Trading stocks online

Trading stocks online can look like a great way to build wealth. But it’s fraught with risks, and only really works when stock prices are rising steadily. Investors who see early success in a bull market can face devastating losses when markets retreat.

Today, you often see references to trading stocks online in the media, as if there’s something magical about entering buy and sell orders over the Internet, or making buy and sell decisions with the help of computer programs or Internet-based services.

You can, of course, cut your brokerage costs by trading stocks online through a discount broker. These brokers’ commissions tend to be lower than what you would pay by trading over the phone. However, if you are trading so much that this slight cut makes a material difference to your long-term returns, then your main problem is excessive trading, not high commissions.

Instead, we recommend that investors spend more time focusing on what they buy and how it fits in their portfolios. As their holding periods grow longer, chances are their profits will improve, as well. The Internet gives investors lots of information on publicly traded companies, including press releases, newspaper articles, company web sites and stock charts.

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Trading online also allows for quicker transactions compared to calling a broker. That’s good if you might otherwise abandon an important trade because you had to wait too long on hold, as sometimes happens.

However, carrying out trades in two seconds instead of 20 seconds or 20 minutes is unlikely to have any real effect on your returns. Price changes in that time frame are largely random. You will never get in or out quickly enough to have an advantage over a professional trader who has a direct link to the exchange.

Automated systems that make decisions for you are another risky option. These essentially do two things: First, they narrow down the data you use when you make investment decisions. Second, they apply a fixed rule, or rules, to draw a conclusion or an investment decision from that selection of data.

These systems often seem to work for a time. Then they quit working, and begin pumping out unprofitable trades. This often happens at a time when their users are most vulnerable, such as during stock-market downturns.

It all comes down to one basic rule: if trading stocks online is as easy as those who promote trading systems make it out to be, why would anybody work?