welcome to course 1 unit 3 lesson 2 stock market crashes and market bubbles in this lesson we have three lesson objectives the first is an introduction to fear and greed Cycles the second is understanding Warren Buffett's opinion on Market psychology and the third is understanding the accumulation of shares versus trading assets so let's get started I want everyone to imagine that they're standing on a city street and they're just kind of minding their own business looking around when all all of a sudden they see a rampage of people just start running down the street directly
towards them uh you have very little time to react but you just see this mass group of people running directly toward you how would you react to that scenario or that situation as most people think and contemplate that question I'm sure that you would probably turn in the same direction as the crowd of people and start running with them it's not that you had to ask them why they were running or where they were running or what they are running from your natural instinct your human instinct is to turn with the people and start running
you might not know why you you not you don't even have to ask why but your instinct is telling you that you need to get moving and you don't want to continue standing there so as we look at this scenario let's say you're in a car and you drove past a nightclub and you're looking for a place to go out for the night and you drive past uh this nightclub which is called best nightclub on the planet and as you drive by you you see a long line of people standing there and they're all waiting
to get in so what would be your natural inclination on where you should go that night and which nightclub you should choose and so a lot of people would uh see the long line and think wow this nightclub has to be awesome it has to be one of the best places I could go tonight so they get in the long line and they wait to get in so what we're talking about here are human instincts in the first scenario we were describing something that was fearful in that you were standing on a street and a
mob of people come running at you and so your instinct is that you need to turn and run and get out of there cuz something bad's about to happen and the second one you you saw a group of people all standing in line waiting for something that has to be good the only reason people would be waiting in a long line like that is because something has to be good on the inside and so you're willing to see what that is and you're following that crowd's tendency though to wait in the line so what we're
talking about are instincts and an instinct is described as any behavior is instinctive if it is performed without being based upon prior experience or knowledge and the two words that I highlighted there that I underlined were without and knowledge and I really want you to uh remember those two words as we go through this lesson so I gave two examples um of everyday occurrences that people could really quickly relate to and understand and that's what a lot of people forget about whenever they understand how markets move in the short term when I mean shortterm I'm
just meaning a couple years so 3 to four years I consider that short term I consider like 25 to 30 years long term so when we're talking about how the markets move in the short term you got to understand the fear and greed cycles and in our scenario we were talking about people running down the street that's obviously our fear cycle and then the greed would be you waiting in the club to get in there and and meet fancy people and to have a great time so when we talked and the last lesson about Mr
Market we understood that Mr Market is that person that would be giving you those Clues to be an instinct based Trader so since most investors base their investing on emotions and Instinct they follow the mindset of Mr market and remember instinct is without knowledge so the solution to this is that we got to become knowledgeable we got to base our decisions on facts opposed to emotions so as we look at this picture you can see when Mr Market's up there yelling hey everybody come on in the the I'm making money you can make money and
my neighbor can make money that's your greed cycle the mindset during the greed cycle is that a quick Buck can be made and that it's going to take very little effort on your part in order to make some money and so what you have is you have traders who get in for one day and they make 10% on a stock and they quickly sell it and they think oh I'm going to throw it into another one and they make some more money on that and next thing you know they're they're day trading and they're doing
this consistently day in and day out and they're they're making some money doing it and then what happens is the market corrects because you have value based traders who actually know what the value of those assets are and they start trading them down because they're they're too high and then what comes is the fear cycle because people start getting scared because they're losing small amounts of money then they're losing larger amounts of money the next thing you know they lose an enormous sum of money and most people get very scared and then the mindset shifts
from making a quick Buck to I don't know the value of these stocks and I don't really know what I'm doing so I'm out of here and what they do is they sell all their shares and they lick their wounds and they realize that the little bit of money that they did make they probably lost it or maybe even worse they they lost more than where they started out so how do we know what the stocks are worth is the is the tough question and that's what we're really going to learn in course two but
I think we can all agree that the knowledge of a Stock's value value allows an investor to determine if Mr Market is greedy or fearful if we know what that Stock's worth well then we know if the price is overvalued or the price is undervalued and that's really the important thing here is that we have to know what the Stock's value is and so Warren Buffett's opinion on this Market psychology he says the key is to be greedy when others are fearful and to be fearful when others are greedy so the name of the game
is really accumulating shares versus trading shares and you want to be the person who's accumulating shares now Benjamin Graham who was Warren Buffett's professor at Columbia he has a a wonderful quote where he says the stock market behaves like a voting machine but in the long term it acts like a weighing machine and what he meant by this is in the short term anyone can price a stock anyone can say it's worth $10 $15 or whatever but in the long term the stock is going to be worth what its value is and that's where you
look at the scale there the value becomes absolute so what I'm going to do is I'm going to show you two different Traders I'm going to show you a value based approach and I'm going to show you an emotional based approach our value Trader is Amy and Trevor are you know typical Trader who might not really understand all the different financial terms and everything that there is about stocks so I'm going to go through uh how the the mindset of both of these Traders works so we have Amy on the top and she's looking at
buying a stock in a company called American Eagle which is like a clothing store and just so you know that these numbers that I'm quoting in this example aren't real uh stock numbers from American Eagle I'm just kind of using it as an example so Amy would look at American Eagle and she would read through all the different financial data and then she would look at it and say the company's earnings are $2 a share and the $18 of Book value is a great margin of safety the 1% dividend is okay overall I think its
intrinsic value is probably about $22 a share so that's how she would look at it now you're emotional based Trader like Trevor he would think wow I really like uh the company American Eagle I have tons of their clothes they've got stores in every Mall every kid in high school shops there they just opened a new store in the next town over I'm going to buy some stock in that company and so that's how Trevor thinks so what we have is um Amy buys 100 shares of American Eagle for $20 a share so that's a
$2,000 investment for Amy in buying American Eagle and Trevor does the same Trevor buys 100 shares for $20 each and so he makes a $2,000 investment both in the same company so for whatever reason we don't even have to understand what reason but the market drops and it could be based off of psychology it could be based off of any number of things but that's absolutely impossible to predict whether the Market's going to go up or down it's just not something you can predict and so in this scenario the market goes down okay and it
drops the the shares are not trading for $20 now they're trading for $15 okay so this is how Amy would look at that scenario this is awesome although the company had a little less earnings than I hoped for which is probably the reason it it was trading for less it's still worth at least $20 a share since it's trading for 15 I better get some more while it's at a good price so Amy's looking at this as oh wow so they had a A Little Less in their last quarter's earnings that they reported but the
company still worth $20 which is a little bit less than what she thought it was worth before and since it's trading for 15 she's going to even buy more of it because she knows it's a great deal now Trevor this is how Trevor would think oh no what in the world did I get myself into I just lost $500 American Eagle is a great company how could it go down so much I might need to sell this I could lose everything if it goes lower okay so there's your two different mindsets so let's uh go
ahead and look at how they react to that so Amy invested another $2,000 and this time instead of just getting 100 shares she gets 133 shares because the market price is cheaper so now she owns 233 shares of the company now we look at Trevor and he he's just going to hold on to his 100 shares he's a little nervous because he lost quite a bit of money so let's just say like another six months go by and the the stock is still trading down at that $15 range so Amy's mindset is I can't believe
people are still trading this company for $15 she's getting a little bit frustrated it's now worth $21 a share based on the new earnings and balance sheet I'll buy even more shares another 133 Shares are bought for $2,000 and now Amy owns 366 shares so Amy although the the stock is still lower than what she thinks it's worth which is a little frustrating for a value investor and I'll tell you there's sometimes that you wait for companies for a year or two years before they actually come back to that intrinsic value that that you might
think that it's worth but the key here is to think for yourself and to absolutely know that you're calculating the value properly and that you're looking at all the variables right and so Amy buys some more shares for $15 and Trevor's still nervous he cannot believe that those shares have gone down so much and so he's going to continue to hold it hasn't gone lower so he's not going to sell but he's going to hold what he has so let's say that you know it's another uh 3 to 6 months or so and then the
market price comes back up to $24 a share which is only $4 higher than where they both started Amy says Ah man this thing is trading for more than what I think it's worth better start looking somewhere else for for a good buy because this is overvalued she thinks it's still worth 20 to $22 and it's trading for 24 so she stops buying it at this point um she's invested $6,000 and so then her profit because the stock is back up to $24 um she's made 2,7 $84 which is a 46% gain now the mindset
of Trevor is sweet I knew this was a great pick just made some easy money I think I'm going to buy some more so he's going to buy some more at the $24 price because he made some money he made $400 in profit on his $2,000 investment and so this is how this is truly the difference between a value-based investor and a person who's really looking at the financial data versus somebody who's making their their decisions completely based off of emotions and you can see you know the saying always says Buy Low sell high and
when you looked at these two two scenarios Trevor was always buying when it was high but Amy was always buying when it was low and whenever that price did get higher than what she thought it was worth she immediately stopped buying it and she just held she held those shares and if you're buying a dividend share which I strongly recommend in the second course um you're then going to collect the dividence on that as you just continue to hold it so something to think about as you look at how you invest versus how other people
are investing so what kind of Trader are you do you typically sound like Trevor or do you sound like Amy and that's something that you're going to have to decide for yourself and you're also going to have to decide whether you think that that's the right approach for you maybe it's not and here's the here's the question I really want you to think about in the long term who do you think is ultimately determining the the market price do you think Amy's the person who's really controlling the market price or do you think it's Trevor
and so I would obviously argue that in the short term Trevor's controlling that market price because he's making it go all the trevors of the world are making that thing go up and down because they're trading on emotion and they're following Mr Market but in the long term Amy is the person who's ultimately controlling the value of that company so if you'd like to trade shares like Amy that requires knowledge not Instinct and if you're if you're looking for how to do that you've come definitely to the right site we got tons of tutorials here
to help you uh learn how to be a knowledgeable investor and AAL based investor and course two is going to teach you all those things that you need to know for calculating the intrinsic value so that concludes course one unit three lesson two stock market crashes and market bubbles in this lesson we had three lesson objectives which were an introduction to fear and greed Cycles Warren Buffett's opinion on Market psychology and the difference between accumulating shares and trading assets and thanks for joining us and we'll see you in course one unit 3 lesson 3
