NEW YORK (CNNfn) - Characterizing most day trading as "gambling," Securities and Exchange Commission Chairman Arthur Levitt warned Tuesday of the perils of on-line trading in a much-anticipated speech at the National Press Club.
He also had harsh words for online brokerages, which he warned not to depict investing as akin to buying lottery tickets or laundry detergent.
He directly criticized brokerages such as Discover Brokerage, owned by Morgan Stanley Dean Witter & Co. (MWD) It has targeted investors with advertisements portraying a pick-up truck driver who has bought an island from his trading profits and a bartender who buys a company online.
And Levitt criticized an Ameritrade (AMTD) advertisement depicting two women discussing their investments as they finish jogging. "I just made $1,700," one says, to which the other responds that she invests in mutual funds. "Has it become passe to invest for the longer-term and to diversify your risk?" Levitt asked.
The SEC chairman said he knew some of the commercials were tongue in cheek. "But in a market environment where many investors are susceptible to quixotic euphoria, I'm worried these commercials step over the line and border on irresponsibility." He has asked the National Association of Securities Dealers to hold a roundtable discussion on advertising.
However, Levitt's comments seemed mainly cautionary and aimed at encouraging the industry to regulate itself.
He said he did not deem it necessary for the SEC to come up with all-new regulations specifically tailored to online investing.
To combat online fraud, Levitt promised the commission this year would double the size of its so-called "cyberforce." To date, it comprises 125 attorneys, accountants and analysts surfing the Web to track down technological tricksters.
The SEC also has asked Congress for an $11 million increase its efforts to combat online fraud, he said. And it will form a private-sector Advisory Committee on Technology co-headed by former National Security Agency head Ken Minihan.
The committee will examine online trading as part of a broader mandate. It will look to industry executives for their input.
Levitt said much of the responsibility must come from investors and online brokerages. He warned investors, particularly day traders, to be careful. One state found 67 out of 68 day traders at one firm lost money, he said.
In response, the SEC has unveiled an investor-education Web page. Levitt said the agency also sent letters Tuesday morning to all online brokerage firms asking them to improve their disclosure to investors.
Levitt hinted he hoped online brokerage firms would rein in their advertising. "Quite frankly, some advertisements more closely resemble commercials for the lottery than anything else," he said. "Selling securities is not like selling soap."
Analysts and the industry took Levitt's comments in stride, typically agreeing that investors should educate themselves and happy Levitt doesn't envision a legislative crackdown.
Conceding the online-brokerage ads are groundbreaking and unusual, Greg Smith, an analyst who follows brokerages for Putnam, Lovell, de Guardiola & Thornton, said the onus falls on investors to educate themselves.
"I saw those ads, I felt a little uneasy," Smith said. "I understood it was tongue in cheek. But it's still not necessarily in the best interest."
Still, he said, when it comes to education, "there's only so much they [the brokerages] can do," Smith said. "Just look at a casino. That's a little different. That's not a good example. But people have to take matters into their own hands."
Richard Strauss, a brokerage analyst for Goldman, Sachs & Co., said brokerages that want to compete with Charles Schwab, which dominates the online and discount U.S. market, need to differentiate themselves somehow.
"Building brand name is key. That's what America is all about," Strauss said. Schwab (SCH) already has offices throughout the country while competing online services can only spread their message through commercials.
He expected the advertising to die down as the boom in new accounts slows. "Clearly we are going through something of a cultural phenomenon here," he said. "To have all that information in front of you and to be able to control your destiny is appealing."
But ultimately the product is what sells on-line brokerage services, he said, not the advertisements. "Hopefully people are smart enough to know that it's a commercial. And that's also what America is about, right, having good commercials."
In his speech, in Washington, Levitt encouraged brokerage firms to review their practices and communicate more clearly to investors. Boilerplate, mandated warnings don't address stock volatility and possible delays in trade execution, he said.
"Explaining clearly to customers rather than merely disclaiming liability through complex and legalistic language would go a long way toward reducing the complaints pouring into the SEC."
He said every online investor should know what a limit order is, for instance, a way of buying stock that restricts the price that an investor is willing to pay. Online investors should also know they aren't guaranteed the quote they see on their computers.
Lisa Nash, vice president of customer management for the second-largest online brokerage, E*Trade (EGRP), said her company in April started an ad campaign that emphasizes the importance of consumer education.
"We absolutely endorse his message that all investors online or otherwise need to be informed," she said. "This is not a game. This is very serious stuff."
She said E*Trade is designed to provide investors the necessary information to trade knowledgeably. Those day traders that do use the service have typically come to their own trading decisions independently, she said.
In a prepared statement, Discover said it shared Levitt's vision of an informed public and welcomed the chance to participate in the advertising roundtable.
Statistics show more than 7 million Americans trade online, up from zero in 1994. Over the next few years, the number of brokerage accounts will roughly equal the populations of Seattle, San Francisco, Boston, Dallas, Denver, Miami, Atlanta and Chicago, combined, Levitt said.
He admitted the laws regulating online trading and financial markets in general are New Deal-era. But he said he views their concepts in a similar light to the Constitution and pointed out they had weathered numerous other challenges.
The speech comes just two weeks after a bogus report published online about a possible buyout of PairGain Technologies Inc. (PAIR). underscored the dangers of relying on the Web for investor information. Levitt referred to the incident in his speech and warned investors from relying on online chat rooms.
"They have been compared to a high-tech version of morning gossip or advice at the company water cooler," Levitt said. "At least you knew your co-workers at the water cooler."