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Online Share Dealing


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Online share dealing or online share trading is the buying and selling of shares via the internet. Many stockbrokers now offer internet-based share trading services allowing investors to buy and sell shares more easily and more cheaply than in the past.

What is online share dealing?

Online share dealing, also known as online share trading, online trading or online dealing, is simply the buying and selling of shares via the internet and the world wide web.

The Compeer, UK Wealth Management Industry Report shows that by the end of 2006, the number of people trading online reached 766,547. Some 4,648,685 online trades were carried out in 2006, 20.6 per cent more than in 2005 and the number of online trading accounts had reached 1,111,562, up 11.4 per cent year-on-year (Source: Compeer).

Online share dealing has bucked a trend evident elsewhere in equity investing. Overall, individual investors account for almost 20% of the total domestic equity market flow. However, individual share ownership has fallen across the board since 2002 and has fallen across every income band since 2004-2005. The level of direct equity ownership remains highest in the South of England with 55-64 year olds remaining the most likely individuals to maintain equity holdings (Source: The UK Retail Equities Market 2007, Datamonitor).

The first online dealing services were little more than an alternative way of contacting your stockbroker. Instead of calling on the telephone, you sent what amounts to a glorified e-mail. On receipt of your message a stockbroker read it and then made the deal for you. E-mail is obviously faster than the post, but such a service offers few attractions over existing telephone-based share dealing.

However, since the end of 1998, a number of stockbrokers have offered services to individual UK-based clients that allow them to make their own trades. Instead of sending an e-mail to a stockbroker requesting the sale or purchase of shares, you make the actual deal. Through a link, ultimately to the stock exchange's own computers, you deal immediately at the price you see on your screen.

Charles Schwab Europe, a subsidiary of US brokerage Charles Schwab claimed to have transacted the first web-based internet deal in the UK in December 1998. The firm's UK operations were sold to Barclays in January 2003 and Charles Schwab Europes 150,000 online dealing accounts were transferred to Barclays Stockbrokers. (Source: finextra.com Jan 2003) Among US broking houses, cheap online deals were pioneered by E*Trade , which made its first online appearance via the Compuserve network as far back as 1991.

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What do I need to deal online?

You obviously require a computer and an internet connection. A broadband connection is preferable to relying on a dial-up modem, because it is a lot faster. Most online stockbrokers support modern popular browsers: Internet Explorer 6 / 7 and Netscape Navigator 6.2. Some firms also support Firefox.

Virtually all online stockbroking services will operate on a variety of the Microsoft operating systems: Windows 98, Windows 2000, Windows XP and Vista. A smaller number of brokers offer services that will run happily on Apples Mac OSX. Even if your operating system and browser has not been mentioned, this does not mean that they will not be able to work with the online stockbroker of your choice. As a rough guide, if the homepage displays correctly, this is a good indication that your browser will be compatible with the website.

However, it would almost certainly be in your best interests to upgrade your operating system and browser to modern standards to take advantage of the improved functionality and security that newer systems offer. You should also regularly update your PC with any security patches that become available from the manufacturer of your operating system. Most stockbroker sites are best viewed at a screen resolution of 1024 x 768 pixels and a minimum of 800 x 600 pixels.

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How secure is online share dealing?

Security concerns about online dealing are addressed by the financial institutions in their adoption of the most modern encryption technology. The commonly used 128-bit encryption is the highest form of online security generally available. It works through another piece of technobabble: Secure Socket Layer (SSL)-based applications, specially designed for online transactions.

The SSL protocol was developed by Netscape to allow the transmission of private documents via the internet. All modern browser software supports SSL and the protocol is used by most online retailers to obtain confidential user information, such as credit card numbers. You will be able to tell when an SSL connection has been made by your computer as, by convention, web pages that require an SSL connection start with https:// instead of http://.

A symbol at the bottom of your screen tells you if you are in a secure site. For Netscape Navigator the symbol is a key. For Internet Explorer the symbol is a lock. You may double-click on the padlock or the key to check the security credentials of the site you're visiting.

You will have your own unique username and password and many broking sites will also require, as a further security measure, that you enter a dealing password every time you place a trade. The dealing sites also have built in time-outs; should there be no activity during your online session for 20-30 minutes you would be automatically logged off.

Providing that you take basic sensible security precautions your share dealing account should remain secure. Do not allow the browser you're using to store your password for future use and always log out after every session. Make sure you have an up-to-date anti-virus utility and a firewall on your PC.

You should check your dealing account and transactions record regularly. If there is anything you don't recognise or if you suspect somebody else has access to your passwords or that your security has been compromised in any way then you should contact your broker immediately via telephone.

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What is execution-only?

Execution-only is the type of service that all online share dealing stockbrokers offer. It is the most basic type of service that stockbrokers offer, ranging from execution-only to advisory and discretionary.

Execution-only describes the service offered by stockbrokers where you make the buying and selling decisions on your own. If you have an online account with them, for an additional fee, some broking firms will also offer advice when you want it.

Execution-only dealing over the internet has steadily gained market share over other execution-only channels (mainly telephone).

In case you were wondering about the other services: using a discretionary service you would hand over your money to a stockbroker who would then deal on your behalf, without reference to you, aiming to generate income or capital growth for you, depending on your requirements and general attitude to risk. An advisory service, as the name suggests, is one where you make the investment decisions but do so taking into account the advice of your stockbroker.

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What does online share dealing cost?

First you should be aware that all UK share purchases (but not sales) will be subject to stamp duty reserve tax, which is a tax on share transactions in UK incorporated companies, levied at 0.5% of the purchase price of shares. In addition to stamp duty, purchases over a certain size (£10,000) also face the PTM levy, a flat rate charge of £1, which is collected by the Panel of Take-overs and Mergers, which oversees take-overs and mergers within the UK.

There is no immediate tax or levy payable on the sale of your shares although, assuming your shares have risen in value, you may face a potential capital gains tax bill. However, the tax and levy due on purchases and any potential CGT that may arise on sales are common to all share transactions, online and offline.

In general, execution-only online share dealing is a great deal cheaper than traditional telephone-based trading, which may be charged at a variable fee linked to the size of the transaction rather than at a flat-rate, as is common online, and can add up to more than £50 per trade in some cases. (Source: Financial Times 16/6/04)

How much cheaper your online dealing will be depends. It depends, first, on what kind of share dealer you think you are going to be; second, on what kind of service you want to use to trade on; and finally on what kind of shares or other financial instruments you want to invest in. The more frequently you trade, the less you are likely to pay for the cost of each trade. Many online brokerages offer reduced fees for active traders.

For example, Moneyextra Share Dealing offers two services: Moneyextra Trader, which allows you to buy and sell shares at a flat fee of £15 per trade; and Moneyextra Frequent Trader, which charges £8.50 per trade with a monthly fee of £8.50. Buy or sell shares more than 16 times a year and the latter works out cheaper. Are you likely to make that many share trades a year?

Unless you are an experienced investor and you know exactly what you are doing, you would be best advised not to try to deal enough times just to qualify for a cheaper trading fee.

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How do I choose a stock broker?

Remember, first of all, that all the online dealing services available are execution-only, which means that what you choose to buy and sell and when you choose to buy and sell are up to you and no-one else. Individual involvement in the stock market soared in the late 1990s, notably in the USA as a result of the development of online broking services, giving rise to the "day trader" phenomenon. These were the people for whom a long-term investment was one they were still holding when the market closed for the day.

It was this kind of frenzied market activity that propelled share prices in the US markets in particular to record highs and saw firms involved in the internet and the world wide web, that made little or no profit, gain market capitalisations on a par with some of the largest and most profitable companies in the world. With hindsight, the fall in share prices between 2000 and 2003 was inevitable and serves as a salutary reminder that the value of your investments can go down as well as up!

Compeer reckons that between 5,500 and 7,000 small investors trade more than ten times a month. At the start of 2004, they accounted for about 10% of total trades, but by the end of 2006, that figure was more than 20% (Source: Compeer).

Provided that you understand the risks involved in online dealing and want to set up a trading account, you have a choice to make between the brokers and their services. It is fairly standard to be required to deposit funds into a trading account. These cash funds will earn interest at a stipulated rate while you are deciding what shares to buy.

Different online services operate in different ways but, again, it is broadly commonplace to be offered a share quote with a time-out countdown. That is to say, when you decide to buy a share, you will be shown a real time live price but you will have a limited window of opportunity within which to make your purchase at that price. The same holds true when you come to sell your shares, you will be quoted a price and will have a short period of time in which to decide whether to accept the price or decide not to sell. Once you make a sale, the proceeds will be transferred into your trading account.

Deciding which online broker is right for you will be a matter of services offered. Some brokers offer you the opportunity to invest in more than just main market UK shares but may charge higher fees. You need to decide what kind of investments you are likely to make as this will have some bearing on which broker is right for you. Your decision may also be affected by the other services that your chosen brokerage may offer; for example, some may offer the option of advice-based trading over the phone for a fee on a case-by-case basis while others offer no such support.

Many stock brokers have expanded their range of services in recent years; in addition to shares on one or more stock exchanges, various options contracts and financial derivatives are available for the more experienced investor. Some brokers now also offer contracts for difference (CFDs are a type of derivative contract that allow you to speculate on share price movements without actually owning shares) while others offer spread betting. You should steer clear of financial spread betting unless you have received comprehensive training in the risks involved.

Looking to the future and the further evolution of technology some brokers are now experimenting with speech recognition technology that would allow users to operate voice-enabled online trading as well as access voice-based stock quotes and portfolio information.

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Can I get the same prices as the professionals?

You may access the same trading screens as the professionals via Direct Market Access (DMA), also known as Level II access.

Traditionally share trades go from a stockbroker to one or more marketmakers who set prices for the bid/offer spread. Marketmakers take the opposing position to you - they sell what you buy and vice versa - and pocket the difference between the buy and sell price.

Using DMA you eliminate the marketmaker and get a tighter spread a lower buying price or a higher selling price. The way it works is that you submit an order to buy or sell a specific amount of stock at a specific price. This order is sent to a central "marketplace" - or order book - where buyers and sellers are paired up directly.

With access to Level II market data you may:

  • see the orders awaiting execution on the buy and sell side of the order book analyse movements in the price of a security
  • monitor fast moving markets
  • utilise a variety of market indicators to make informed decisions
  • become a price maker as opposed to a price taker by deciding at what price to buy or sell and placing the order directly with the Exchanges order book via DMA.

You'll be able to see the numbers of buyers and sellers and at what price they're willing to trade. You may also take part in the pre-market and post-market auctions where the highest or lowest price often occurs. Of course, youll have to pay extra for DMA - around £25-£40 per month on top of dealing charges is not unusual. Paying extra for DMA may make sense if youre a regular trader who is sufficiently experienced in share trading to make best use of this kind of service.

Can I invest in overseas shares online?

Back in the days of the tech bubble at the end of the 1990s, one sign of the times in the USA was the (probably apocryphal) story of the teacher who asked one of her pupils, "What's the nation's capital?" The reply was, "Washington D.C., of course." On being asked what the "D.C." stood for, the pupil added, "Dot com!"

In recent years it has become a great deal easier and cheaper to invest directly in overseas shares. In the past a UK investor looking for exposure to or investment in foreign markets was generally limited to an investment fund managed by a city fund manager.

The alternative for stock-pickers was the choice of direct investment in a relatively small number of leading foreign companies actually listed on the London Stock Exchange. You could invest in these via any stockbroker, paying only the normal fees which you would incur buying any shares in companies listed on the London market.

However, direct investment in a company quoted, for example, on the New York Stock Exchange would have cost you a great deal more! Most UK stockbrokers will deal on the US market for you but at a much higher price. The first service specifically aimed at UK smaller investors looking to the US market was only launched on the internet in mid-1999.

Taking your business to a foreign brokerage is also problematic. Many of them will be unwilling to take on foreign private clients. Whether you deal via a US brokerage or one of the brokers in the UK offering dealing in the US market, you will need to make sure you have filled in a W-8 form which identifies you to the US Internal Revenue Service as a non-US resident and, therefore, exempt from paying US taxes.

Dealing via a UK-based brokerage as a private investor you are covered by the Financial Services Compensation Scheme , which is operated under the auspices of the Financial Services Authority . Dealing with a brokerage in the USA changes the regulatory framework. There, they are answerable to the Securities and Exchange Commission .

There are a few UK-based online brokers that will allow you to deal in a variety of foreign markets. For example, iWeb offers dealing on New York, Frankfurt, Milan, Paris, Amsterdam and Brussels as well as shares in London while ODL Securities MyBroker offers access to some 30 international equities and derivatives markets.

However, investing abroad is not for beginners, most brokers will want to you to deposit larger sums before you start investing (there are exceptions) and there is one important risk factor that you should always remember. This is the potential currency risk. You earn your hard-earned money in pounds sterling. To invest in, say, US shares you need to change it into US dollars. This leaves you open to the danger that any appreciation in the value of your investment could be more than wiped out by an adverse movement in the sterling/dollar exchange rate!

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10 December 2007 © Moneyextra.com

 

Our senior editor Robin Amlôt recommends you should consider taking independent financial advice before acting on any article. Please contact us for help with your individual circumstances if any assistance is required.