The investor with no name
Taking on the stock market alone takes guts, smarts and straight-shooting
NEW YORK (CNNfn) - Herd mentality. Consensus earnings forecast. Mutual funds. It seems everything on Wall Street is about following someone else.
But sometimes, out of the distance, comes a stranger. He rides down Wall Street, takes the stocks he wants, and leaves again without a word. He is the investor with no name.
A rugged breed of individual, he turns his back on mutual funds, pursuing instead individual stocks and sectors, paying few transaction fees in the process.
Not a fistful of dollars
The investor who wants to go it alone can find enough stocks to buy without even setting foot in some tinhorn's brokerage office and paying a fistful of dollars, said David Venghaus, executive director of the Society for Direct Investing.
Direct investing is a stock-buying process where you purchase shares directly through the company, eliminating the brokerage middleman.
More than 500 companies offer you the chance to buy stocks directly from them, he explained, and the number is rising.
"We're seeing more and more of the larger companies offering this," said Venghaus. "The number of plans like this have doubled over the past year."
Direct stock purchase plans such as Venghaus described are an offshoot of dividend reinvestment plans (DRIPs).
Under DRIPs, a company lets anyone who holds even one share of its stock buy as many additional shares as they want without having to go to a broker. Once you enroll in the plan, any dividends you make are invested in new shares, but many let you buy more than just your dividends would be able to purchase.
Direct stock purchase plans (DSPs) take rugged individualism one step further. You don't have to go to a broker to buy even the first share which allows you the other shares under the DRIP.
The companies offering these plans aren't just hardscrabble firms in dusty, frontier towns. Walt Disney (DIS), J.C. Penney (JCP) and Procter & Gamble (PG) all have such plans.
While you avoid brokerage fees with these plans, there are some costs. "Some companies have transaction fees to buy and sell and some have additional charges for enrollment and safekeeping," said Venghaus. "But some don't have any at all either."
For a few dollars more
For a few dollars more you can expand the number of individual stocks available for purchase to virtually all of the stock market.
The rise of the discount brokerage has cut drastically the costs of going it alone on the stock market but you'll want to know what you're dealing with first.
Discount brokers rode in and took on the full-service brokerages -- those brokers who offered not only research but personalized advice to their clients about what stocks they should buy and when.
Discount brokers thought the full-service ones had gotten slow on the draw and flabby on fat commissions and transactions fees. Investors these days are smart enough to make their own stock choices, they believed, and offered ordinary folk a chance to trade at flat rates.
While many brokerages call themselves discount, there is actually a lot of variation between those who fall under this label. In general, there are three types.
Full-service discount: These brokerages have some of the higher fees in the discount world and include e.Schwab ($29.95 and up per trade) and Accutrade ($29.95 and up). These firms try to offer as many of the services of conventional full-service firms, but fall just shy of offering stock advice.
But in the wild, wild stock market there's always some kid who thinks he's faster than the aging gunslinger. Enter the medium cost discount brokers.
These brokerages charge between approximately $15 and $21 per trade of 100-500 shares. These include E*Trade ($14.95 and up per trade) and Quick & Reilly ($14.95 and up).
Besting them all are the deep discount brokerages -- those who charge you less than $15 for trades of 100-500 shares. Suretrade ($7.95 per trade) and Datek ($9.95 and up) fall into this category.
Just head off for the deep discount brokerages, you might say. Why pay any more than the cheapest trade price, right?
Don Johnson, editor of the Discount Broker Report said investors shouldn't be motivated too much by price when it comes to discount brokers.
"I suggest that customers should look for the lowest-cost broker who offers the other services they want or need," he said.
Assuming service is important to you, some of the deep discounters may come up short. If you trade in options, you'll want to go to one which specializes in it, such as Dreyfus
"If you're interested in other things like real-time stock quotes, mutual funds, penny stocks or personal broker assistance, you have to look for the appropriate discounter who can service your needs," said Johnson.
Price does play a part, though. Only a greenhorn should go to a higher-cost discount firm, he said.
"For people who do not know how to order a stock or even know what a stock is (or) do not want to do their own research or who have no sense about how to find stocks they might be interested in, a full-service broker might be appropriate."
The good, the bad and the ugly
Buying individual stocks isn't for everybody and the results can be good, bad or ugly.
Most investors choose to put their money into mutual funds for a variety of reasons. They may not have the time to research stocks on their own or feel they don't have the investment smarts to pick the right shares.
Additionally, mutual funds, because of their larger assets, can buy a wider variety of shares and thus spread out the risk. When one of their investments gets gunned down, several others may be performing well enough to offset the loss.
Still, heading out on your own has its advantages. It can make you a smarter investor since you'll have to research companies, look at their bottom lines and read all the annual reports and other statements you avoid as a mutual fund investor. It's a great learning experience.
You can also save yourself some taxes. Mutual fund managers turn over their holdings with little regard for the capital gains they incur (every time they sell shares for a profit, a capital gain is incurred and you directly or indirectly must pay it). If you buy your own stocks, you can hold them longer and avoid some taxes.
Still, Wall Street is littered with the bodies of those investors who took on the market and lost.
Individual investors are saddled with an emotional side that can be their undoing, said Terrance Odean, assistant professor at the Graduate School of Management at the University of California at Davis.
Odean set off for Wall Street to chronicle the fortunes of these investors and his research found overconfidence is a major problem among individual investors.
"It causes them to trade too much," said Odean. "Many have come to think that they are more astute investors than they really are."
After researching thousands of investors, he found most of them were selling shares and buying new ones which actually underperformed the ones they had sold. These investors also usually ended up with a portfolio of stocks that was not diversified enough, increasing the chances they could take a hit.
Settling down might be a better idea, he said. "Certainly a sensible alternative for a lot of investors would be to invest in low-cost, low-turnover mutual funds, the 'buy and hold' approach."
So although it might be more boring, you may want to tie your horse up in front of the nearest mutual fund and let someone else ride off into the sunset.
-- by staff writer Randall J. Schultz