The day trading underground
Newsgroups, chatrooms give day traders a way to spread info...and lies
NEW YORK (CNNfn) - Day traders, like most investors, are looking for an edge, and some of them have turned to online communities to find that edge.
Newsgroups and chatrooms are the place of choice to gather, discuss and even tip off others about what may turn out to be the winners and losers of the day.
However, these online discussion forums don't, in general, discriminate between who can and can't come into them, and honesty can be a casualty in the process.
For some day traders, those who make large amounts of trades during the day in hopes of making money from small price changes, the newsgroups and chat rooms are indeed a way to get a leg up.
"A lot of the action in the chatrooms really helps me out," one day trader told CNNfn. "They do research and I do research and we all benefit."
And while he admitted some of the information out there might be inaccurate, he said the good outweighs the bad. "I've met so many successful traders online and I just avoid the more notorious chat rooms."
Threads of truth
While some of the newsgroups and chat rooms are moderated to a certain extent, most aren't, leaving the average day trader to wonder how good the information is.
For example, a quick glance at the misc.invest.stocks newsgroup recently showed several threads touting various stocks and services.
In one thread, a trader touted a "hot IPO." He went on to say after seeing the company's presentation, "it seemed to me to be a pretty hot story with a real business model."
It sounds reasonable enough, but it becomes difficult to know whether the company is as sound as the trader makes it out to be. It may be on the level, but how would you know?
Some are more obvious. One day trading service promised to teach you how to "earn a good paycheck every week from the markets with 50 percent to 100 percent returns every month."
The frenetic pace of exchanged financial information over various newsgroups and chat rooms has attracted the attention of regulators, including the U.S. Securities and Exchange Commission.
In October, the SEC conducted a massive law enforcement sweep against 44 stock promoters in an effort to combat such Internet stock fraud.
The promoters, according to the SEC, allegedly were paid millions of dollars by various companies to tout their stocks on various investment forums.
"Not only did they lie about their independence, some of them lied about the companies they featured, then took advantage of any quick spike in price to sell their shares for a fast and easy profit," according to Richard Walker, SEC director of enforcement.
Walker said one of the most typical examples of online investment fraud is the "pump and dump" scam.
Under this scam, a message will be posted urging readers to buy a stock quickly or sell before the price goes down. The writer will often claim to have inside information about some upcoming event that will move the stock price.
The person conducting the scam then will sell their shares as the stock price goes up. The method is often used on thinly-traded companies because investors usually will have little other reliable data. Much is written about Intel (INTC) but not about much smaller firms.
The risk is enough to turn some day traders off from the whole process of gleaning information from newsgroups and chat rooms.
"There are some chat groups with a higher level of discussion, but truth be known, I would rather make up my own decisions and not be bothered with the distraction," said day trader Myron Klingensmith.
He challenged the notion there is a reliable source of good information in these forums.
"The most convincing sounding individuals are not necessarily the ones who have the best information. Those who have the skill are quite often the quietest and don't hang out in chat rooms or on newsgroups."
Klingensmith has seen both sides of the "tip" process. One tip led him to short semiconductor maker Applied Material (AMAT), bringing him $750 in three minutes.
However, another time he was told two regional airlines were about to announce a merger. The stock tanked and he lost $2,600.
"Helpful tips are few and far between," he said.
Finding the gems
None of this is to say you should discount all information you see in the newsgroups. Rather, you can take a nugget you find in a newsgroup, polish it up and see if it becomes a gem.
A newsgroup posting or chat tip is merely a starting place in your search for good stocks. The SEC advises never making a stock purchase based solely on something you've read in a forum.
The SEC runs a database, known as EDGAR, that contains all the documents publicly-traded companies must file with the agency, which you can use to look at a firm's finances.
Investigating a possible stock buy can take some time. Day traders may be less concerned about this since they rely less on company fundamentals and more on buying patterns.
The SEC advises checking the veracity of every online statement you hear about a company you're interested in buying. This includes getting financial statements from EDGAR, verifying claims about new product developments or contracts.
It might also mean calling suppliers and customers of the company to ask if they really do business with it.
The search shouldn't end with the SEC. You should always check with your state securities regulators as well to see if they have any information or complaints about the company.
-- by staff writer Randall J. Schultz