Click. You just sent your first on-line order to purchase 100 shares of that stock you’ve been watching. In doing so, you have joined the ranks of millions of Americans who hold on-line brokerage accounts, entering an exciting new world with unprecedented access to research, analysis, and trade execution services. Along with these new tools, however, comes a new set of responsibilities.
This page provides a brief overview of the issues you should keep in mind when investing on-line.
Do Your Homework
Yes, it's true that you can now buy or sell stock with the push of a button or the click of a mouse. Many brokerage firms have made the mechanics of on-line investing as easy as possible for their customers. But the decision to invest –whether on-line or off-line—deserves as much care and attention as it always has. Every investment decision should be based on solid research and sound reasons that have stood the test of time for you and successful long-term investors.
Consider the Source of Any Information You Receive On-line
The widespread use of the Internet has triggered an explosion in the number of investment information sources. These include a dizzying array of bulletin boards, chat rooms, blogs, videos, and websites. While there are many excellent sources of reliable information, the overall quality of information on the internet is no better than what’s available off-line. Just as you should regard with skepticism an unsolicited “tip” from a stranger, you should consider carefully the origins of what you read on-line. There are two areas of concern here: unintentionally misleading information, and intentionally misleading information. Let’s look at unintentionally misleading information first.
Many of the people participating in chat rooms and other on-line forums are amateur investors. You should assume they are no more well-informed than you are. Chat-room comments are frequently “seat-of-the-pants” observations based on mere hearsay, “gut” instinct, or worse. You should never accept such information without question and verification. Remember that the internet gives you easy access to a large number of reliable and legitimate information sources: business and financial publications, annual reports, SEC filings, securities regulators, and more.
The other category, intentionally misleading information, has followed investors into the on-line forum. While most internet users have honest intentions, those who seek to manipulate stock prices—or otherwise separate investors from their hard-earned money—now use bulletin boards and other electronic media in the same way that “boiler room” scam artists relied upon the telephone. While even the fastest-talking boiler-room operator would be hard-pressed to make more than 150 “cold call” telemarketing pitches in one day, a fast-buck swindler in cyberspace can send e-mails to thousands of individuals in a matter of minutes. What’s more, most websites do not police their investment bulletin boards. Oftentimes, nothing is in place to prevent a con artist from posting one—or dozens—of questionable pitches for a swindle.
Also in the realm of intentionally misleading information are claims made about “inside information,” including pending news releases, contract announcements, and new products. Investment bulletin boards and discussion groups are jam-packed with “hot tips” about impending developments that are sure to send a stock soaring in value. Keep in mind: just because these tips appear in cyberspace does not mean they are exempt from insider trading laws and rules; also, it is extremely unlikely that genuine “inside information” will be publicly broadcast on an investment bulletin board, even with the username “therealwarrenbuffet23.”
Moreover, just because someone said that they checked or verified a claim doesn’t mean they’re telling the truth. On-line con artists make all sorts of claims about visiting companies, inspecting mining operations, and having personal conversations with company officials. Keep in mind that you may not be able to verify who is making these claims much less whether any of the information is true or the supposed research ever took place: con artists often work in teams, so the “skeptical investor” asking softball questions may be in on the con.
The most important rule to remember is to make sure your information comes from a reliable source, and when in doubt, confirm it with a source you know is trustworthy. And don’t forget to first make sure that an investment opportunity and the person promoting it are properly registered with the Nevada Securities Division.
Anticipate Delays and Breakdowns
If you drive during rush hour, shop during the holidays, or try to see a new blockbuster film the night it opens, you have experienced the downside of using a system at “peak capacity.” The internet, although often called the “information superhighway” for the speed with which users can move across it, is no more immune than the off-line world to the inconveniences of such gridlock. When market activity reaches a fever pitch, you may experience the same difficulty accessing your account on-line as you would reaching your broker by phone.
Moreover, there may be times when, for a variety of reasons, you cannot access your broker through the internet, either because the broker’s on-line interface “goes down” or because your internet provider is experiencing problems. Discuss with your brokerage firm in advance what alternatives are available to you during those times, what the typical wait time is likely to be, and what your costs will be. For example, some firms will execute trades at on-line rates if the system goes down. Others may charge higher rates for telephone orders. Always be prepared to use a live broker or a touch-tone telephone system to place orders and get quotes.
Have a Plan for Dealing with Volatile Markets
Sometimes stock prices move so fast that order executions lag behind the fluctuations in price. This phenomenon may affect a single stock, a group of stocks, or occasionally the entire market. When these conditions occur, the prices you see on your computer screen may not accurately reflect the prices at which shares are currently changing hands. Keep in mind that the most common type of order, a market order to purchase or sell, will be filled regardless of the current price. A limit order is an alternative to consider when market prices are fluctuating. A buy limit order establishes a limit to how much you are willing to pay for a stock. If the stock price has risen past that point when you place your order, the order will not be filled. But, by setting a limit, you are establishing a cap on the upside price you will pay for that stock.
Likewise, a sell limit order establishes a floor, or lowest level, on the price you will accept when you sell. However, using a limit order to exit a position poses risk. If the market is falling rapidly, it might bypass your sell level, and there is no way of knowing when you will get another chance to sell at that price. For this reason, some professional investors favor sell stop orders.
A sell stop order is placed below where the market is trading. If the market declines to that level, an order to sell at the current market price is triggered. With a sell stop order, therefore, your order will be executed if your specified price is reached, although there is no guarantee what your selling price will be.
Knowing how to use limit orders, stop orders, and other kinds of orders—and the costs and risks associated with each—will help you navigate through volatile periods.
Avoid Risky Techniques
On-line trading gives you many of the advantages previously enjoyed by professional investors, including unprecedented access to information, analytical tools, and other execution capabilities.
These enhanced resources may appeal to people who want to trade on short-term movements in stock prices. This strategy is extremely risky and requires a serious, ongoing time commitment. Day trading, in particular, requires constant monitoring of the markets, often to the exclusion of other activities.
Investors are wise to stay away from thinly-traded, little known stocks sold strictly on the basis of on-line hype. These are the stocks most susceptible to manipulation. Unlike blue chips or stocks with a substantial number of shares available, the price of low-volume stocks can be moved through relatively small strategic trades. This is why on-line hype usually involves previously unknown securities, often for companies involved in mining or the world of high-tech. Even if the hyped stock starts to edge up, this may just be part of the manipulation scheme.
It is the rare person who is equipped, financially and psychologically, to really “trade like the pros.” The rest of us should view on-line investing as a tool for helping us to execute a long-term investment plan more conveniently and efficiently. If you did not employ strategies such as market timing or momentum investing before, do not start now merely because you have begun investing electronically. On-line capabilities might simplify—but should not fundamentally change—the way you invest.
Realize On-line Investing Requires You to be Self-Directed
The best way to avoid the pitfalls of on-line investing is to learn all you can about the process and take responsibility for your own results. Remember, if you are not consulting with a financial professional, the ultimate investment decision rests with you, the investor.
With on-line investing, it is harder to deny the consequences of your investment decisions because you take charge of not only the decision-making process but also the mechanical aspects of your trading. You will have to decide whether information is trustworthy and reliable. And there is no one to ask you if you really meant to buy when you gave the order to sell. There’s no one to stop you from purchasing twice as many shares as you intended because you placed a duplicate buy order when the confirmation for your first order was delayed. In this way and many others, on-line investing removes one last check point between you and the markets, and it is up to you to fill the gap.
The on-line environment gives you an array of excellent tools for investing and often lowers the costs of your investment program. In exchange, it requires that you take an active role in managing your investments and in protecting yourself and your money from scam artists. If you are ready for that challenge, on-line investing might be an option for you.