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Online trading pitfalls
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August 2, 1999: 10:32 a.m. ET
Novices can avoid common problems by knowing what they're getting into
By Staff Writer Alex Frew McMillan
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NEW YORK (CNNfn) - So you've just opened one of the 15,000 online brokerage accounts investors set up every day. You're wired, fired up and ready to join the digital capitalist masses. What now?
There are a few tips and pieces of terminology that investors should know before they start trading online. First, don't think of it as trading, think of it as investing, said Nancy Smith, director of the Securities and Exchange Commission's Office of Investor Education & Assistance.
"That's one of the biggest problems -- people are just looking for a quick way to make money," she said. Sure, there are plenty of stories about people getting rich quick, she said. "They make nice stories, but don't take them too seriously." You can get poor quick, too.
Don't get too caught up in the technology, she advised. Because online investing is more self-directed than using a traditional broker, setting targets for your investing is vital, she said. "Bear down and keep your goals in mind."
And make sure you know what you're getting into. Online trading just gives you the tools to invest, not the knowledge.
"If someone handed [you] a scalpel, that doesn't mean you're qualified to do surgery," SEC spokesman John Nester said.
Online trades still go through brokers
There are several different kinds of trades and numerous stipulations you can put on them, too. In a May speech, SEC Chairman Arthur Levitt encouraged investors to educate themselves about the differences between these types of trades, particularly a market and a limit order.
The distinction is important because online accounts don't hook investors straight into the financial markets. Some investors don't realize an Internet trade still goes through a broker and not directly to the exchange, Nasdaq spokesman Mike Shokouhi said. "It basically replaces a phone call, that's how we look at it."
So there can be delays in executing trades, especially when trading volume is high, when a new issue is very popular or when the system goes down. The Internet slows down when wired West Coast workers take their lunch breaks, Shokouhi joked.
Still, it's a good idea to make sure you can contact an online brokerage if and when there are problems or delays in the network, the SEC suggests. Problems with speed of execution are the main complaint regulators hear about online brokers.
Market orders vs. limit orders
A market order gets executed at the best price the brokerage can find when the trade gets processed. The trade will go through, but the pitfall is that the price can fluctuate between when you place the order and when it gets executed, particularly if there's a so-called "fast market," like many Internet stocks and new issues, and the price is moving rapidly.
And some investors don't realize a market order placed after the close of trading goes into effect when the market reopens, Stephen Gottschalk, senior manager of electronic marketing at Charles Schwab, said. Perhaps a stock rises $6 by the time it starts trading the next day, and "all of a sudden you're in a world of hurt if you don't have the appropriate cash reserves," he said.
One way to counter rapid price changes is to place a limit order, which sets a trigger to buy a stock if a price drops. A "limit order to sell" does the same when a price rises and you're selling. The main disadvantage of a limit order is that, unlike a market order, the trade isn't guaranteed to go through. Some online brokerages, like Suretrade.com, also charge higher commissions for limit orders.
And with a limit order, you're in line with all the other people who have placed trades at that price, so even if the stock price hits your trigger, you're not guaranteed to see your trade executed. Or you may get a "partial fill," where the specialist or market maker completes only part of the order.
But by setting price limits for online trades, investors protect themselves from placing a trade at the price on their screen, then ending up saddled with buying stock at a much higher price or selling it more cheaply than they expected.
Different kinds of trade
There are numerous other stipulations investors can make to ensure they buy or sell within their limits. A stop order, for instance, converts to a market order to buy or sell a security when the security hits a certain price. When the security's price is dropping and the broker is instructed to sell, it's often called a stop-loss order.
Setting those parameters limits an investors' risk. But stop orders can present a problem with volatile securities. Investors reach their stop-loss price trigger, the stock sells, only to rebound and close higher. And if you're trying to limit losses, you need to check whether the limit order continues below the price you pick, Shokouhi said, or ties you to a certain price the stock may pass.
To avoid an order being partially filled, investors can place an "all or none" order. The trade won't go through unless the brokerage is able to buy or sell all the shares at the price an investor wanted. A "fill or kill" order is similar but stipulates that the broker has to complete a trade at a set price or cancel it. All or none orders stay open for a specific time.
An "immediate or cancel" trade is similar to a fill or kill order, in that the brokerage tries to complete the order right away. The difference is that the broker will complete part of an "immediate or cancel" order if possible. Fill or kill orders have to go through in their entirety.
Contact your online brokerage
Most online brokerages have tutorials and glossaries like Schwab's on their sites. For disinterested sources on investing online, brokerage tracker Gomez Advisors rates the brokerages and has a large investing glossary.
The SEC has an investor-education Web page with online-investing tips, particularly regarding investing in fast-moving markets. The National Association of Securities Dealers, parent of the Nasdaq stock market, also has an education page for online investors.
But for more-complex trades and particularly if you're unsure about something, call a broker, Gottschalk said. "You can get befuddled with the number of different options," he said.
It's also a good idea to call if you're canceling a trade. The SEC says a common problem with people investing online is that they try to cancel trades, think they've done that and then place them again at a different price. But instead they end up buying twice the amount of stock they intended.
Market orders will normally go through. "If you put it in during market hours, it's probably going to be filled, and the chances of you canceling it are slim," Gottschalk said. Even if you think you've successfully canceled a trade, "you have to wait until you get a confirmation that the order has been canceled, and the same with getting it filled."
Call the brokerage and check how to cancel an order, the SEC suggests, because electronic receipts aren't always reliable. They may just mean that the brokerage received your request rather than that the trade was canceled.
Smith said another common problem with online brokerage accounts is that they promise access to Initial Public Offerings but deliver shares to only a small number of people. And for people who open margin accounts, a riskier strategy that lets them borrow against their securities, it's important to realize the "margin call" before stock is liquidated is a courtesy, not an obligation, she pointed out.
Those types of issues "creep up on people," Smith said. Read your account agreement and make sure you understand investing before you trade online, she said. "It's a technology that people love because it puts you in control," Smith said. "But it puts more onus on you to direct what's happening." 
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