Options and Ultra Short ETFs make so much sense. Profiting from market corrections and bear markets can impact a portfolio significantly. This is how I grew my portfolio to what it is today.

This young investor should be able to see now that the advantage of sound investing principles along with moderate margin use over an extended period of years brings out the true power of compounding. He has a distinct advantage at 23 years of age!

Advantage 2 – Learning From The Mature Investor

I don’t think of myself as old. I think of myself as mature. I have not grown old, but instead age has allowed me to learn from my mistakes and to become a mature, conservative and consistent investor. Our young investor has a second advantage of his age. He is willing to draw upon the resources of the mature successful investor. When I was young I failed at investing as I simply turned to brokers and thought they could make me rich. Instead they lost much of my capital and blamed market conditions. It was a mentor more than twice my age who taught me that I could learn a lot from a mature investor and avoid the mistakes and pitfalls they had already made.

Because I was willing to learn from a mature investor and consider what I was being shown I probably saved my portfolio from years of losses and stagnant returns. It was my mentor who showed me that earning 12% a year when broken down monthly was simpler than I had thought. It was the mentor who demonstrated that only I was responsible for my own investments. He showed me how a system of brokers who are paid whether they perform or not is wrong. He showed me how “template driven investing” and “dollar cost averaging” could never provide consistent and large enough returns.

It was my mentor who showed me when to be fully invested and when to pull back and raise capital. It was the same mentor who showed me how to profit from downturns at a time when Spy Put Options and Ultra Short ETFs did not exist. In fact when I started I don’t think anyone had ever thought about index funds and ETFs. Instead we would short big cap stocks and buy puts “over the counter”.

You can see then that it was through mentoring from a mature investor that I was able to learn what I know today and our young investor has exactly that kind of support. This is as valuable as the compounding effect of capital.

Day Trading The ES and IWM

As to our young investor’s comments on day-trading. My reply covers off both the ES and IWM strategies. I believe in day trading but I am glad to see he has established stops and knows when to get out of a trade. Day trading can be difficult and often result in small losses which can decrease annual returns. I have added more comments regarding this section of his email in my members section as it relates to the IWM Trading For Pennies Strategy and should be added there for members to read up on.

Exxon Stock and Knowing When To Buy Stock

I have written a separate reply for this portion of the investor’s email on my trades for 2012 in Exxon Stock.

Summary of Investor Questions

I try hard to reply to everyone who emails me. Often my replies will be later as I need a chance to think about what to say and how to word the reply. I believe as a mature investor I have something to offer other investors of all ages as I believe strongly that many investors are too pessimistic about the world. Two stock market crashes in the last 13 years, the May 2010 flash crash, computer trading, manipulation, higher volatility, housing collapse, high unemployment, Euro Crisis, huge worldwide debt and more factors have turned many investors away from investing and into a protectionist mode.

But I believe the opposite. I believe opportunity abounds but investors must have sound strategies that they understand and can adjust to continue to earn income to grow their capital as well as protect it. I believe investors must learn to profit from market direction whether it is up, down or sideways and I believe investors fail to consider risk as well as reward by setting goals and establishing rescue strategies before they enter a trade.

That was the reason I started my website and spend time working on it every day. In my declining years I wanted to show investors how I consistently grow my capital while staying away from “get rich” schemes, dollar-cost averaging which I do not believe in, speculative stock investing, and more. Instead I hope investors like this young investor see the value of compounding capital and the value of learning from successful mature investors while focusing on large cap, dividend stocks that can be combined with option strategies, either simple or complex, to earn substantial reward for the risk they are taking when investing.

Thank you for your email. Any comments or questions can be posted to this article or you may contact me through this link.