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 ------------------------------------------------------- Why Buy & Hold No Longer Works ------------------------------------------------------- Even with all of the scandals and governance issues plaguing the stock market right now it still remains the center of our capitalistic economy. A place where fortunes can be made with very little money to start! It may help to understand the tremendous amount of change being absorbed by the markets in order to identify the opportunities we have today and how to profit from them. Now is not the time to be timid, it is the time to take advantage of the opportunities being presented! I remember a high school field trip to Wall Street. I must admit at the time I did not fully understand what I was witnessing, but I was so impressed! Men and women actually screaming at each other, papers flying everywhere and the electronic ticket board with moving lights, how could anyone not be excited by this organized pandemonium? The Old System Before the Internet, stock prices and economic news were available to brokers through mainframe computer systems while the general public waited for the Wall Street Journal, Barron’s, Value Line and so on. The serious investors at the time tended to be retired with time enough to visit their local brokers office and watch the ticker tape. Placing an order with a broker involved either telephone communication between you and the broker or a visit to their local offices. From here, the broker completed order forms to build an audit trail, but in many cases the order was telephoned to the firms central order desk. From here the central order desk would send a computer transaction or wire the order to the listing exchange. The order was written on an order form at the exchange where a runner took the order form to a floor specialist in a trading pit. Orders with any conditions such as limit order or good-until-cancelled condition might take longer to execute. The total time to complete this process could take up to two full business days and on some occasions up to three business days. The return trip was just as paper intensive. The process ended with a telephone call from your broker informing you your order has been filled. If you had a relationship with your broker you may not even get confirmation. The investors tended to be wealthy individuals or successful businessmen. During the late 70’s and early 80’s Sir John Templeton popularized mutual funds. This was a way for the small investor to participate in the market without large amounts of capital. Financial advisors recommended committing small amounts of money either monthly or quarterly to dollar average shares of a specific fund. The result was many new dollars entering the market. The small investor was able to make money at a much higher rate than passbook savings account rates offered at banks. Economic news did not appear on television since its impact affected only a small portion of the general population. Publications such as The Wall Street Journal, Barron’s and others would publish earnings and other news. Published information could be months old. Certainly not a good way to make financial decisions! One can understand from this brief summary of how the markets worked why a “buy and hold” strategy worked and worked well! Stock analysts and brokers were an important cog in the process. Recommendations from these folks moved stock prices simply because information available to investors was old. The best alternative was to follow advice of those in the business! The New System The first series of changes started with discount brokers such as Charles Schwab. Service differentiation between a full service broker and a discount broker lead to lower commission fees to investors. Retirees and professional traders could now begin to take control of their investing and self direct transactions at a much lower cost. Still a “buy and hold" investment strategy offered great returns in your portfolio. Technology improvements during the 1960’s through the mid 1990’s benefited the brokerage firms by lowering costs. These costs were not passed along to the investors however. It was the discount brokers that caused pressure on commissions for the large brokerage houses. Mainframe systems linked together through telephone lines allowed brokers, fund managers, analysts and others to sign into a computer system and begin electronic trading. During the late 1960’s the military began linking mainframe computers together in order to share information between military bases, Pentagon offices and Washington political offices. This information highway created what is now what we call the Internet. Continued miniaturization of transistors and the introduction of computer chips lead the way for mini-computers, and eventually the desktop or personal computer. In the mid 1990’s the Internet and the desktop computer combined forces. This combination lead to an explosion of technology. Consumers flocked to the Internet driving demand for personal computers, modems, broadband and printers. The practical application for consumers, however, of this technology has been relegated to news delivery, sports information and entertainment. The brokerage firms saw an opportunity to streamline the order process, speed communication to the different stock exchanges and eliminate the converting the orders to paper and even eliminate the runners. Productivity savings would yield tremendous cost savings for the brokerage firms. With commissions as high as $250 on a trade any reduction in cost would go straight to profits for the brokerage firms who invested in technology! The different stock exchanges each have their own automated stock execution system. Each exchange requires the market maker and floor trader to sign-in to their system. The brokerage firms eliminated paper with the creation of an on-line order entry system that communicated directly with each exchanges automated execution system. Now instead of hand signals and order slips of paper flying everywhere the floor traders all congregate around computer screens in the different trading pits. As of writing this article, the majority of options trading have been automated with this new technology. The last systems yet to be converted involve bond trading. What took up to three business days to complete could now be accomplished in seconds! A Good Thing or Bad Thing The discount brokers recognized an opportunity with all of this new technology. The discount brokers began to develop their own on-line stock order entry systems that also communicated directly to the different stock exchanges automated stock execution systems. Using the Internet each discount broker could develop a friendly order screen filled with economic news, company information and even real time price information! Firms such as Ameritrade, E-Trade, Alpha Trade and many others were created as a result of this new technology. Eliminate the broker and eliminate brokerage offices reduces costs tremendously! I do not believe the full service brokerage firms saw this coming! Our article titled Digital Economy documents more details on how this new technology changed trading and how this technology has impacted other industries. These new Internet order entry systems empower investors to take control of their investing. The competitive lines between discount brokers and full service brokers have been so blurred that I believe the only difference now being commissions. The full service brokerage firm’s are still struggling with how to compete with the discount brokerage and the new class of Internet based brokers. Technology has placed a spot light on brokers, and the actions of their arbitrage and investment baking businesses. It has been made very clear that the real business of full service brokerage firms is investment banking with research analysts and broker operations merely a means to an end! The Internet has turned out to be a very bad thing for full service brokers, yet a great thing for the general public! The information regarding stock performance and economic news available to the general public is better and faster than what was available to brokers and professional traders a short time ago. Five very short years ago the capability to invest on-line did not exist. Today there are more than 25 million people trading on-line! The tools now available have changed the way investors look at the market. Until 2001 the average length of time a stock was held was 8 years. During 2002 the average time a stock is held is 11 months. Empowering investors to follow a do it your self-plan can be very profitable provided the do-it-your-self investor spends time developing an investment plan and performing the necessary research before buying any equities. The changes that have occurred in brokerage firms only begin to scratch the surface. I believe there will be many more productivity improvements using the Internet, which will continue to benefit the individual investor.   Back | Stock Selections | Bonus Selections | Market Commentary | Buy Hold | Home Page Example | | Order Now | Return Home | Home Business | Digital Economy | Sign In | Disclaimer | Training Center | FAQ | What's New | Contact Us | |
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