New Traders Learning Some Tough Lessons

Ronald Hohn used to be the online brokerage industry’s ideal customer.

The 62-year-old Highland Park retiree started investing online a year ago with “play money� and soon was up to about 10 trades a week as bets on soaring Internet stocks more than quadrupled his money. His biggest gain even came from the stock of an online broker: a $111,000 profit on E-Trade Group.

But like many other chastened Internet investors these days, Hohn has given back almost half his profits, and his trading activity has plunged even more. These days, he makes no more than three trades a week.

“The market has gone kind of berserk,� Hohn said. “Till it settles down, I’m not going to do much trading.�

Hohn’s story is being played out among thousands of individual investors these days.

When Internet stocks seemed like sure tickets to riches early this year, people couldn’t trade in and out of the stocks enough. But even with their rally of the last few days, most Net stocks are far below their 1999 peaks. Many small investors, in turn, have pulled back from their once-frenetic trading in those stocks and others--which is slashing the growth of online stock trading overall.

At least one industry analyst has predicted that total online trading volume will decline in the current quarter from the second quarter, after a blistering first-half surge. Those fears have crushed many online brokerages’ shares. Ameritrade Holdings shares have tumbled 62% from their recent peak; E-Trade is down 63%.

To be sure, the phenomenon of online investing isn’t going away. The factors behind any trading-volume slowdown would in part be temporary. For example, it’s common for individuals’ activity to slow in the summer as vacations beckon.

But the experience of investors like Ronald Hohn shows that the online-investing craze has moved beyond its infancy and is grappling with puberty.

For online brokers, the easy growth may be nearing an end, some analysts say. Heavy-duty investors already have Internet trading accounts, and people signing up now are likelier to do a couple of trades a month rather than a couple of trades before lunch.

Furious gains racked up by Internet stocks sparked 34% growth in online trading volume in the fourth quarter of 1998 and a 47% surge in the first quarter, according to Credit Suisse First Boston Corp.

But many Internet stocks peaked in April, and so did online trading activity. In the second quarter, online volume grew just 15% from the first.

For online brokerages, the numbers suggest that “you can’t load up the boat just with active traders, because if the market suddenly goes south, their trading activity goes south with it,� said Dan Burke, a senior analyst at consulting firm Gomez Advisors.

“You can say, ‘People can trade when the market goes down,’ but you don’t trade as much as when the market goes up.�

Brokers also must wrestle with the evolving trading habits of some veteran customers that lead them to trade less.

As they gain experience, some people say, they’re making more money trading but in fewer transactions. The reason? They make fewer bad bets, thus requiring fewer trades to unwind them.

“You do not find yourself trapped in market gyrations as much when you know what you’re doing, so you don’t sell at the lows and buy at the highs,� said Jim Little, a 41-year-old resident of Tampa, Fla.

And for investors in general, transaction volume trails off as the novelty of online trading subsides.

“When online trading was brand-new, it was a novelty for everyone. Now, people are looking for more than, ‘Wow, I traded a stock over the Internet.’ Big deal. What else can they do for me?� said Russell Keene, an analyst with the investment firm Putnam, Lovell, De Guardiola & Thornton Inc.

Still, there’s no question that the online-brokerage industry has room to grow.

About 5.1 million investors maintain 11.2 million online accounts today, according to Gomez Advisors. But 40 million households have regular brokerage accounts, according to Credit Suisse First Boston.

A study released Monday by Gomez Advisors and Harris Interactive predicted that 3.5 million investors are likely to open online accounts in the next six months, with an additional 12.8 million in coming years.

Much of that growth, however, will come from mainstream investors who trade far less frequently than the first wave of online customers, analysts say.

Online brokerages, like the traditional kind, still are eager to build up accounts and customer assets, even if trading activity is less robust. Once the customer is on board, the firms figure they can later sell them mortgages, insurance or other products.

Indeed, E-Trade is shelling out $1.8 billion for Internet bank Telebanc Financial.

Nonetheless, trading still generates 70% of online brokerages’ revenue, on average. And for now, many small investors are playing the trading game much less avidly than they did earlier this year.

For some, the strategy of buying volatile stocks on dips has failed consistently since spring. Burned, these investors have stepped away.

Hohn, for example, had done well trading Internet stocks, including CMGI, RealNetworks, E-Trade and Knight Trimark Group. But as Net stocks began to dive in the spring, Hohn bought into the sector several times, hoping that prices had hit bottom. He was forced to quickly exit as the downdraft continued.

Day-to-day volatility also has scared him off. “Going up 10 points one day and going down nine points the next day doesn’t make sense to me,� he said.

A couple of weeks ago, Hohn suffered a one-day paper loss of $18,000. “You get the feeling that every time you buy something it goes down, and every time you sell something it goes up,� he said. “I’m still bullish. I’m just on a hiatus here.�

Ivar Schoenmeyr, a 50-year-old engineer from San Juan Capistrano, also has found easy gains harder to come by. “The day-to-day increases I saw before went away, and I saw an equal number of pullbacks,� Schoenmeyr said. “I don’t know if I burned out or what, but I personally took a break.�

Schoenmeyr also took time off because it is summer and used part of his trading profits to pay for a two-week European vacation.

Some investors say other factors have combined to reduce their trading.

Jim Little has made a full-time job out of trading, even though he began investing less than two years ago. At his peak, Little averaged 20 trades daily. Now he does about half that number.

Little says he used to trade more frequently because he had to reverse many losing trades. But as he honed his skills, he has become “opportunistic� and learned to stay away from obvious losing trades.

Little also says he has grown cautious as he has made money and is less willing to gamble in certain situations. “As you become more successful, you become more guarded,� he said. “Your willingness to take as big a risk is diminished.�

The broad decline in the stock market since mid-July also has pushed some traders to the sidelines--even though, in theory, there’s just as much money to be made trading in a falling market by “shorting� stocks.

To short-sell a stock is to borrow shares from a brokerage, sell them and hold the cash. Then the trader hopes the stock will fall, allowing him to buy replacement shares at a lower price later.

But as some novice traders have discovered, shorting has its limits: Market rules forbid shorting a stock on a “downtick,� that is, when the last price was lower than the previous price.

The inability to short in some situations has prevented him from making some trades, Little said.

Times staff writer Walter Hamilton can be reached at [email protected].