Changing the rules

In October 1998 I distinctly remember sitting in my living room watching a news report on the skyrocketing stock market. The amount of money being generated — on paper at least — was startling, and I kept telling myself I had to get in on the action.

In hindsight, it was a blessing in disguise that I couldn't scrape together a couple thousand bucks to open an E-trade account.

Small investors can't be blamed for being quick to react when they sense trouble, and they shouldn't be expected to change their priorities just because they aren't obeying what had been the rules of the market.

Many others, however, had the cash and used it. It seemed that anyone, no matter their level of sophistication, could see their investments reap huge returns in a matter of months. These individual investors played a large part in the boom time of the '90s. They drove up demand in the stock market and, because of their newfound wealth, had the confidence to spend freely, further bolstering the economy.

And I don't remember anyone complaining about them.

Now, some analysts and consultants are quietly laying much of the blame for this year's trouble in the stock market at these same investors' feet. Markets, they say, work in cycles, rising on a mixture of staff expansion, new projects and investor confidence, and falling when those things become oversupplied.

Many of the small investors don't realize this is how things are supposed to work, analysts argue. By demanding quick paybacks and selling off as soon as things get sketchy, these investors are distorting the natural workings of the system, they say.

What these complainers don't realize, though, is that this isn't a perversion of the system; it's an evolution. If an open market system increases everyone's wealth, it's natural that more people would attain the resources to take an active role in the market.

Small-time individual investors are here to stay, and the sheer numbers of these investors can influence the nature of the stock market itself — either through stock trading or through their confidence in their portfolios.

More important, this influence will be felt because private investors are different than institutional players. They are generally less sophisticated, have fewer investment options and, in spite of fair disclosure laws, might have less information available to them than institutional investors.

In addition, in relative terms, small investors have more on the line than larger ones. For many, a significant portion of their savings is in the market — money they plan on using for retirement or that they count as an asset when considering major purchases. Unlike institutional investors or wealthier individuals who play the market, there isn't an extra cushion for them to draw on if their portfolio takes a dive.

Small investors can't be blamed for being quick to react when they sense trouble, and they shouldn't be expected to change their priorities just because they aren't obeying what had been the rules of the market.

Companies are now placed on more compressed timelines because of these small investors. During a downturn, start-ups will need business plans that take them EBITDA positive more quickly. Established companies will have to produce solid profitability and steady growth, sometimes putting aside future opportunities that could dilute present performance (the Bell companies' slow rollout of DSL shows this is already happening). There will be less tolerance for missteps and big rewards for a job well done.

Depending on how companies meet these criteria, the market will still experience some of the ups and downs it has seen over the past few years, though less severely, with the potent combination of technical innovation and legal deregulation having worn off.

Even a cursory glance at the stock market can show you these things are already happening. It's time to stop saying this isn't how it's supposed to be. This is how it is. It's time for everyone to adjust.
Contact Toby Weber at tweber@primediabusiness.com.