Commentary: Educated Investor - Lost confidence equals lost

Recently one morning, while I was in my favorite bagel shop for a little breakfast, a woman, in her mid-50s, was looking at a headline that appeared in the Baltimore Sun on the front page.

She said the headline was the best news she had seen in a long time. I looked down at the paper and inquired as to which headline she was referring to.

She said this one: "Wall St. firms hit by biggest fines ever."

I found her answer to be somewhat surprising since there were also articles about John Malvo, the alleged sniper killer of last fall, and an article on the shaping of a new Iraqi government.

But I could tell from her enthusiasm that she was truly happy about the fines -- $1.4 billion for defrauding investors.

I imagine that she, like the rest of us, had been hurt by the stock market bubble of the '90s.

Several times in the past I have mentioned that greed and fear can only hurt an investor.

Unfortunately, I was referring to the greed and fear of the investor.

But what really caused the overvaluation of the equity markets was the greed of the major brokerage houses, the greed of their CEO's, upper management, investment bankers and their analysts.

Of course their greed was totally out of the investors' control.

With the regulatory bodies now investigating "front running" on the part of traders on the floor of the New York Stock Exchange, and also looking into "break point" violations, it is no wonder that the individual investor has lost complete confidence in the financial markets.

All of the above have combined to make the individual investor want to seek the sidelines. They are tired of losing money and basically have had enough.

During the past two months I have talked to many investors that have stated that they don't want anything to do with the equity markets.

I have heard from individuals that have rearranged their 401(k) plans to reduce their emphasis in stocks.

I have witnessed investors that have sold out completely.

I have had clients that insisted on placing last year's IRA contributions into a money market fund.

To me these are not only the sounds of disgruntled investors, but it is also music to my ears.

If I am interpreting these individual investor's behavior correctly, they have thrown in the towel. They have surrendered to the raging bear.

If history repeats itself, then this is the time we should be buying stocks not selling. In the past when all hope is lost the market generally reverses itself to the upside.

With the Security and Exchange Commission, the National Association of Securities Dealers and the likes of the New York Attorney General Eliot Spitzer hot on the industry's trail, I would imagine that the Wall Street firms are now operating in a lily-white environment.

They are probably all dotting their "i"s and crossing their "t"s. Because of the various investigations, this time period is probably the cleanest they have been in years.

As far as the firms cleaning up their research acts -- don't equate this housecleaning process with good research. Good consistent research is hard to find no matter what guidelines Wall Street is working under.

What should the individual investor be doing at this time?

Personally, I would be stepping back into the market slowly.

I'd also take a close look at the firm I had been dealing with over the past five years. I'd want to know if they were cited and fined.

If so, I would have to seriously consider whether I should remain a client of theirs.

The commissions or fees you spend are really votes as to how you feel about their performance. And why condone their fraudulent behavior with additional revenue?

If you determine that some of your investments tanked as a result of their fraudulent research advice you need to leave them.

What is the old saying? First time -- shame on you, second time shame on me.

If you decide to leave your current brokerage house, look for a firm with independent research and one that does not offer propriety products.

And above all look for a good performance track record. Don't rely solely on their sales literature.

Ask for referrals to some of their customers that have been with the firm for the past five years. This way you get a feel for how the customer did during the best of times as well as the worst of times.

The key to remember is don't lose complete confidence in our financial market.

We have hit a severe bump in the road and we are likely to hit more, but don't let these interruptions ruin your long-term investment plans.

Look at these troubled times as an opportunity and not a disaster.

Check my Web site for updated portfolio results as of April 30.

David R. Clogg, ChFC is an account executive at Chapin, Davis. He can be reached at 410-435-3200 or visit his Web site at www.theeducatedinvestor.info.

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