Sharon Rockey

Stock Basket Services Make the Picking Cheap

For better or worse, the allure and immediacy of Internet technology has granted investors new freedom and more choices for managing their money. Quick and easy online stock trading has become increasingly popular, and as the ranks of "click-and-buy" investors swell, so grows the number of dot-com start-ups armed with services catering to investors in search of ultimate portfolio control.

What do you get when you take the simplicity of a mutual fund, mix in the decision-making control of an individual brokerage account, and subtract broker commissions? The answer: baskets. Although online baskets offer the option of investing quickly and easily, users of the service must not lose sight of the principles of passive investing.

"One of the dangers with basket investors is that they trade way too much," says Gerard Michael, president, director, and cofounder of SmartLeaf, a site that will be offering portfolio advice later this fall. "Our underlying philosophy is always buy and hold. The Internet has brought the cost of trading way down, but just because it's there, should they use it? If it's not managed well the answer is no. If managed well, the answer is yes."

Whether you call them baskets, e-baskets, folios, or personal funds, this latest do-it-yourself online investment management tool offers an alternative to the infrequent portfolio activity reporting of mutual funds and the built-in commissions of traditional brokerage accounts, and at seemingly lower costs.

Baskets, such as those being offered by FOLIO[fn] and Unx.com, do appear to offer some real advantages for the right investor. But they may not be for everyone and are not without their potential downsides.

At FOLIO[fn] and Unx.com, customers are invited to create their own baskets of stocks, or mix and swap from ready-made baskets containing preselected stocks from various industry sectors (see tables below for ready-made stock portfolios from FOLIO[fn]).

All of the stocks in the Conservative FOLIO are included in the S&P 500 index:

The stocks in the Small-Cap Value FOLIO were chosen with market capitalization less than $1.7 billion and the lowest price-to-book ratios:

The stocks in the Large-Cap Growth FOLIO have a market capitalization greater than $11 billion and the highest price-to-book ratios:

An investor need not select a ready-made portfolio. For example, FOLIO[fn] offers a selection of 2500 "window" stocks, but a maximum of 50 stocks can be held in any one FOLIO.

How do the fees work?

FOLIO[fn] charges a flat fee of $29.95/month, or $295.00/year for each FOLIO that is opened, which is comparable to other online basket providers. After an investor opens three FOLIOs, each additional FOLIO costs $9.95/month, or $95.00/year. Included in this fee is the ability to buy or sell "window" stocks twice a day, once in the morning and once in the afternoon. If FOLIO[fn] cannot match the order, the order then goes to market for execution.

Direct trades of stocks that are not "window" stocks can be initiated through FOLIO[fn], with a charge of $14.95 for each stock trade. With direct trades, the order goes to the market immediately.

And like most online basket providers, FOLIO[fn] offers tools whereby investors can track performance and chart returns against benchmarks.

But in a rush to take hold of the reins, the less savvy investor risks overlooking or ignoring some of the subtle factors that are bound to affect their overall return.

With the inherent price spread between a stock's bid and ask price - the price the buyer has to pay versus the price at which the seller is willing to sell - the investor naturally comes away with a little bite taken out, similar to the instant economic hit absorbed when a new car rolls off the lot.

Another factor is slippage - the difference between the best price available in the market at the time the order is placed and the price when the purchase is actually filled. This discrepancy can be the most expensive part of a transaction. Unlike an experienced day trader, most investors don't have access to a real-time data feed and will not be privy to the best bid and ask price at time the order is placed. An order executed just 1/8 away from the best price on 500 shares could cost the online customer an extra $62.50 for the transaction.

Delays in the order being placed and trades that are missed entirely because of price moves, all add up - or rather, subtract from - an investor's return, not to mention the tax consequences of frequent and short-term trades versus long-term buy and hold. "Passive" goes out the window when an overzealous investor can initiate trades with a mouse click.

For compulsive traders, there is help waiting in the wings. Companies like Netfolio and Smart Leaf claim they will alleviate some of the temptation by offering advice to basket investors on how to manage their accounts, tips on reducing tax bills, and ways to avoid - or at least be better informed of - the costs and risks of online trades.

Relevant and timely online investment advice notwithstanding, the bottom line is this: if an investor wants to call all their own shots on stock trades anytime and as often as they like, then baskets might be a feasible alternative. But investors would be wise to exercise vigilance and look beneath the surface and see what else is hiding in that basket.