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8:30 AM EST Thursday, September 21, 2006: You make money on what you know -- not what's fashionable.

Fashionable can be what your friends are talking about. Fashionable can be what made money on last year. Fashionable can be commodities. Fashionable can be real estate. Fashionable can be indexed currency notes. Fashionable can be buy-out targets -- the latest hot area.

Wall Street is a financial product machine. It makes products, then "sells" them to you and I for a commission. Sometimes it sells them outright. That's one commission. Sometimes it sells that it will manage the bet for you. That's many commissions for a long time. Better still, Wall Street often gets it up front -- long before you earn a nickel.

The odds are stacked against you. Yet it's amazing how many of us fall for their sales pitch.

The mess at hedge fund Amaranth with the big, failed natural gas bets is still unfolding. There are lessons for us all:

1. Because there's so much money around, because so much of it is money desperate for the latest hot new thing, prices of "hot" things rise and fall much faster than they've ever done. This means you need to be in and out faster than ever before. If you're going to play this game, you need to set a modest profit target, achieve it and get out. Think gold, oil, natural gas. The price swings in the past year alone have been horrendous.

Look at these two charts. They cover gold prices. Check out 2005. Gold just kept climbing and climbing. Time to jump in? Clearly.

Now look at 2006. If you waited too long to get in, you lost your shirt. Who could predict the high was $725 or so? Getting in at that price made sense in May. Look at the run-up just before it hit peak. Gold was going for the moon and the stars.

Some lessons I take from all this:

1. When an area of investing gets too popular, it gets overpriced and ripe for a fall. This means you have to be nimble. Grab a small profit. Moves your stops up. Set a tight stop loss. And get out.

2. The problem then is "How do you put your new cash money to work?" That's one of Wall Street's great myths. There's no such thing as "putting your money to work." That's their euphemism for gambling. There is absolutely nothing wrong with having your money in cash. Follow my old tired aphorism: "When in doubt, stay out."

3. That means you have to be ultra-patient. I mean super-patient. Cash is good. It's as good as money, and in many respects, better than happiness. Money will buy happiness. Happiness won't buy money.

4. It's perfectly reasonable to make only one trade a year. A friend invested $1 million in a company he felt comfortable with because his people had done the due diligence. In a few months (after one year and a day have elapsed) his investment will be worth $1.6 million. I only invested $100,000. I was dumb. I still have money in commodities. More money. Super dumb. Suckered by the press and the noise.

5. When information is imperfect, that's your advantage. There are too many smart people with more information on public things -- like stocks and commodities -- than you will have. Even if you devoted your life to studying that area. Stick with stuff five people know something about. Only five people. The apartment building across the road. The company you're the only buyer of. Stay away from crowds. I recommend you read "The Wisdom of Crowds" by James Surowiecki and "Extraordinary Popular Delusions and the Madness of Crowds"
by Charles MacKay.

6. Don't buy into a fund of funds. They're sold by Wall Street because of "diversification." But .... you don't know what you're buying into. Your fund of funds may buy into a Amaranth, with heavy energy exposure, which you may not want.

7. Don't buy into vehicles with a long lock-up period. That severely limits your flexibility.

8. And don't buy into vehicles where you don't know what your brilliant management is doing.

And above all don't buy into an area because it's hot. These two paragraphs from today's Wall Street Journal are indicative:

Much as they did with tech-oriented investments shortly before they tanked in 2000, individual investors also have rushed into commodities, via stocks of commodity-related companies and mutual funds that specialize in such investments. There are 48 mutual funds that invest in commodities and related shares managing $56 billion, up from 34 funds with less than $10 billion three years ago, according to fund tracker Morningstar Inc. The Commodity Real Return fund of Allianz AG's Pacific Investment Management Co. has grown to more than $12.2 billion, from $8 billion about a year ago.

The 13th-largest holder of gold in the world isn't a central bank but an exchange-traded fund, a type of security that trades like a stock and tracks the price of an underlying investment class. StreetracksGold Trust, the largest gold ETF, has assets of $7.5 billion, up from $2.7 billion a year ago, mostly from new investments.

Default on a loan of $100, you're in trouble.
Default on a loan of $1 million, your bank's in trouble.

From today's New York Times:

Hedge Fund Shifts to Salvage Mode

A day after disclosing that a disastrous bet on natural gas prices had produced losses of more than $3 billion, Amaranth Advisors, once among the nation’s largest and hottest hedge funds, was scrambling yesterday to salvage something from its battered portfolio of energy trades.

Last night, as it had been since the weekend, Amaranth was locked in negotiations with several Wall Street banks and other hedge funds in an effort to sell its energy portfolio to try to keep the fund company afloat.

At the same time, it was working with commodity exchange officials to reassign trades to try to minimize disruptions to the market.

The fund’s investors, locked into their holdings by Amaranth’s stringent liquidation terms, awaited further word on the status of the fund’s holdings, while regulators and traders watched for signs that the hedge fund’s losses might disrupt markets beyond those relating to energy.

The losses at Amaranth have followed another blowup in natural gas at a smaller fund, MotherRock, but financial markets have hardly felt a murmur, largely because the volatility has been contained — so far — to a corner of the energy market, and is not tied to markets in stocks and bonds. And with so much investment money pouring into energy, it is likely that others profited from the billion-dollar losses.

Indeed, the effects have been fairly limited, confined mostly to the natural gas market. Amaranth’s portfolio, valued at $9.25 billion as recently as a few weeks ago, was apparently halved by a wrong-way wager that natural gas prices would rise, a bet that had produced enormous gains for the fund in recent years. Amaranth traders had reckoned that the difference, or spread, between the prices of gas futures in the months of March and April in coming years would increase. But rising gas inventories caused prices to decline, putting Amaranth on the wrong side of a brutal and accelerating market trend.

Officials at the New York Mercantile Exchange, where natural gas futures contracts trade, were matching up Amaranth’s trades with holdings of other market participants, neutralizing their positions. The exchange would say only that Amaranth’s account and the firm that cleared its trades were in good standing.

“The market seems to have recovered a little bit from the fall in price we had over the weekend,” said Kent Bayazitoglu, head quantitative analyst at Gelber & Associates, referring to natural gas prices. “It’s leveling out a little bit at $5, and the volume has fallen. It’s slowing down and accepting the prices.”

Last week, the market fell to $4.80, the lowest level since September 2004, according to Mr. Bayazitoglu. ...

You can feel the frustration:

Who says men don't remember anniversaries?
A woman awakes during the night to find that her husband was not in their bed. She puts on her robe and goes downstairs to look for him.

She finds him sitting at the kitchen table with a hot cup of coffee in front of him. He appears to be in deep thought, just staring at the wall.

She watches as he wipes a tear from his eye and takes a sip of his coffee. "What's the matter, dear?" she whispers as she steps into the room, "Why are you down here at this time of night?"

The husband looks up from his coffee, "I am just remembering when we first met 20 years ago and started dating. You were only 16. Do you remember back then?" he says solemnly.

The wife is touched to tears thinking that her husband is so caring, so sensitive. "Yes, I do" she replies.

The husband pauses. The words were not coming easily. "Do you remember when your father caught us in the back seat of my car?"

"Yes, I remember," said the wife, lowering herself into a chair beside him.

The husband continues. "Do you remember when he shoved the shotgun in my face and said, "Either you marry my daughter, or I will send you to jail for 20 years?"

"I remember that too" she replies softly.

He wipes another tear from his cheek and says...

"I would have gotten out today."

This column is about my personal search for the perfect investment. I don't give investment advice. For that you have to be registered with regulatory authorities, which I am not. I am a reporter and an investor. I make my daily column -- Monday through Friday -- freely available for three reasons: Writing is good for sorting things out in my brain. Second, the column is research for a book I'm writing called "In Search of the Perfect Investment." Third, I encourage my readers to send me their ideas, concerns and experiences. That way we can all learn together. My email address is . You can't click on my email address. You have to re-type it . This protects me from software scanning the Internet for email addresses to spam. I have no role in choosing the Google ads. Thus I cannot endorse any, though some look mighty interesting. If you click on a link, Google may send me money. Please note I'm not suggesting you do. That money, if there is any, may help pay Claire's law school tuition. Read more about Google AdSense, click here and here.
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