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Day trade v. mutual funds
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August 26, 1999: 6:08 p.m. ET
Many turn to day trading as fund managers fail to beat the S&P 500
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NEW YORK (CNNfn) - One bad decision, one poorly timed move, is all that stands between fortune and failure.
But in spite of the risks, Craig Allen gave up his job as a trader and analyst at a brokerage firm. Spurred on by the unprecedented bull market, he now puts his own money to work day trading.
"It's like a sport," Allen said. "You're always reacting. You're going to battle every day and some people don't like it. But if you're good, the pay's good."
It might seem to some that beating the market has never been easier for a small individual investor. For a time, virtually any initial public offering of a "dot-com" stock was assured of posting spectacular short-term gains. Compare this to the performance of mutual funds. In 1998, when the S&P 500 surged 26.7 percent, nine out of 10 mutual fund managers failed to keep up.
As a result, people with money to invest are clearly running elsewhere. Mutual funds still control nearly $6 trillion and that figure is on the rise. Yet that growth is largely due to market performance and reinvested dividends, not because of new investment dollars.
Why the turn-off from funds?
What was going on that made people turn off mutual funds so badly?
"Mutual funds really stunk," said Jason Zweig, a columnist for Money magazine who sees some danger in abandoning the proven, long term performances of mutual funds for short term market gains.
"People are attracted to stocks that move," Zweig added. "The thing that these kinds of speculators, and I'm not going to call them investors, what these speculators are seeking is action."
Throughout 1998, the action was in popular large cap and big growth stocks like Internet stocks. In contrast, many fund managers invested in slower growing, small cap stocks with an eye on long term returns.
Ken Heebner, a manager of mutual funds at Capital Growth Management in Boston, said Internet stocks are a symptom of this great speculative bubble.
"Most of these companies are losing money," Heebner said. "The ones that don't go bankrupt will be selling for $5 or $10 a share a year from now."
A star among fund managers, Heebner's prestigious Capital Development Fund averages a 15 year, 20 percent annual return. But in June, Heebner posted a 12 month gain of just 1.3 percent because he put a lot of his money in unpopular home building and banking stocks.
"Somehow people look at the performance of the average mutual fund manager and say, 'It's underperforming the superstar of the market, which is the S&P index in the past few years, therefore I can do as well,'" Zweig noted. "That's a fallacy. You may be able to do very well, but the fact that the average fund manager is doing worse than average does not mean he's stupid, and his stupidity doesn't make you smart."
The shift to online trading
In the first quarter of 1999, new money put into mutual funds was half that of a year earlier. At the same time, online brokers reported trades per day growing at a rate of 49 percent. Unlike in the past, detailed trading information is now available on any PC. Anyone can do their own research and move their own money with the click of a button and for a fraction of the cost of going to a brokerage firm.
"I think that's what is really changing it, you are getting a lot more small fish like myself competing on their own," Allen said. "If they do well, great. If they don't, they hire a money manager."
"The way I like to think of day trading is that it's probably the most effective weapon ever to commit financial suicide," Zweig stressed. "It's an absolutely lethal way for the typical person to invest because it's not even really a form of investing, it's gambling pure and simple."
Day trading is now under intense scrutiny following the shooting rampage of an Atlanta trader who killed nine people, wounded 13 and killed himself after reportedly losing more than $400,000 in a year. According to a critical report recently released by a group of state level securities regulators, fewer than 12 percent of day traders at one firm studied made a profit on their short term trades. Seven out of 10 traders lost money in the long run.
But Craig Allen is one of the exceptions. Judging by his success, it's easy to get the idea that do-it-yourself trading can be lucrative. Allen averages about 10 time his salary per month of his old job.
It's estimated that nearly 5 million people now take advantage of the convenience of online brokers, up from 250,000 in 1996. Small investors are finding it easier than ever to abandon professional advice and follow their own impulses.
Even professionals can stumble
But at one point on this morning for example, Allen was down $75,000. Even with his professional background, he is not immune to sudden market downturns, and he agrees that do-it-yourself investing is not for everyone.
"I was having a bad day today, but it's part of the business, you know, so you just try to manage your risks for what you can accept," Allen explained.
And even though mutual fund managers have had their share of bad days, recently their investment strategies seem to have some wisdom. Since last year, the number of mutual fund managers beating the S&P has doubled.
Will fund managers be vindicated?
Zweig said what will restore the public's faith in the validity of mutual funds as an investment concept, is a period where it's no longer as easy as it has been for anyone to get a good investment return.
"I don't know when that's coming, but I'm almost a hundred percent certain that it is coming. It will come."
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