Day traders now white knights

When Mark Friedfertig graduated from Columbia University with an M.B.A. in 1988, no investment bank or brokerage firm would hire him. After all, it was just a year after the crash.

Now, he is one of the most wanted men on Wall Street.

Mr. Friedfertig, chief executive of New York day-trading brokerage Broad-way Trading, says he has had conversations with a number of traditional brokerages that are interested in acquiring his company. His is just one of many such firms that have become acquisition targets for mainline brokerages, as the fast growth of day trading quiets their qualms about the business’s image.

“There has been a real image shift,” says Mr. Friedfertig. “The white-shoe firms are seriously considering getting into the active trading market. The industry is here to stay.”

Wall Street will still have to contend with negative perceptions about day-trading firms, which allow investors to bypass brokers and place their orders directly on the market. They will also have to blend the rapid-fire traders in with the customers to whom they have preached “buy” and “hold” for years.

“It’s a damned-if-they-do-damned-if-they-don’t scenario,” says Bill Burnham, a general partner at investment firm Softbank Capital Partners in New York. “They want to offer these services so they don’t continue to lose customers to the day-trading firms, but will they soil their reputation in the process?”

Industry observers say traditional brokerage firms are getting ready to spend big bucks to acquire these operations. Earlier this month, in the first combination between a major brokerage and a day-trading firm, Charles Schwab & Co. paid nearly $500 million in stock for CyBerCorp, whose software lets clients make rapid trades over the Internet.

Officials at CyBerCorp, which is based in Austin, Texas, say they had also been courted by Lehman Brothers and Merrill Lynch & Co. Inc. before settling on a deal with Schwab.

New York-based A.B. Watley Inc., which offers only Internet trading, recently hired an investment bank to help it evaluate its options. After treading water since the company’s April initial public offering, shares of AB Watley, the only publicly held day-trading firm, recently spiked to $17, up 70% this month, on the takeover rumors.

“We’re slowly bleeding off some of the big brokerages’ best customers,” says Tony Huston, head of strategic planning at the firm. “They are concerned.”

taking it home

Tradescape.com Inc., also in New York, still gets one-third of its revenue from providing terminals in rooms for day traders. But the majority of its sales are generated by offering software that allows clients to trade from home, which is the fastest-growing part of its business.

It also recently acquired MarketXT Inc., an electronic trading network in which investment banks Morgan Stanley Dean Witter and Citigroup were part owners.

Tradescape.com is reportedly in talks with on-line broker E*Trade Group Inc. It is also exploring an IPO.

Broadway Trading, which licenses software for individuals to use at its Wall Street and Miami offices, is one of the more traditional day-trading firms.

CEO Mr. Friedfertig has played a prominent role in transforming the business’s image. He has written two books on day trading, which he says have combined sales of 200,000. His firm offers free training sessions and free psychological counseling for traders who have run into difficulties.

Day traders are some of the brokerage industry’s most attractive clients. CyBerCorp says its 3,000 accounts generate 25,000 trades a day, producing huge commissions. In the quarter ended Dec. 31, AB Watley’s revenues rose 169%, to $8.5 million, though the company lost $1 million.

It’s not just the investors that Wall Street is interested in. It also covets the firms’ technology, which gives users access to the same information a Wall Street trader would have and allows them to make transactions over the Internet from anywhere.

`surprising partnerships’

“Old-school Wall Street firms see these new firms as a technological panacea,” says Matthew Andresen, president of electronic trading network Island ECN. “They feel they’re behind and are looking for the solution at any cost, and that’s going to result in surprising partnerships.”

Originally called “SOES bandits,” because of the Small Order Execution System they used to use, day traders made their money in the early Nineties taking advantage of the large spreads on Nasdaq stocks. Tales of easy money led to rooms of day traders popping up over the country.

As the hordes of individual traders grew, so did their strategy’s bad reputation. Day traders have been blamed for pushing stocks up quickly and sending them crashing down even quicker, and for the overall increased volatility in the market over the past few years. Regulators have cracked down on the firms for illegal lending practices and for aggressive advertising campaigns promising riches.

Datek Online, whose founders helped develop some of the earliest day-trading software, has been accused of money-laundering and unauthorized trading in customer accounts. The focus was its day-trading unit, which the Iselin, N.J.-based on-line brokerage spun off in 1998. Another blow to the industry came last summer, when Mark Barton, a money-losing trader, killed 12 people in a rampage that took him through two Atlanta day-trading offices before shooting himself.

Nonetheless, the ranks of day traders continue to grow. Industry observers estimate there are about 5,000 to 6,000 of them nationwide. This past weekend, more than 4,500 people paid $250 each to attend the Online Trading Expo held at the Marriott Marquis in Times Square.