Cyberspace scams lure online investors

The common wisdom says the Internet is an investor's dream, a Shangri-La of boundless, golden tips and quick, cheap trades.

But off the gilded roads of cyberspace stem dark alleys where investors are likely to encounter a digital con job.

Indeed, part of virtual reality, it seems, is a pit of hard-reality fraud, says a University of Iowa study.

The federal government "needs to take a more active role in watching what goes on in the Internet because people out there need to be protected," says Robert Forsythe, co-author of the study and associate dean of the University of Iowa's business school in Iowa City.

The study, which tracked online stock-trading behavior, affirms the urgency of a new federal antifraud crackdown.

The Securities and Exchange Commission (SEC) last October staged its first blitz against cyberspace con artists, charging 44 companies and individuals with illegally hyping stocks. Those charged were editors of online newsletters or Web sites who failed to disclose they were paid by the companies whose stocks they promoted.

"The Internet is a much more efficient way for fraudsters to get their message out," says SEC spokesman Duncan King.

An online trade explosion

The alarm over cyberscams rings with special relevance as online investing emerges as one of the fastest growing corners of cyberspace.

Just four years after armchair investors filed their first point-and-click orders, 1 out of every 4 trades by individual investors is performed over the Internet, according to some estimates. The number of online trades handled by discount brokerage firm Charles Schwab Corp. jumped from 36 percent during the second quarter of 1997 to 52 percent during the same period one year later.

Two reasons cited for the increase: It's cheap, as low as $10 per trade, and it's far faster than dealing through a broker.

But cyberspace is also pocked with the online equivalent of black holes that vacuum the portfolios of unwary investors.

For example, a public-relations executive hyped two stocks through more than 6 million e-mails from November 1997 until last August. He failed to disclose that the companies had paid for the promotion, according to the SEC.

Also, managers of an Internet newsletter called The Future Superstock urged more than 100,000 subscribers to buy 25 micro-cap stocks they said would double or triple within months. The executives, however, failed to disclose that they had received $1.6 million in cash and stocks from the firms.

Many cyberinvestors are easily gulled by such schemes, say SEC officials. They are beguiled by the new technology, much as people were early this century by the telephone. Or, they fail to recognize that much material online is inaccurate or downright deceptive.

Moreover, unlike investors subjected to touts who call on a phone, online investors often take the initiative and seek tips from fraudsters. Their willing minds are often easily duped.

A study of deceptive tactics

Investors are especially vulnerable to deception in cyberspace's whirlwind of "cheap talk," or its high volume of free, unsubstantiated, and apocryphal advice found in chat rooms and discussion groups, according to the Iowa State University study.

The study researchers pitted students as buyers and sellers of hypothetical assets through computer terminals. One round followed a gag rule in which sellers were barred from touting their assets. Trading dragged.

In another round, sellers could say whatever they wished regardless of the truth. Trading boomed but sellers lied about half of the time, passing off low-quality goods as high quality. Buyers showed a shocking level of gullibility, say survey authors.

"It was apparently hard for the students to ignore things that they knew shouldn't matter or were false," says Thomas Rietz, a survey co-author and University of Iowa business school professor.

Since the SEC launched its antifraud campaign, the number of complaints it receives daily from online investors has jumped about 30 percent to 200, says Mr. King.

Regardless of the greater public awareness, the SEC has a huge task.

Only three SEC staffers follow cyberscams full time. They muster some 125 enforcement attorneys to troll cyberspace when they receive several complaints about a ruse.

Consequently, online investors must take care of themselves, guarding their own portfolios.

"Never, ever make an investment based solely on what you read in an online newsletter or Internet bulletin board, especially if the investment involves a small, thinly traded company that isn't well known," says Nancy Smith, director of the SEC office of investor education and assistance.