to all -
Just an observation re the distribution in certain tech stocks and others that I mentioned earlier.
When we corrected a couple of weeks ago (I'll call it that - a little drop <ggg>) I thought it was due to brokerage firms changing margins on certain "nutz". People got margin calls and had to bail. I would have figured that that took out a lot of people, caused nutz to drop.
Well, it appears as if that's still going on.
<pre?FOOL ON THE HILL
An Investment Opinion
by Louis Corrigan
Margin Speedbumps
A week ago, the Fool's David Gardner received this e-mail from an unhappy online trader. "I am
one of thousands of Waterhouse Securities customers trading on margin to take advantage of the
bull market," he said. "Last week, I was informed that there was a $50,000 margin call against my
account due this past Monday." He continued, "I believe there are many people like me that had
margin calls in the tens to hundreds of thousands of dollars and were forced to sell their positions in
fast-growing equities to cover their margin call." David's correspondent speculated that this spate of
margin calls may have contributed to a market sell-off, particularly in the shares of many
Internet-related companies, and that the ensuing recovery in Internet stocks commenced once these
calls had been met.
This story is not unusual. In recent weeks, a number of leading online brokers -- including Charles
Schwab (NYSE:SCH - news) , E*Trade (Nasdaq:EGRP - news) , Waterhouse, a unit of Toronto
Dominion Bank (NYSE:TD - news) , and Ameritrade (Nasdaq:AMTD - news) -- have changed
their margin maintenance requirements, sometimes with little advanced notice. They've done so in
order to protect themselves, and their customers, from the volatile trading -- and speculative bubbles
-- in Internet-related securities.
Some online brokers, such as Schwab and Waterhouse, have also made additional moves, such as
barring or restricting online trading of certain stocks. Schwab, for example, won't allow trades for
some initial public offerings to be made through its website. And for certain fast-moving issues, it
requires investors to enter a limit order setting a target price or to call a company representative to
change a market order. Other firms such as Knight-Tribune (Nasdaq:NITE - news) , Herzog
Heine Geduld, and Schwab have removed certain Internet issues from their automatic execution
systems.
The incredible volatility in stocks like Broadcast.com (Nasdaq:BCST - news) and eBay
(Nasdaq:EBAY - news) , for example, has simply left market makers exposed to rushes of buy or
sell orders that they can't or don't want to handle. Market-makers are supposed to provide liquidity
in such one-sided markets, in part by creating more shares temporarily through naked shorting in
order to satisfy investor demand. However, that demand has been so intense as to leave firms
reluctant to fill that role since they can be quickly scalped for heady losses. Even major brokerage
houses such as Bear Stearns have stopped making a market in particular Internet stocks because
they don't want to be exposed to such volatility.
As David's correspondent suggested, though, some of these moves by brokerage houses may have
contributed to the very volatility they were designed to counteract. In addition, the policy changes
have no doubt annoyed some customers who find their online broker is no longer delivering the type
of service they've come to expect. On balance, though, this is the free market in action. It may not
be pretty, but the firms changing their rules have simply surveyed their risks and determined that it's
in their interest to curtail their exposure to these Internet stocks. While the online brokers may
alienate some customers, they may also save others from a lot of heartache if (or when) these stocks
come crashing down.
Let's consider what's going on here. Investors who trade on margin are basically taking out a loan
from their brokers and using the money to buy stock. The Federal Reserve determines what stocks
are marginable, and thus which ones can be used as loan collateral. The Fed also determines the
minimum equity for an initial margin loan. Though set at a very low 10% during the 1920s, the
threshold in recent years has held steady at 50%. This means that to buy $10,000 worth of stock,
you must start with at least $5,000 cash on deposit. The New York Stock Exchange (NYSE) and
the National Association of Securities Dealers (NASD) both require margin investors to maintain
account equity amounting to at least 25% of their initial positions. However, most brokerage firms
have a higher minimum maintenance requirement, typically 30% to 35%. If your portfolio loses value
and falls below this mark, your broker gives you a margin call telling you to put more money in your
account or sell some of your stock.
As the largest discount broker and leading online broker, Schwab's recent moves exemplify the
trend. In early December, Schwab boosted its minimum maintenance level from 35% to 50% for a
group of Internet issues. Two weeks ago, it pushed the minimum equity threshold to 70% for a
group of 23 stocks, including Amazon.com (Nasdaq:AMZN - news) , Books-A-Million
(Nasdaq:BAMM - news) , CMG Information (Nasdaq:CMGI - news) , eBay, OnSale
(Nasdaq:ONSL - news) , Yahoo! (Nasdaq:YHOO - news) and Schwab's own competitors,
Ameritrade and E*Trade. There are now 52 other issues on the firm's 50% maintenance list,
including Broadcast.com (Nasdaq:BCST - news) , @Home (Nasdaq:ATHM - news) ,
Mindspring (Nasdaq:MSPG - news) and theglobe.com (Nasdaq:TGLO - news) .
While E*Trade has boosted its margin maintenance requirements well above the normal 35% level
to 40% to 60% on several dozen stocks, it's actually made over a dozen stocks totally
unmarginable. The number two online broker now requires investors to put up 100% cash to buy or
keep issues like K-tel (Nasdaq:KTEL - news) , uBid (Nasdaq:UBID - news) , and Xoom.com
(Nasdaq:XMCM - news) . Meanwhile, Waterhouse has its own slate of 100% margin maintenance
stocks, and Fidelity reportedly has some 50 Internet stocks on a list requiring 80% equity.
These higher margin standards may crimp the style of some online investors who've used hefty
margin borrowing to leverage their gains in Internet stocks. Still, the brokerage firms have a perfect
right to raise their standards for making loans. After all, it's their money, and they want to make sure
they get it back. (If you own stock in any of these brokerage firms, these latest moves likely seem
pretty smart.) These firms are simply looking at the stock being offered as collateral for the loans and
making their own judgments regarding what they think these shares are really worth. Like pawn
brokers, brokerage firms don't have any obligation to loan money on what they consider poor
quality goods, or stuff that glitters but just ain't gold.
Moreover, investors should prefer to see speculation in the marketplace addressed through stiffer
margin requirements and other reasonable speedbumps to trading rather than through something as
truly draconian and destabilizing as actual trading halts. Since December, a subcommittee of the
NASD, which runs the Nasdaq market, had been considering the possibility of temporarily shutting
down trading in especially volatile issues. In theory, such halts would give investors a chance to take
a deep breath and think before they traded again. Yet, the lesson learned from the New York Stock
Exchange's circuit breakers during the market's meltdown in 1997 is that volatility-related
suspensions of trading only exacerbate existing problems. Anxious investors playing a game of
musical chairs may act rashly to get a seat before the music stops. Luckily, the NASD committee
voted down this proposal according to a story in today's Wall Street Journal.
The more basic, issue, though is that nobody should be using more than a little margin (say 10% of
your equity) when investing. Margin loans can boost your overall returns if your stocks rise in value,
but leverage naturally works both ways. Talk to the geniuses at Long-Term Capital Management.
You can lose money a lot faster if you've taken out fat margin loans to pay for your stock portfolio
and things go wrong. And sooner or later, things do go wrong.
fnews.yahoo.com
And Cramer mentions it (written after yesterday close)
Net sluggishness.
OK, this one I don't like, and the enemy is a waterfall of supply and a demand decline, courtesy of margin rules. If you want to know the
single biggest reason why the Net seems out of fashion
it's that Amazon (AMZN:Nasdaq) convert, which sits 8
points below par, stinking up the joint. Amazon, the
stock that could do no wrong, suddenly has committed
the cardinal sin of capping its stock with this convert.
Can't believe Bezos was actually that serious about
destroying the short-term performance of his stock, just
like he said on the call. Bummer, Mr. ex-hedge fund manager!
Amazon is a bellwether for the group, and it is pulling
everything else down. The frenzy from the @Home
(ATHM:Nasdaq)-Excite (XCIT:Nasdaq) and Yahoo!
(YHOO:Nasdaq)-GeoCities (GCTY:Nasdaq) deals has
produced a hangover of massive proportions, with a
huge new stock issuance that has proven much too
hard to digest. Add in the new margin rules, and you
have some stock in some wrong places.
That said, Silver Lining Department (that's like that silly
Greed and Fear moniker I read on TSC over the
weekend) says the Net seems to handle the supply
somewhat better than I thought, in that these stocks
haven't tanked, they have simply adopted a downward
bias. The bears said they would roll over like there was
no tomorrow, but this seems more like profit-taking to me.
thestreet.com
So, I am thinking - This underlying distribution - could it be that many of the techies, nutz (all the high-flyers) are selling due to margin calls? That would explain (maybe) the advances made today on lower volume. Those buying in today are using their own money and maybe are thinking to hold a little longer?
Of course, none of the above thoughts apply to the brokerages being bought and sold today 3 times volume over float.
Also doesn't apply to WCOM. Its distribution is massive.
Just rambling here.
(Trying to justify buying AOL again <G>)
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