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Investment Fundamentals
BUAD 510
Chris Doss
Paulo F. Ribeiro
The Impact of the Internet on Investment Strategies
December 8, 1999
I.
Table of Contents
II.
Introduction & Objectives
A. Vast amount of information at fingertips
B. Small investor can get same information as large investors
C. Effect on market behavior and Investment marketing
D. Noticeable trends and projected future
III.
Historical Background of Investing and Internet
A. Investing prior to the Internet
B. Adaptation of the Internet
C. Investing and the Internet
IV.
Methodology and Findings
A. Projected trends that Internet investing has followed and Environment
B. Investment information available on the Internet
C. Marketing of Internet investing(E-trading, Virtual Companies)
D. Small investors and the Internet
E. Large investors and the Internet
F. Projected future on Internet investing strategies
V.
Analysis of Research Information and Trending Beliefs
VI.
Conclusions and Recommendations
VII.
References
VIII.
Appendices
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II - Introduction and Objectives
It is about 7:30 a.m. and you just had breakfast, skimmed the local paper and check your e-mail.
One of the e-mails from a financial news alert service mentions a company which stock tumbled
dramatically after a disappointing earnings announcement. This may sound an opportunity to buy
their stock (a possible value stock?). You then decide to check on the company. You go to the WEB
(for example, www.companylink.com) check the company profile and find out that this is a very
solid firm and have performed very well in the last several years. You check their 5-year summary
of financial figures, stock prices and dividends: they are excellent. The return on equity is better
than the average company of the same SIC code. Value Line and S&P also indicate that the
company’s growth in profits and operating income has consistently improved. The recent reduction
in the stock price is supposed to be temporary and it should go back to its original value early next
year. You make the move to buy. Go to your online investment provider and purchase 200 shares.
This whole process is completed in less than 15 minutes. You grab a second cup of coffee and go to
work. Your money is safely invested (hopefully) … you are on the way to become a another
millionaire. And if this transaction does not work, the next might. And that is the magic or
revolution of the Internet. No complicated transactions or intermediate fees. That is how the
Internet has transformed the investment and financial worlds: a revolution whose true
consequences can be hardly predicted. It sounds like science-fiction. But there is no fiction, it is
all science: it is virtual reality.
Topics to be covered (just for orientation purposes..)
General Introduction
Vast amount of information at fingertips
Small investor can get same information as large investors
Effect on market behavior and Investment marketing
Noticeable trends and projected future
Originally intended to foster research for professors in universities, the Internet has transformed the
business and economy of the world. This new economy being created has minds rather than
machines as assets. The result: a competitive landscape as different from late-20th century
industrialism as Henry Ford's assembly line was from the buggy-whip age before it. An economy so
different its emergence can only be described as a revolution. The Internet has revolutionized the
way the world does business and consequently dramatically changed investment strategies and
market behavior. This new economy does not replace the old. It merely transforms it into
something unrecognizably different.
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Today, the Internet allows one to shop for groceries, buy movie tickets, order clothing and complete
banking transactions and financial investments. It’s no surprise that millions of people are now
using the Internet for personal investing.
With a vast amount of information available, and investment options, financial freedom seems well
within the grasp of anyone. With so many research sources, search engines available on the World
Wide Web, types of investments and strategies, individual small investors can make intelligent
financial choices, and ultimately make an impact on the market.
In the not too long past, only large investment firms access to the high quality financial information
that is available on the Internet. Traditional investment bankers use this financial information to
pick investments that look promising and then they charge clients substantial commissions when
they buy or sell investments based on their recommendations. Now one can access the same
information (or almost the same) sources and make one’s own recommendations which makes
investing less expensive, less complicated and let one take control of one’s own portfolio.
As an example of this dynamic component in the market a 20-year-old business student (4)
recently became the market mover when he posted a research report in which he wrote that "highlevel sources have confirmed" that AOL, Excite At Home and AT&T were negotiating for AOL to
acquire the Excite Web portal from Excite At Home, splitting the recently merged company's
content and distribution arms. Rumors about a deal quickly spread through online chat rooms,
prompting follow-up reports by a host of securities analysts and news outlets.
Another example is "day trading" which is revolutionizing investment strategies. Lower trading
commissions, improved technology, and changes in government regulations make day trading
possible. Day trading involves buying and selling stocks on the NASDAQ and NYSE for one’s
own account. Traders buy and sell stocks within minutes, profiting by market changes. It’s not
unusual for a day trader to make close to 200 trades a day. Conventional online brokers such as ETrade Group Inc. and Charles Schwab Corp. are scrambling to grab the business of the superactive
traders, while some upstart day-trading concerns are trying to soften their edges and peddle their
services to a wider audience. (1)
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Another issue is the technological developments and trends. For example, MCI WorldCom has
"Com" in its name not by coincidence. The tag that has become synonymous with the Internet, is
the reason. The company that celebrated its first birthday since the $40 billion merger of MCI
Communications and upstart WorldCom, is now the nation's No. 2 long-distance carrier, it also
carries an estimated 50% of the world's Internet traffic. (2)
With PC prices falling below $1,000 and sites giving away real-time stock quotes, online trading
has become not just affordable, but a thing for the masses.
One thing for sure online / Internet trading has created: a higher volatility on the market. This
volatility, however, is not all bad. It simply accelerates the adjustments in the market. And that is
where day traders make and break.
One very important and positive influence of the internet is disinflationary impact on the U.S.
economy This impact is helping a broad range of companies that could otherwise suffer from
aggressive Fed control. This disinflationary effect will no doubt impact investment strategies.
This explosion of the Internet has created new opportunities and new dangers for investors. If one
is an online investment victim, the chances one has to recover the money are very limited.
Regarding investment strategies, however, the Internet has not created an entirely new and different
way of doing financial business, but it has transformed the environment and the time constants
which the entire process takes place. The amazing speed with which things are processed and the
market reacts to local and global changes have reached unimaginable proportions.
In this paper we have tried to capture the essence of the revolution brought about the Internet, its
predominant characteristics and benefits, technological tendencies, behavioral changes and potential
problems. The amount of information available and the pace in which industry changes and
regulatory agencies tries to accommodate this revolution tool is overwhelming and almost
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impossible to be comprehensively captured. By the time this paper is finished the Internet will have
changed and grown enough to make much of what is presented here to look outdated and obsolete.
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III - History of the Internet
Investing prior to the Internet
Adaptation of the Internet
Investing and the Internet
A Brief History of the Internet and Related Networks Introduction In 1973, the U.S. Defense
Advanced Research Projects Agency (DARPA) initiated a research program to investigate
techniques and technologies for interlinking packet networks of various kinds. The objective was to
develop communication protocols which would allow networked computers to communicate
transparently across multiple, linked packet networks. This was called the Internetting project and
the system of networks which emerged from the research was known as the "Internet." The system
of protocols which was developed over the course of this research effort became known as the
TCP/IP Protocol Suite, after the two initial protocols developed: Transmission Control Protocol
(TCP) and Internet Protocol (IP).
In 1986, the U.S. National Science Foundation (NSF) initiated the development of the NSFNET
which, today, provides a major backbone communication service for the Internet. With its 45
megabit per second facilities, the NSFNET carries on the order of 12 billion packets per month
between the networks it links. During the course of its evolution, particularly after 1989, the
Internet system began to integrate support for other protocol suites into its basic networking fabric.
The present emphasis in the system is on multiprotocol interworking, and in particular, with the
integration of the Open Systems Interconnection (OSI) protocols into the architecture. By the end
of the 1990’s the Internet has transformed not only the way we do business, but particularly the way
we do financial investment. The number of Internet users reaches several dozens of millions. A
good fraction of this market is gearing up to become online investors.
Current estimates indicate that online investors is around 6.4 million strong. And like most human
activity, there's strength in numbers. Recent figures illustrate the fact that online day traders, in
conjunction with the hunger for Internet stocks, have pushed the average trading volume on the
NASDAQ to 800 million shares a day. (24)
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IV – Methodology and Findings
Topics to be covered (just for orientation purposes)
The success of online trading
The Numbers
The Competition
The Technological Changes
Day-Trading
Regulatory Concerns
Projected trends that Internet investing has followed and Environment
Investment information available on the Internet
Marketing of Internet investing(E-trading, Virtual Companies)
Small investors and the Internet
Large investors and the Internet
Projected future on Internet investing strategies
The success of online trading.
Consider the following examples to get an insider's view of a few successful online traders (24):
Rory Heiner, 35, of Phoenix, Ariz. is a former auditor for Wells Fargo Bank who now spends much
of his day taking care of his young son and researching and trading stocks on the Internet. His tools:
a Gateway Pentium PC and online broker Waterhouse Securities. Heiner, like many of his online
trading peers, has split his portfolio into two. "There are some longs like Intel (INTC), which I
pretty much leave alone, and the other Internet stocks like America Online (AOL) and Yahoo!
(YHOO), which I trade," he says. "However, I do not trade in the more volatile second-tier Internet
stocks, but recently have purchased [and traded in] stocks like E*Trade, which I think will benefit
from the trend of online trading," says Heiner. Good trade. He bought E*Trade at 21 and sold it at
44 1/2--that's about $23,000 in profits gained on the 1,000 shares he bought. Heiner's trading is a
good cyberexample of financial guru Peter Lynch's mantra: "Invest in what you know best."
Heiner says he trades and invests based on the news. "I use message boards to check out the pulse
of the market, check headlines on sites such as CBS MarketWatch and Yahoo! Finance pages, and
then read the financials," he says. Real-time quotes come courtesy of his broker.
With so much information at his disposal, people like Heiner trades once a day, tweaking his
$250,000 portfolio in order to make extra profits.
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The Numbers of Online Trading
For those who have been following the stock market at all over the last year or so, you' will no
doubt have heard about a new breed of investor that trades and finds market intelligence exclusively
on the Internet. Current estimates indicate that this group of investors is around 6.4 million strong.
And like most human activity, there's strength in numbers. Recent figures illustrate the fact that
online day traders, in conjunction with the hunger for Internet stocks, have pushed the average
trading volume on the Nasdaq to 800 million shares a day. (24)
As recently as two years ago, the day-trader phenomenon barely had a presence. What prompted it
to evolve into such a powerful force in the investing world? Technology, of course. Just as the
growing number of hot tech stocks has made so many investors wealthy,
the declining cost of personal computers and easy access to data through the Internet has
significantly reduced the barriers to becoming one's own brokerage firm.
This evolution hasn't gone unnoticed by Wall Street. Big brokers like DLJ and Charles Schwab
have opened their own online trading arms. Others have started from scratch and had great success.
Take the Palo Alto, Calif.-based E*Trade, which saw its customer base soar in the fourth quarter to
676,000, adding 132,000 members. So successful has E*Trade been that it too is benefiting from
the online investing craze. For example, E*Trade shares rose $20.88 or 31% to $88.50 following
news that its first-quarter 1999 revenues were up 63% over last year.
So what does it take to be an online trader--besides a keen interest in the technology sector and a
craving to make money? Here are some statistics: The average online trader spends four to five
hours a day online scouring financial web sites and chat rooms for news on the market. He might
have at least two (online) accounts set up at various brokerage firms and on average makes one to
five trades a day. That's the easy part.
What used to make life difficult for online traders was the costly fees they had to pay to get realtime stock quotes. Alternatively, with PC prices falling below $1,000 and sites like
freerealtime.com giving away real-time stock quotes, online trading has become affordable.
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The Competition
The life on “online” for brokers, however, is not just a bed of flowers. For example, they are getting
tired of picking up the crumbs of the IPO pie (6). That is why Schwab is banding together with
Ameritrade Holding Corp. and TD Waterhouse Group Inc. to form an online investment bank in a
bid to gain more coveted shares of initial public offerings. The three, with access to more than half
of all U.S. online customers and assets, hope to persuade major Wall Street underwriters to allocate
a greater share of IPO shares to the new, as-yet unnamed bank. The new venture reflects the
inability of online investors so far to make a big dent in the IPO market. Though online stock
trading has become a force to be reckoned with by major Wall Street securities firms, online
investors themselves haven't had much success in obtaining IPO shares. That's because most IPOs
are still controlled by the major Wall Street securities firms -- led by Goldman Sachs Group Inc.,
Merrill Lynch & Co., and Morgan Stanley Dean Witter & Co. -- which tend to allocate most IPO
shares to their best customers, most of them big mutual funds and other institutional investors.
In its own way, private banking is stepping into the New Economy. Private bankers, who once
catered mainly to wealthy old families, are now chasing Internet millionaires, corporate executives
awash in stock options and other sudden winners from the big bull market. (1)
Right now, private bankers' hottest prospects are Internet moguls, and it's easy to see why. Selfmade wealth is far outpacing the inherited variety, and high-tech people are the most conspicuously
successful entrepreneurs in the land.
Thus it was that Citigroup last year opened a private banking office in Palo Alto, in the heart of
Silicon Valley. Although the office houses fewer than a dozen employees, its opening was so
important, symbolically, that John Reed, Citigroup co-chairman, made sure to be on hand for the
ribbon-cutting.
"The Internet generation wants to stay involved and be in the driver's seat," says Lagomasino of
Chase.
The Technological Changes
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It is no coincidence that MCI WorldCom has "Com" in its name (2) , the tag that has become
synonymous with the Internet. While the company, which last week celebrated its first birthday
since the $40 billion merger of MCI Communications and upstart WorldCom, is the nation's No. 2
long-distance carrier, it also carries an estimated 50% of the world's Internet traffic.
Through a series of acquisitions engineered by the company's jeans-and-cowboy-boot clad chief
executive, Bernard J. Ebbers, MCI WorldCom is positioned to deliver the all-important "end-toend" services seen as the holy grail in the fiercely competitive global telecommunications market.
Chief among those assets are the ones related to the Internet, managed through its UUNet division,
which will be one of the key drivers of its growth for years to come.
Day Trading
If online stock trading is a fast-moving car (3), the rapid-fire version known as "day trading" is a
race car in the Indianapolis 500 -- a supercharged subset emphasizing speed and control.
But the once-clear line between conventional online trading and day trading is blurring. Both types
of companies are merging lanes and starting to fight for each other's investors now: Conventional
online brokers such as E*Trade Group Inc. and Charles Schwab Corp. are scrambling to grab the
business of the superactive traders, while some upstart day-trading concerns are trying to soften
their edges and peddle their services to a wider audience.
It is all happening as the rate of growth in the online-trading industry slows, making all firms more
vulnerable to customer defections.
Regulatory Concerns
With only one audit finished, Washington regulators already are thinking about the day-trading
rules they want to write (5).
Securities Division officials, worried that residents might be taking too many investment risks,
decided several weeks ago to probe the state's day-trading shops.
The first audit, of a Seattle firm regulators won't identify, found that 85% of the 20 clients had lost
money -- one as much as $200,000. Of the three who turned a profit, the biggest winner pocketed
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$20,000. These type of findings have officials "concerned about the type of person being allowed to
participate in" day trading, says Deb Bortner, the Securities Division director.
Since day trading is one of the riskiest forms of market speculation, regulators say those who play
the game should be savvy investors with deep pockets. But Ms. Bortner says the probe indicated
that "for most, their net worth is their residence, and that's not good enough to back up risky day
trading."
Young Investors
Who was behind all the talk last week that America Online was looking to buy part of Excite At
Home in a deal with AT&T? Some hotshot Wall Street analyst? Gossip-crazed floor traders? A
loose-lipped chief executive officer? (4) Nope. The unlikely market mover who sent Excite At
Home shares up as much as 32% was Kevin Prigel, a 20-year-old business student at Texas
Christian University who launched his own financial Web site last year, StreetAdvisor.com
(www.streetadvisor.com).
Two Saturdays ago, on Sept. 25, Mr. Prigel posted a research report in which he wrote that "highlevel sources have confirmed" that AOL, Excite At Home and AT&T were negotiating for AOL to
acquire the Excite Web portal from Excite At Home, splitting the recently merged company's
content and distribution arms. Rumors about a deal quickly spread through online chat rooms,
prompting follow-up reports by a host of securities analysts and news outlets.
Another example is John C. Lavan, a 20-year-old Notre Dame junior (17), who walked away with
the victory in WSJ's latest stock-picking contest, trouncing four investment professionals. A finance
major and son of a former commodities trader, Mr. Lavan was one of more than 800 readers who emailed stock picks to The Wall Street Journal Interactive Edition last spring. His entry, one of four
drawn at random from among the reader picks, was Elbit Ltd., an Israeli maker of electronic and
imaging systems. The stock soared more than 110% from May to Oct. 29, leading the Readers'
Portfolio to a stunning victory. Their average gain: about 24% compared with a meager 1.5% for
the pros.
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If the investment professionals are embarrassed, they aren't admitting it. "Congratulations, guys,"
says Gary Campbell, chief investment officer for Commerce Bank's Commerce
Funds in St. Louis. "It's bound to happen from time to time." Mr. Campbell was the top pro in the
contest with a 52.1% gain in QRS Corp., a Richmond, Calif., company that provides software and
related services to help retailers manage inventory and track sales.
Even counting the latest results, the pros remain comfortably ahead of the darts and the Dow Jones
Industrial Average when results are tallied of all 113 contests since current rules were adopted in
1990.
Internet Stocks
Indexes that track Internet stocks are more than just a way to keep tabs on your investments:
Increasingly, the indexes themselves are investments (7).
Sparked by investor demand to get in on the highflying Net sector, many index providers have
teamed up with Wall Street firms to offer investments directly linked to Net indexes. These
Internet-index mutual funds can offer a relatively low-cost way to invest in a diverse group of Net
stocks.
Diversification can be important for Internet-stock investors. Because of the sector's volatility -- and
the risky nature of Net stocks, which can make today's Internet star tomorrow's loser -- investors
may find that they want to own a selection of stocks in the sector.
But getting diversification can be expensive and burdensome. Buying individual stocks can eat up a
lot of money in commissions and it can take up a lot of time, forcing you to research each stock
pick and constantly be prepared to adjust your holdings. Buying an actively managed mutual fund
saves time because a professional manages the portfolio, but expenses cut into returns.
NEW YORK -- Ivillage (IVIL), StarMedia (STRM) and Proxicom (PXCM) are all about to sell
shares to the public. Hey, wait a second! Didn't all these companies already go public just a few
months ago? Yes, indeed - and it worked so well the first time around that they're all getting ready
to sell stock once again.
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IPOs and the Internet
Welcome to the boom in follow-on offerings. The tactic certainly worked handily for Juniper
Networks (JNPR). The networking pioneer pulled off a success ful stock offering last week - just
three months after its stunningly successful IPO. And now a slew of Web companies are lining up
to take a second ride on the gravy train (8).
There's nothing wrong, or all that unusual, about follow-on offerings. About a third of all IPOs
return to the public market within five years to raise more money, according to Ivo Welch of
UCLA's Anderson School of Management's IPO Resource Page. And for the typical Internet new
issue, they're almost a foregone conclusion. The reason is that many IPOs offer few shares at
relatively low prices in order to heighten demand. There may be a 500% opening-day pop as a
result, but the company didn't raise as much money as it could; subsequent offerings may be
necessary just to stay afloat.
First of all, let's define our terms. A "follow-on offering" - a.k.a. "seasoned equity offering" consists of shares issued by a company in order to raise money after it is already public. It results in
an increase in the total number of shares outstanding. Meanwhile, a "secondary offering," strictly
speaking, is the sale of existing stock, usually by insiders like venture capitalists, private corporate
investors and company executives (although "secondary offering" is used loosely to describe
whatever follows an initial public offering). But wait:
After-hours Trading
The after-hours trading market, with its segmented trading systems and inconsistent pricing, can be
a precarious place for investors (9). But some online brokerage firms hope to tame that market -and earn investors' confidence -- by giving their customers access to multiple extended-hours
trading networks. The firms hope to calm investors who are worried that they may not be getting
the best prices outside regular market hours.
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"This is a big first step toward getting better liquidity and price transparency for the extended
market," says Kurt Halvorson, president of Ameritrade's clearing subsidiary, Advanced Clearing.
"We really think this is what it is going to take to get investors interested."
Most after-hours trading is done via electronic communications networks, or ECNs, which are
computerized quasi-stock exchanges that match up buyers and sellers. Professional traders have
long used such networks to trade stocks with each other outside normal market hours, and now
most major online-brokerage firms have paired with an ECN to give the firms' individual-investor
customers access to extended-hours trading.
Critics have long warned that such systems can be dangerous for novice investors, particularly
because there are fewer participants and it can be difficult for investors to know whether or not
they're getting a good price when they are buying or selling shares. Because the ECNs don't
communicate with one another, an investor could see significant differences in prices available on
different systems.
The difficulty in finding the best prices after-hours will be eased somewhat next week, when the
Nasdaq Stock Market and the New York Stock Exchange extend operation of their central systems
for reporting stock prices until about 6:30 p.m. Eastern time. Separately, several ECNs have
discussed the idea of sharing price information during later evening hours.
But until after-hours trading data are available from a central source, investors may have to shop
around the various ECNs to find the best deal. For instance, an investor would use a brokerage
account at Datek Online to check the prices available on Island ECN, Datek's after-hours trading
partner, and then use an E*Trade Group account to check the prices on Reuters Group's Instinet,
E*Trade's after-hours partner.
Global Competition
Twenty years ago, long before this southern city became a software mecca, two entrepreneurs
discussed working together on high-tech projects that might galvanize the country's sleepy
economy. Fortunately for India, they didn't hit it off (10).
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Instead, they went on to build rival software companies that have produced about $13 billion in
shareholder wealth -- a staggering sum for a developing nation. They have become icons
of the country's new economic order, embodying the changes that Indian business must make to
build world-class companies and a more modern, prosperous future for its one billion people.
One of the entrepreneurs is Azim Premji, a longtime maverick in India's family-dominated business
world. Years before other family-owned firms opened up to outside advice, he hired professional
managers to help steer his company, Wipro Ltd. He has a sharp eye for talent, a clinical drive for
quality and a thrifty side that bans cellular phones as frills. Despite owning $5.5 billion in Wipro
stock -- making him the richest Indian, on paper, in the world -- the 54-year-old chairman doesn't
demand a reserved parking space at work.
Across Bangalore, N.R. Narayana Murthy, 53, presides over Infosys Technologies Ltd., which he
founded in 1981 with six other software writers and $1,000 pooled from household money largely
controlled by their wives. From opening its books to showering employees with stock options and
becoming the first Indian company to list shares in the U.S., Infosys has blazed a trail that many
Indian bosses, including Mr. Premji, are following.
"We certainly find it useful to benchmark ourselves against companies like Infosys and Wipro,"
says K.B. Dadiseth, chairman of Hindustan Lever Ltd., the Indian unit of Unilever PLC, the AngloDutch personal-products and food giant.
The Information Age "can help India jump from an agrarian economy to a service economy,
skipping heavy industry," says Sunil Seth, a Bombay director at Indosuez W.I. Carr Securities, a
unit of French bank Credit Agricole Indosuez.
It is a long, uncertain leap. Even in cutting-edge Bangalore, telephone exchanges are so
overburdened that traffic jams can delay calls for hours. Brownouts are so frequent that the first
thing software start-ups is look for is space to install a generator. And much of the software industry
has yet to follow Messrs. Premji and Murthy in graduating from low-end projects, such as fixing the
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millennium bug, to state-of-the-art work, such as designing software to handle Internet commerce,
where India must compete on quality, not just cost.
Internet Cuts Costs
The city of Pittsburgh, in a novel tack, is aiming to cut out Wall Street middlemen in marketing its
municipal bonds (11).
Monday, the city set plans to sell $55 million of bonds directly to investors over the Internet, a
move that could put a scare into Wall Street dealers and encourage other issuers, including U.S.
companies, to appeal directly to investors when issuing bonds.
So far, the Internet has had much more of an impact on stocks than on bonds. Online trading
represents as much as 16% of daily stock trades, and there already are efforts, led by W.R.
Hambrecht & Co., to help companies issue stock online directly to investors, although the activity
has not been heavy. In comparison, online bond trading represents just 2% of daily bond
transactions.
Traditionally, municipal-bond issuers turned to Wall Street firms and banks to sell municipal debt.
They would either pick a firm to buy their entire lot of bonds or conduct a competition, or "beauty
contest," among brokerage firms eager to buy the bonds. The securities firms and banks would then
re-offer the bonds to investors large and small, pocketing a fee between what they paid for the
bonds and what they sold them for. It has never been industry practice for issuers to target investors
on their own (except in certain private placements).
Now, the Pittsburgh move is shaking things up. In early November, the city will conduct an online
auction of its bonds with the help of an upstart company called MuniAuction Inc. of Pittsburgh.
While Wall Street dealers will be allowed to participate, the city is sending letters to more than 750
institutional investors, encouraging their participation.
The relationship between Wall Street dealers and municipalities has long been controversial. In
recent years, the Securities and Exchange Commission has issued rules restricting "pay-to-play"
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practices, in which brokerage firms made campaign contributions to public officers as a way of
influencing their choice of bond underwriter.
It is that give-and-take that partly influenced Pittsburgh's move. Working with brokerage firms and
banks means "giving work to your new best friends, and that just didn't seem the most efficient"
way to sell bonds, says Mayor Tom Murphy. Pittsburgh previously conducted six online auctions of
its bonds, using MuniAuction, but investors weren't allowed to participate in those auctions.
E-Commerce Problems
Capital has been raised, a marketing plan created, a nose-ringed graphic artist hired to make some
pretty graphics. Time to sit back and collect the money, right? Well, right -- until the first customer
calls demanding, "Where is the *$#@ package?" Welcome to the great bottleneck on the ecommerce superhighway: delivery hassles. In the face of such hassles, e-commerce's promises can
melt like, well, like the frozen turkey that I ordered for my brother that defrosted under the Arizona
sun when FedEx left the package on his doorstep. As a result, some e-customers and e-merchants
may rethink the basic premise that underlies e-commerce (12).
This premise: in exchange for the convenience of shopping at 3 a.m. from their home computers,
customers will accept waiting for a delivery and paying shipping fees. Web merchants would
benefit because they don't have to spend money on customer service. Ideally, the only human
interaction is the UPS delivery person who comes to your door and hands over the package.
Unfortunately, it doesn't always work out that way.
You have heard of online trading for individual investors. Here comes online trading for corporatefinance chiefs (13). Harpal Sandhu wants to let companies trade everything from foreign-exchange
options to interest-rate derivatives over the Internet, just like Charles Schwab Corp. and E*Trade
Group Inc. have allowed small investors to buy and sell stocks online.
"What better product to sell in a virtual market than a virtual product?" he quips, referring to some
of the esoteric financial products that will be available on the site. His company's Internet site,
CFOweb.com (www.cfoweb.com), is one of several start-up sites now launching to let corporate
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treasurers and chief financial officers, as well as portfolio managers, trade online. Meanwhile, the
world's biggest commercial and investment banks that dominate those businesses are scrambling to
move online, launching their own ventures or partnering with the start-ups.
The potential market appears huge. While trading on the New York Stock Exchange and Nasdaq
Stock Market totaled $4.7 trillion in the second quarter, more than $1 trillion of foreign currency is
traded every day, and the "notional," or face value, of currency and interest-rate derivatives grew by
76% in 1998 to $51 trillion, according to Hambrecht & Quist and the International Swaps and
Derivative Association.
Compared with online stock trading by small investors, online trading of these wholesale money
products "potentially could be far bigger, because the volumes we're talking about are far bigger,"
says David Woods, managing director of e-commerce for investment banking, treasury and fixed
income at ABN Amro Bank NV, one of the world's largest banks.
Internet Reduces Inflation
An emerging Internet economy is prompting the Federal Reserve to be less aggressive in curbing
inflation, said Dreyfus Corp. chief economist and chief investment strategist Richard Hoey (14).
It is anticipated the Federal Open Market Committee will raise short-term interest rates 25 basis
points at its Nov. 16 meeting and then stand back on Dec. 21. "They certainly don't want to do it in
December so close to Y2K," he said.
Widespread discounting of everything from airline tickets to books on the Web has kept traditional
brick-and-mortar retailers from raising prices during this time of robust consumer spending, Hoey
said. And such competitive pricing has mitigated inflation, he explained.
Speaking to journalists at the firm's New York headquarters Thursday, Hoey said the Internet's
disinflationary impact on the U.S. economy is helping a broad range of companies that could
otherwise suffer from aggressive Fed tightening.
19
"There is an inflation cycle but it is a mild cycle, therefore calling for not as much Fed tightening,"
Hoey said.
Investment Strategies
Want to own a piece of the Internet without investing a small fortune or putting all your eggs into
one virtual basket? E*Trade (nasdaq: EGRP) this fall has rolled out two new Internet funds:
E*Trade E-Commerce Index Fund and E*Trade Technology Index Fund (25).
The online trading company launched its first proprietary mutual fund in February, a plain vanilla
S&P 500 index fund. The E*Trade fund family just passed the $85 million mark, a minuscule asset
base compared with the Charles Schwab fund family's $100 billion in total assets. But the two new
funds focus on Internet and e-commerce stocks and are a better
fit for the firm's clients.
"We know we're latecomers to a pretty big party, but that's not going to stop us. We're small, but
we're growing quickly," says Joe Van Remortel, E*Trade Fund's product development chief.
E*Trade began an e-commerce fund last month, which is linked to the Goldman Sachs ECommerce Composite index. More than a collection of dot-coms, this index includes e-commerce
software makers, service providers and infrastructure builders with a market cap of at least $1
billion. In recognition of the shifting fortunes in this sector, Goldman reserves the right to drop any
company whose market cap drops by 50% or more.
The fund's expense ratio is a relatively modest 0.95%, well below similar index funds, and the
minimum initial investment is just $1,000. In comparison, Integrity Global Asset Management's
new Internet Index Fund has an expense ratio of 1.4% and a minimum investment of $2,500.
E*Trade offers a more diversified technology fund which tracks the Goldman Sachs Technology
index. This comprises 160 companies from six segments of the U.S. high tech marketplace,
including Internet, multimedia networking, semiconductors, services, hardware and software. Some
of the companies represented: 3Com (nasdaq: COMS), Intel (nasdaq:
20
INTC), America Online (nyse: AOL), Sun Microsystems (nasdaq: SUNW) and Yahoo! (nasdaq:
YHOO). The expense ratio is 0.85%, which is also quite low for a technology sector fund.
So, will online investors used to moving in and out of stocks at a rapid pace take to index funds?
Van Remortel says the company already has a large number of customers that are both holding
mutual funds and actively trading in stocks and options.
"It's almost as if one part of their brain is geared towards a 'buy and hold' mentality," he says,
"while another part of their brain is excited by trading puts on Yahoo! or buying Red Hat, watching
it soar and taking a profit in the short run."
But these funds are not for the risk averse. Although investing in a fund is certainly less risky than
buying one or two e-commerce stocks, these funds will move with the fortunes of their sector. If
you're are conservative, round out your portfolio with an S&P 500 index fund, or
money market or bond funds.
If you trade online now, you probably won't object to E*Trade's requirement that you agree to
receive all fund information electronically. According to the company, this minimizes overhead and
helps keep expense ratios low. Another benefit to investors: Because
these funds are new, there's no long-term buildup of capital gains--which can hit investors with tax
consequences on gains before they've invested in a mutual fund.
It is surprising how few Internet funds exist, considering the popularity of this sector. Executives at
E*Trade say they are filling a hole, and Tony Sagami agrees. "They're trying to come up with
products that nobody else has. Even Fidelity, the king of sector funds, does not
have an Internet fund," says the editor of Stocks on the Move, an Austin, Tex.-based investment
advisory newsletter.
Mutual funds don't come with easy-to-read price tags, but this is yet another situation the Internet is
changing (15).
21
While some mutual-fund costs -- like up-front "loads," or sales commissions -- are quite obvious,
other costs are less visible because they are subtracted from fund returns. To figure all this out for
consumers, a handful of Web sites have dived into the tricky lingo of 12(b)1 fees, level loads and
C-shares, attempting to get past the jargon and give answers in dollars and cents.
The idea is to show mutual-fund investors exactly how much of their potential return is eaten up by
expenses -- a subject that could suddenly seem more important if funds don't continue to generate
the double-digit gains that minimize the impact of fees.
On some sites, for instance, graphs and pie charts illustrate how a mutual-fund investor with
$10,000 can earn an extra $3,000 over 20 years by choosing a stock fund with a low 1%-of-assets
annual expense ratio instead of one with a more-typical 1.5%. The comparison assumes the
performance of two investments will be equal before fees (in this case, 8%). That's a big assumption
-- but no bigger than the assumption that fees don't matter because your funds delivered impressive
results over the past few years.
The you-need-to-know-more push started earlier this year, when a handful of U.S. Securities and
Exchange Commission economists and technology specialists introduced one of the first mutualfund cost calculators in cyberspace. Fund companies and finance-focused Web sites quickly built
links to the SEC's calculator, and some rolled out versions of their own. An informal count by The
Wall Street Journal found cyberspace cost calculators, or links to them, at no fewer than 15 sites.
Regulatory Issues
A rewrite of financial-services regulations is expected to make for sweeping changes among the
industry giants. But don't expect your online broker or banker to take advantage of the new
legislation (16).
Last week's agreement between Congress and the Clinton administration to repeal the Depressionera Glass-Steagall Act means the remaining regulatory walls separating commercial banks,
investment banks and insurance companies are set to finally come down.
22
Observers say that the pace of consolidation in the financial-services industry, already quick for
years now, could gather even more speed as the largest companies seek to build the financial
supermarkets that would now be permitted. Banks, brokers and insurers would all be free to merge.
Morningstar.com, a leader in mutual-fund research on the Web, is now offering free stock-picking
advice to its subscribers (18). But financial planners warn that you might get what you pay for.
Morningstar.com's (www.morningstar.com) customers now receive weekly e-mails from the
company, each featuring the top five stock and mutual-fund picks chosen by a newly established
team of analysts.
Pitching stock picks to individual investors is a new twist for Morningstar, which has built its
reputation on being an objective third-party source for mutual-fund research and data. It joins an
ever-growing crowd of financial sites that make stock recommendations for free, many of which
have ulterior motives for making the picks. Major brokerage firms, for instance, will often offer
advice on their sites in an effort to drive volume, while scam artists set up sites that pump up stocks
in the hope of reaping big gains.
The New York Stock Exchange unveiled plans Friday to adopt a Web-based trading system, amid
increasing competition from electronic competitors (18). Chairman Richard Grasso said the
exchange would create an electronic order book to fill orders of 1,000 shares or less and the new
system is expected to be operating by the second quarter of next year.
In a speech Friday at the Securities Industry Association's annual meeting in Boca Raton, Fla., Mr.
Grasso said the move signals a "fundamental" change in the way the stock exchange operates.
Small investors, he said, will benefit from fast, low-cost, reliable executions and "extended hours
trading in NYSE stocks with NYSE safeguards."
23
Analysts agree it is a major change for an exchange whose members have long sought to protect
their franchise of setting prices for stocks by conducting auctions on the trading floor. But with
many rival exchanges setting up shop electronically, the Big Board had little alternative.
"Filling orders electronically is well underway already at the Nasdaq and European stock markets,
so why shouldn't the world's biggest stock exchange join along?" said Deborah Williams, director
of research at Meridien Research, a financial-services industry research firm in Newton, Mass.
"Keeping pace is an important matter of perception."
In effect, the Big Board is creating its own electronic-communications network, or ECN. ECNs,
such as Instinet or Island, are for-profit companies that bring buyers and sellers of stocks together,
much like a stock exchange. These networks have become popular venues for online trades because
they complete orders, primarily for small technology stocks, more cheaply and quickly than the
brokers who operate on the floors of stock exchanges. The rise of ECNs has helped make small
stocks quoted on the Nasdaq Stock Market more "liquid," which means they are easier to buy and
sell.
Insurance Business Follows the Internet
Kathy Shaw was clicking around the Web a few months ago and stumbled on a site that offered to
get her quotes on auto insurance from several different companies. For her, the discovery was a
blessing (20).
Ms. Shaw says she "absolutely hated" shopping for car insurance. Indeed, for many consumers, the
task can be annoyingly tedious, involving numerous telephone calls in search of the best deal.
The Leeds, Ala., woman decided to try the site, one of a handful of insurance martketplaces on the
Web that promises to help consumers avoid the usual headaches while saving hundreds or even
thousands of dollars.
After answering a few questions about herself and her car, Ms. Shaw was steered to an insurance
company that offered her the same coverage she already had for about $200 less a year. "I couldn't
believe it," she says.
24
Impressed, Ms. Shaw says she now plans to do her all auto-insurance shopping on the Internet. She
joins a growing number of cyber insurance shoppers who are being lured by the promise of hasslefree savings.
And while their numbers pale in comparison to those who buy insurance the more traditional way -by calling around to different agents for quotes -- analysts say the online business should boom over
the next three years.
The Internet accounts for about 0.3% of $700 billion consumers spend on insurance annually,
according to Gomez Advisors, an online research firm in Lincoln, Mass. The Web share is expected
to surge to 1.7% by 2002.
Insurance Web sites -- where consumers can comparison shop for insurance coverage for their cars,
homes, and life from different underwriters -- are racing to capture a piece of that business.
Internet Competition
E*Trade Group Inc. is taking the gloves off in its latest print ad, chastising rival Morgan Stanley
Dean Witter & Co. for doubling trading commissions in a revamp of its Web business (21).
The advertisement, some of them a full page, appeared in nationwide publications such as The Wall
Street Journal, Barron's and Investors Business Daily. They also offer $150 to Morgan Stanley's
Web-trading clients to switch their accounts to E*Trade.
Morgan Stanley, an old player in the online-trading business, has been offering online trading
through a separate discount unit, Discover Brokerage Direct, since 1997. But three weeks ago,
Morgan Stanley phased out its discount business and rolled out a reincarnation called Morgan
Stanley Dean Witter Online. The new service, available to all the firm's clients, combines Web
trading with customized financial advice.
25
Clients of the former Discover Brokerage Direct, who used to be charged $14.95 for market orders,
will in April have to pay $29.95 for trades made on Morgan Stanley Dean Witter Online.
E*Trade pounced on the change, highlighting the commission increase in its new ad. "Funny how
Discover Brokerage never ran a 'we'll be absorbed by a traditional broker and your rates will
double' TV commercial," reads the ad.
In smaller print, E*Trade goes on to say that former Discover customers who transfer their accounts
to E*Trade will receive up to $150 as a sign-up bonus. E*Trade offers online market orders for
$14.95, and commissions go as low as $4.95 for active traders.
The ads are the most brazen so far in the online-trading war, which is getting more heated as fullservice firms, such as Morgan Stanley, roll out sites that threaten the dominance of E*Trade and
other discounters.
E*Trade says it is trying to set itself apart from full-service rivals. "We're trying to draw a
distinction between E*Trade and what we view as the traditional legacy brokers who operate not
necessarily with the best interests of the customer at heart," says E*Trade spokesman Patrick Di
Chiro. "They're changing their role in midstream on their customers. We are trying to draw a
distinction. …We're all about putting the power back into individuals' hands."
Three online brokerage firms, led by Charles Schwab Corp., are tired of picking up the crumbs of
the IPO pie Schwab is banding together with Ameritrade Holding Corp. and TD Waterhouse Group
Inc. to form an online investment bank in a bid to gain more coveted shares of initial public
offerings (22). The three, with access to more than half of all U.S. online customers and assets,
hope to persuade major Wall Street underwriters to allocate a greater share of IPO shares to the
new, as-yet unnamed bank.
Boosting the new venture's chances of obtaining IPO shares: Three venture-capital firms, led by the
high-profile Kleiner Perkins Caufield & Byers, also are becoming partners in the online bank. The
other venture firms are Benchmark Capital and Trident Capital.
26
And the Schwab group, in a jab at its biggest full-service brokerage rival, has hired Scott Ryles,
former head of technology banking for Merrill Lynch & Co. in Silicon Valley, as chief executive of
the new venture. Mr. Ryles, 40 years old, resigned two weeks ago from Merrill.
The new venture reflects the inability of online investors so far to make a big dent in the IPO
market. Though online stock trading has become a force to be reckoned with by major Wall Street
securities firms, online investors themselves haven't had much success in obtaining IPO shares.
That's because most IPOs are still controlled by the major Wall Street securities firms -- led by
Goldman Sachs Group Inc., Merrill Lynch & Co., and Morgan Stanley Dean Witter & Co. -- which
tend to allocate most IPO shares to their best customers, most of them big mutual funds and other
institutional investors.
Internet Outages
Want to find out the on-time performance of airlines, or check how often each loses luggage and
bumps passengers off flights? No problem. Want to know how many outages your online broker
has suffered this year and how long those outages lasted -- snafus that could cost you a bundle in a
volatile market? Uh, sorry (23).
Though computer outages are a frustrating fact of life in the online-brokerage business, Web firms
aren't required to, and usually don't, disclose system breakdowns. Even when asked, some of the 10
largest online brokers say that information is on a need-to-know basis -- and you don't need to
know.
Single longest outages reported by the 10 largest online-brokerage firms, based on their rankings as
of this summer.
Ameritrade
Charles Schwab
Morgan Stanley
D.W. Online
TD Waterhouse
National Discount Brokers
Suretrade
DLJdirect E*Trade
Declined to provide information
Declined to provide information
More than 30 minutes
3 5 hours, 45 minutes
1 4 hours
3 3 hours, 39 minutes
1 3 hours, 30 minutes
4 2 hours, 45 minutes
27
Fidelity
Datek
2 hours, 34 minutes
2 hours
28
Conclusions
The Internet has revolutionized and redefined the way financial investment strategies. The Internet
resources can provide the knowledge one needs for becoming a proficient online investor. The
potential is phenomenal and the future hard to predict.
From reducing inflation to impacting the reaction time of the market the Internet is here to stay and
redefine the way financial investment is done.
However, the Internet is a not a panacea. Technical and regulatory issues will have to be addressed
in order to make this revolution a greater success.
Among the considerable impacts of the Internet on investment strategies this paper found:
1–
2–
29
References
1 - PHIL ROOSEVELT , High-Touch Banking, Dog walking is out for private bankers, therapy is
in, , WSJ, September 20, 1999
2 - ROBIN GOLDWYN BLUMENTHAL, Forget long distance -- the Internet is stoking MCI
WorldCom's growth , WSJ, September 20, 1999
3 - REBECCA BUCKMAN, Online Brokers, Day-Trade Firms Start To Encroach on Each Other's
Cyberturf, WSJ, October 6, 1999
4 - JONATHAN WEIL, Student-Owned Web Site - Has Moved Stock Markets, WSJ, October 6,
1999.
5 – JEFF OPDYKE, Regulators Are Eager to Set Rules- For Day Traders in Washington, WSJ,
October 6, 1999.
6 - RANDALL SMITH, Online Brokers to Form Bank - In Bid for Greater Share of IPOs, WSJ,
November 15, 1999
7 - CARRIE LEE , Internet Indexes Become - A Way to Bet on the Net, WSJ, October 5, 1999.
8 - CINTRA SCOTT, SMARTMONEY.COM: So Much Fun, They Did It Again, WSJ, October 7,
1999.
9 – JASON ANDERS , Online Brokerage Firms Promise Better After-Hours Stock Pricing, WSJ,
October 6, 1999
10 – JONATHAN KARP , Information-Technology Gurus Shape Indian Economy's Future, WSJ,
September 7, 1999.
11 – GREGORY ZUCKERMAN, Pittsburgh to Sell Bonds on Net, Cutting Out Street's
Middlemen, WSJ, October, 12, 1999
12 - ANNE WATSON, E-Commerce Is Terrific --Until the Delivery Goes Awry, WSJ, October 12,
1999.
30
13 - PAUL M. SHERER Corporate-Finance Executives Trade Financial Products Online, WSJ,
October 13, 1999.
14 – AMY HUGHES, Dreyfus Economist Sees Web Economy As 'Disinflationary', WSJ, October
15, 1999.
15 - AARON LUCCHETTI, Internet 'Calculators' Help Investors, Untangle Web of Fees, Loads,
Expenses, November 1, 1999.
16 - AARON ELSTEIN, Online Brokers Aren't Expected to Take Advantage of Reforms, WSJ,
October 27, 1999.
17 - GEORGETTE JASEN, Notre Dame Student's Pick Scores Over Pros and Darts, WSJ,
November 4, 1999.
18 – CARRIE LEE, Morningstar.com Gets Into The Stock-Picking Business, WSJ, November 3,
1999.
19 – AARON ELSTEIN, Big Board Embraces Web As Competition Grows, November 5, 1999.
20 – JASON ANDERS, Web Sites Try to Help Investors Avoid Insurance-Shopping Pains,
November 8, 1999.
21 – CARRIE LEE, New E*Trade Ads Jab at RivalAs Online Competition Heats Up, November
10, 1999.
22 – RANDALL SMITH, Online Brokers to Form Bank - In Bid for Greater Share of IPOs, WSJ,
November 15, 1999.
23 - RUTH SIMON and REBECCA BUCKMAN, Online-Broker Outages Are Difficult to Track,
WSJ, November 15, 1999.
24 - OM MALIK, Forbes, Investing Online, January 16, 1999.
25 – ANNE GRANDFIELD, Forbes, Investing Online, October 12, 1999.
31
Appendix 1 - Online Resources (compiled from web sites)
ONLINE BANKING
 Bank of America
 BankBoston
 Capital One
 Citibank
 First Union Corp
 Fleet Bank
 Home Savings
 Mellon
 NationsBank
 PNC Bank
 Wells Fargo
BROKERAGES
 Accutrade
 American Express Financial Direct
 Ameritrade Inc.
 Brown & Co.
 Charles Schwab
 Datek
 Dean Witter
 Discover Brokerage
 DLJdirect
 Edward Jones
 etrade.com
 A.G. Edwards
 Merrill Lynch
 Olde Discount Stockbrokers
 PaineWebber
 Quick & Reilly
 SchwabNOW
 Scottrade
 Smith Barney
 SURETRADE.COM
MUTUAL FUND MANAGERS
 Aetna Fund Series
 The AIM Family of Funds
 American Century Investments
 Berger Funds
 Chase Vista Funds
 Dreyfus Funds
 Federal Funds
 Fidelity Investments
 Franklin Templeton
 Invesco
 Janus
 John Hancock Funds
 The Kaufmann Fund
 Kemper Funds
 Mainstay Funds
32
 Morgan Stanley Dean Witter
 Morningstar
 Salomon Brothers Funds
 Scudder
 Stein Roe
 Strong
 T. Rowe Price Funds
 Warburg Pincus Funds
 Waterhouse Securities
INFORMATION SERVICES
 Alta Vista Finance
 American Express Online Newsletter
 Alexander/Northern Light
 bloomberg.com
 Bonds Online
 BondVu
 Business Wire
 CBS MarketWatch
 CNN Financial Network
 cncurrency.com
 Dow Jones
 EDGAR Online
 Excite Money and Investment
 Go Network Money
 Hoover's Online
 HotBot Stock Page
 Insider Trader
 INVESTools
 Investor Guide
 InvestorsEdge
 IPO Online
 Kiplinger Online
 Looksmart Finance & Investment
 Lycos Money Center
 Market Guide
 The Motley Fool
 Mutual Funds Online
 NewsAlert
 PAWWS Financial Network
 PR Newswire
 Quicken.com Investments
 Quote.com
 Reuters Money Network
 Standard & Poor's
 StockMaster
 TheStreet.com
 The Value Line Investment Survey
 Zacks Investment Research
EXCHANGES & REGULATORS
 American Stock Exchange
 Chicago Board of Trade
 Chicago Board Options Exchange
 Chicago Mercantile Exchange
33
 Chicago Stock Exchange
 Minneapolis Grain Exchange
 Nasdaq Stock Market Home Page
 New York Cotton Exchange
 New York Mercantile Exchange
 New York Stock Exchange
 Philadelphia Stock Exchange
 SEC
ASSOCIATIONS
 Alliance for Investor Education
 American Association of Individual Investors
 The Bond Market Association
 Certified Financial Planner Board of Standards
 International Association for Financial Planning
 National Association of Investment Professionals
 National Association of Investors Corporation
 National Futures Association
 North American Securities Administrators Association
MAGAZINES ONLINE
 Barron's Online
 BusinessWeek Online
 The Economist
 Entrepreneur Magazine
 Financial Times
 Forbes
 Fortune Magazine
 Inc.
 Individual Investor
 Money Magazine
 Newsweek
 Online Investor Magazine
 Smart Money
 Stocks & Commodities Magazine
 Upside Magazine
 Worth Magazine
 Magazines not listed
Book Stores
 Amazon.com


AudioBookClub
http://barnesandnoble.bfast.com/booklink/click?sourceid=385399&categoryid=homepagebarnesandnoble.com


Books-For-Cooks.com
BOOKSAMILLION.COM








Books.com
Borders.com
BUYBOOKS.COM
Cherry Valley Books
Davis-Kidd Booksellers
Doubleday Book Club
Hastings
Joseph-Beth Booksellers
34



Levenger
MediaPlay
The Literary Guild
 Random House
 ScholarsBookshelf.com
MAJOR NEWSPAPERS ONLINE
 Atlanta Journal-Constitution
 Barron's
 Boston Globe
 Chicago Tribune
 Financial Times
 Investors Business Daily
 Los Angeles Times
 New York Times
 Investor's Business Daily
 San Francisco Chronicle
 San Jose Mercury News
 USA Today
 Wall Street Journal
 Newspapers Not Listed
SOFTWARE
 Anderson Investor's Software Inc.
 Cyberian Outpost
35