Common Online Investing Mistakes

By Kimberly Clouse

Over the past several years, the growth of online investing has been explosive to say the least. According to a January 2000 Robertson Stephens report, close to 31 million ebrokerage accounts will be open by 2003, from just under 4 million in 1997. Moreover, Jupiter Communications predicts that online brokerage assets will grow to more than $3 trillion by the end of 2003, a sevenfold increase from $415 billion at the end of 1998. The good news is that trading and investing are becoming increasingly democratic as more people than ever are participating in the stock market. The bad news is that neophyte investors can often make mistakes as they navigate the online investing world; there is no human with whom to confirm orders or provide counsel on order selections. Common investor missteps generally fall into three main categories:

1. Market Orders in a Volatile Market: Today’s market volatility is unprecedented–on a weekly, daily, and even hourly basis. When investors place stock trades as “market orders,” they are exposing themselves, often unintentionally, to these price swings. Your market order, to buy 1,000 shares at $25/share for example, will be executed at the next obtainable price, and therefore, the price at which a trade is executed may differ from the quote you are given at the time of order placement. If the market price is changing rapidly or if other investors’ orders placed are ahead of yours in the queue, then what you thought you were buying at $25 might cost you $28, for a total order of 28,000, not the $25,000 you planned to spend. Investors are similarly exposed when they place market orders after hours. Trade orders can be placed 24 hours a day but are only executed during standard market trading hours. So if a given stock has moved appreciably before the order is executed, an investor might very well overspend.

   The many types of brokerage orders can be confusing, but it is well worth your time to know more about them as they can provide a degree of protection. A limit order, for example, is an order to buy or sell at a specific or better price, and an investor can use a limit order to help avoid situations like the one described above. Had the investor placed a buy limit order at $26/share, her order would have either been executed at a maximum per share price of $26 (or $26,000 total) or not at all. Due to complex stock exchange rules about the sequencing of orders and execution, however, there is no assurance that all orders at a particular limit will be filled even if the stock has reached the trigger price, but you can guarantee that you will not buy above your budget.

2. “Buy” Button Panic: You’ve just hit the “Buy” button to execute a market order (at $7/share) to buy 100 shares of HotStock.com, a company that you’ve been monitoring and evaluating for a week. You were in a bit of a hurry to place the trade; did you actually hit the button? Did your order get accepted? You wait for 15 minutes, and in the meantime, the stock price has moved to $9/share. You check your brokerage account balance again–the brokerage’s Web site still does not indicate that your HotStock.com purchase has been executed. You’re losing money! You should have made a $2/share profit by now, but the brokerage firm must have made an error! In a panic, you hit the “Buy” button again, just to be sure. You check your account a couple minutes later, and your heart sinks. Not only were BOTH of your orders placed, but also the combined total of your two purchase orders well exceeds the balance in your account. You are now the proud owner of 200 shares of HotStock.com at a cost of $1,600. The problem is that you only had $1,000 to invest.

   Market centers prioritize processing market orders first, and then limit orders (discussed above), and eventually confirmation reports. So in heavy volume markets, your online brokerage account might show that a trade is pending, when all that has happened is that the brokerage hasn’t yet posted the transaction to your account. If you think you have mistakenly double-placed an order, call (do not e-mail) your brokerage firm. Cancel one of your orders and ask for a “firm out,” which is a verbal confirmation that one of your orders was cancelled.

3. Incorrect Order Type: Be sure that you are using the right type of order for your intention. Investors are sometimes unclear about what type of order is appropriate for a given objective, and this can get them into trouble. Let’s say you bought 100 shares of GoodStock.com at $20/share, and the price has recently jumped to $35/share. You just heard on the news that GoodStock.com’s next quarterly earnings report might not be so strong, and that Wall Street analysts believe that GoodStock.com’s price will decline after the report is released next week. However, these same analysts believe that GoodStock.com will post solid earnings over the long-term, and the earnings weakness is short-term only.

   You reconsider your position: when you researched GoodStock.com prior to your initial purchase, you believed that the company had superior products, impressive management, etc., and none of those factors have changed. But you are worried about short-term movement in the stock. You can afford for the price to decline to $30/share, but below that level you would want to sell. Nonetheless, longer-term, you still think GoodStock.com is an above-average company and therefore a good investment, and if the price does not decline to $30, you want to take a “wait and see” approach. With this in mind, you place a sell-limit order at $30/share. You check the balance in your account, and you see that the stock was sold at $33/share! Hold on! A sell-limit order is an order to sell the stock at a price equal to or greater than the limit price, and your limit price was $30. Hence, you no longer own GoodStock.com stock.

   For your purposes, you should have used a sell-stop order. A sell-stop order would not have been triggered until the price declined to $30, at which point this type of order becomes a market order and transacted at the next available price. You would have weathered the short-term storm well within your comfort zone but owned the stock for the long-term.

   In short, online investing can be summed up in the age-old adage of risk-return. The “return” is lower transaction cost and convenience; the “risk” is the possibility of making an expensive mistake.

This column is designed to provide accurate and authoritative information on the subject of personal finances. It is provided with the understanding that the Author is not engaged in rendering legal, accounting, or other professional services by publishing this column. As each individual situation is unique, questions relevant to personal finances and specific to the individual should be addressed to an appropriate professional to ensure that the situation has been evaluated carefully and appropriately. The Author specifically disclaims any liability, loss or risk which is incurred as a consequence, directly or indirectly, of the use and application of any of the contents of this work.