A lot of new investors are playing a dangerous stock market game. They’re speculating in options betting that stocks will keep going up.
So far, they’ve been lucky. But this fall, many innocents are going to face what Wall Streeter Ray DeVoe calls The Crack of Doom. That’s the day when you know, for sure, that not only are you going to lose money, you’re going to lose a lot more money than you can afford.
Some of these speculators appear to be taking lessons from Wade B. Cook, a former cab driver whose “Wall Street Money Machine” is a best seller in the business book class. It tells folks how to get rich quick playing stock market options.
At nearly 400 seminars this year, Cook wannabes will pay as much as $4,695 a pop to learn the master’s secrets among them, his formula for producing what he calls “sane, safe and comfortable 20 percent to 40 percent monthly returns.”
Sane? Cook tells me his definition of sane may differ from mine, because mine is boring. I guess he’s right.
One thing probably not taught at Cook seminars is his interesting history over the past 10 years: a current, informal investigation by the Securities and Exchange Commission (he says there’s nothing to it); a Chapter 7 bankruptcy (discharged); and cease-and-desist orders in several states for selling unregistered securities (he says he didn’t do it).
Arizona hit Cook with a $150,000 penalty for misrepresentation and fraud (not yet paid), plus an order to repay nearly $391,000 to a group of investors (Cook says he intends to pay double).
Why are options so appealing to investors today? If the market moves in your direction a big if you can ring up a large percentage gain on a small investment.
Say you buy a call option on a particular stock. You’re betting that the price will rise by a certain amount over a fixed period of time a few weeks, a few months, or even three years.
This has been a pretty good bet for some 18 months. Stocks have risen, so a lot of options made money. You can also buy options on the movement of the market as a whole.
Some enthusiasts even subscribe to services that page them the moment a corporation announces that its stock will split. When their beepers beep, they dash to a phone to buy calls on the stock, on a bet that its price will rise.
When stocks split, they commonly divide in half. One $80 share becomes two $40 shares. There’s zero change in the company’s economic value. Even so, the stock often rises maybe because it attracts more buyers, maybe because stocks split when companies expect profits to improve.
But only in this helium market would grass-roots investors assume that the price will always move high enough, fast enough, to cover the cost of the option plus sales commissions. If they don’t, you risk losing every penny you put up.
Seattle financial planner Mark Spangler of MFS Associates says he just talked a client a divorced woman earning $60,000 out of playing the stock-split game. Spangler says the client told him, “It looks like it’s guaranteed. You can’t lose money on this.” That’s a dangerous phrase he says he’s hearing more and more.
Only one person is guaranteed not to lose money: your stockbroker. For a small option trade a buy and a sell you might pay 6 percent or so. If you do that every couple of months, you’ll need to make a lot of money just to cover your costs.
A conservative use of options being touted today is to buy a put on Standard & Poor’s 100-stock index. If stocks fall, the put makes money, which offsets part of your market loss. If they rise, the put expires worthless.
Buying puts is praised as a way of protecting shares you’ll soon want to liquidate say, to raise cash to buy a house. But that kind of money shouldn’t be kept in stocks at all. (Never sell a put. You risk losing far more than you put up.)
Financial planner Mark Sievers of Sievers Financial Consultants in Fairfield, Calif., studied options in graduate school and wouldn’t dream of suggesting them to most of his clients. Not so Wade Cook. His Web site brags that he’ll teach you to double your money in “two and a half to four months.”
Don’t count on it. When the market turns, it will be the day the beepers die.
The budget law wrote some new rules for financing higher education. The choices, for borrowing and saving, are going to complicate decision-making. But they’ll save some money for a majority of students and parents. Here’s what’s starting on Jan. 1
You qualify for the maximum tax deduction on loans for higher education if you’re single with an adjusted gross income under $40,000 or married under $60,000. As incomes rise, the deduction declines, phasing out at $55,000 for singles and $75,000 for marrieds. After 2002, these income levels will be adjusted for inflation.
The maximum deduction is $1,000 for 1998, $1,500 for 1999, $2,000 for 2000, and $2,500 for 2001 and each year thereafter.
Next year, that roughly equals the interest on a $12,000 Stafford student loan; by 2001, the deduction will cover a loan in the $30,000 range, says Benjamin Tobias of Tobias Financial Advisors in Plantation, Fla.
What’s your best borrowing strategy going to be? Take the cheapest loans you can get. For most students, that would be subsidized Staffords (currently at 8.25 percent) if you qualify for student aid. Some states and colleges lend at Stafford rates or even below.
Next, turn to unsubsidized Staffords and Plus loans for parents ask about them at the college financial-aid office.
Once you’ve borrowed the maximum deductible education loan, borrow against your home equity. Interest is deductible on home-equity loans as large as $100,000.
There’s a new education Individual Retirement Account (although it has nothing to do with retirement). If you qualify, you can invest up to $500 a year for each of your children under 18.
You can’t tax-deduct your contribution, but the earnings are entirely tax-free if used for higher education.
Syndicated columnist Jane Bryant Quinn can be reached in care of the Washington Post Writers Group, 1150 15th St., Washington D.C. 20071-9200.