For the Little Guy, the Thrill Is Gone From Wall Street

When the economic news is bad, the stock market goes down. And when it’s good--sometimes the market goes down, too.

Individual investor Sam Dulberg has noticed recently that good economic news, which logically should help stocks, has often aroused fears of rising interest rates and dumped the market. It’s one more reason he’s convinced that the stock market has gotten just too volatile.

“You’ve got to have holes in your head to think that way, but that’s how a lot of them are on Wall Street,” says Dulberg, 79, a retired engineer who lives in West Los Angeles. “And the market just drops.”

Dulberg tries to protect himself from such volatility by holding on to his stocks for several years. But the market’s gyrations seem to have convinced many other individual investors that they ought to shun stocks entirely.

Indeed, eight months after the stock market crash ushered in a bear market, the individual investor seems more convinced than ever that the market is no place for him. Wall Street, suffering from his absence, can’t agree on what exactly drove him away or when he’ll be back.

“There are a lot of different views about what the individual investor is going to do next,” said Joseph Hardiman, president of the National Assn. of Securities Dealers. “We do want him to do something.”

The question is of obvious concern to the brokerages, some of which have seen their commission revenue drop 45% as small investors have sought the safety of money market funds, certificates of deposits and similarly cautious investments. But the little guy’s involvement is important, too, for other market participants and the thousands of companies that issue stock.

Individual investors account for only 20% of daily trading activity, with the remainder attributable to big institutions such as pension funds and insurance companies. But individuals directly own about 60% of shares and control another 10% through mutual funds.

Individual stockholders lend stability to the market because they tend to hold on to their shares for years, while institutional investors trade rapidly in search of short-term gains. This provides a diversity of views: When the big investors clamor to sell, it is often the individual investor who is willing to buy.

And individual investors play a key economic role by buying the shares of companies that are offering their stock to the public for the first time. Unless there are signs of broad interest from individual investors, institutional investors who are needed to take part in initial offerings won’t participate.

Because the little guy is so important, Wall Street market analysts have been watching closely in recent weeks to see if a strong market would lure him back. They were disappointed.

So far in June, as the market has repeatedly carried the Dow Jones industrial average to new post-crash highs on above-average volume, individual investors sold stock about 20% more often than they bought, the records of Merrill Lynch & Co. show.

“Individual investors have been using these rallies to unload their stocks at a good price rather than to buy more,” says Richard McCabe, manager of Merrill’s market analysis department. “They’re selling into the rallies.”

Market Faith

There is other evidence of the individual investor’s sour mood. The post-crash flight from stock mutual funds, which stopped last December and January, has resumed in the past three months. A net $750 million flowed out of stock funds in March and April, and the outflow was believed to have increased last month.

The individual’s defection is apparent in the sharp falloff in the issuance of new stocks. So far this year, 151 companies have sold stock for the first time, raising $1.8 billion, according to the Institute for Econometric Research. That number is down 46% from the 278 firms that had raised $5.8 billion going public by this time last year.

Meanwhile, surveys of investor opinion show faith in the market near an all-time low. A poll by Sindlinger & Co. of Wallingford, Pa., found only 5% of individual stockholders planning to buy stock soon; as recently as January, more than 20% said they had plans to buy more shares.

The reasons for the individual’s departure is a matter of passionate dispute among the market pros. Some say it is only the bear cycle of the market, inevitably reasserting itself after a long bull market.

Others, notably including officials of retail brokerages and smaller investment firms, assert that investors are recoiling from the volatility caused by the high-speed, computer-directed institutional trading practices known as program trading. A corollary to this view is that the individual may stay away longer--and many may stay away permanently--unless curbs are put on these practices.

“When the individual investor sees his investment deteriorate 20% in a single day, he feels he’s in a game he can’t play,” said Arthur Levitt Jr., chairman of the American Stock Exchange, referring to the Oct. 19 losses. Donald T. Regan, the former U.S. Treasury secretary and Merrill Lynch chairman, put it more bluntly in congressional testimony May 11 when he declared the market was “rigged.”

Others, however, observe that the volatility, and even the program trading, didn’t seem to faze individual investors as they loaded up on stocks during the 1982-87 bull market. Internal research undertaken by the New York Stock Exchange showed concerns about program trading to be an important factor--but not the single cause--of investors’ current alienation, says Roger Kubarych, who recently left his job as the Big Board’s chief economist.

Income Slides

Indeed, program trading is a complicated issue, which many individual investors probably don’t understand fully. A poll conducted for the Edward D. Jones & Co. brokerage in St. Louis by Fleishman-Hillard Research found that 51% of a sample of individual stockholders had never heard the term “program trading.” And 23% of those who said they were familiar with it couldn’t pick out the correct description of the practices when presented with three choices.

Whatever the reasons for the individual investor’s alienation, its effects on the brokerage industry have been abundantly clear.

A good example of the impact is provided by Quick & Reilly, a regional brokerage in New York that relies for its livelihood almost exclusively on the sale of stock to individuals. The firm saw its net income slide 11% between its November and its February fiscal quarters and then drop another 30% between February and May.

Among other problems, brokerage officials say they’re having a hard time coaxing young brokers hired during the easy days of the bull market to put their best effort into soliciting business from grumpy investors.

To make up for the lost revenue, brokerages are pushing conservative investments, such as utility-stock mutual funds, certificates of deposits and money market accounts. But such investments “don’t produce anywhere near the same revenue,” says John W. Bachmann, a managing partner of Edward D. Jones and president of the Securities Industry Assn.

Recent Precedent

Only the biggest firms, with huge income from mergers and acquisition work, are making up much of the decline in commission income from other sources, says Perrin Long, analyst with Lipper Analytical Securities in New York. The investment industry cut about 18,000 jobs, or 7% of its work force, during the period of heavy layoffs between last Jan. 1 and March 31, Big Board research showed.

Those on Wall Street who fear a long-term withdrawal of the individual investor can cite recent precedent. The number of Americans who own stock began falling after the recession of 1969-70 and didn’t recover until the early 1980s.

Thirty-one million Americans, or about 15% of the population, owned stock in 1970, according to a study by the New York Stock Exchange. The number had fallen to 25 million in 1975, and it didn’t regain its 1970 level for a full decade, the study showed.

In the past two decades, Americans have steadily sold off stocks they held directly. But some experts believe they have almost fully offset those sales by increasing the amount of stock they own indirectly--through mutual funds, pensions and tax-sheltered savings plans such as IRAs and employer 401(k) programs.

The share of stocks directly held by individuals has declined to 60% today from about 84% in 1967, Federal Reserve figures show. Individuals own another 10% of stocks through mutual funds and perhaps as much as 20% more through the pension and tax-sheltered savings plans that have supplanted personal savings for many families, says Jeffrey Shaefer, vice president and research director for the Securities Industry Assn.

Many in the investment business are convinced that--over the long term, anyway--the trend will favor increased participation by individual investors. They point to the demographics: The baby boom generation, now between 24 and 42 years of age, is reaching the “asset accumulation” stage of life.

Average Returns

Some of the experts believe that this group will want to buy stocks for their potentially higher returns and will also want to manage them directly. Economist Kubarych says the new generation of investors is a fairly sophisticated group and follows the market’s flutterings in newspapers and magazines.

“If they’re smart enough to read about the market in the newspaper, they’re smart enough to read the article that says the average mutual fund doesn’t beat the market averages,” Kubarych says.

But will the individual investor’s increased participation bring new stability to the markets? Some don’t think so, since there are signs that individual investors are learning from their institutional brethren and jumping in and out of the markets more quickly.

The small investor has learned to switch rapidly between various mutual funds. Sales of shares due to such switches increased to 205.7 million last year from 10.1 million in 1980.

And, before the crash, anyway, small investors were jumping between stocks more often, brokerage officials confirm. That’s partly because they feared that the volatile market would cost them some of their profits and partly because changes in the capital gains tax removed the incentive for holding on to stocks for longer periods.

“People talk about the institutions being too concerned about the short term, but it looks like the individual investor is headed in the same direction,” said Hardiman of the NASD. “It’s a real concern.”