Restore Confidence to Investors

JOHN J. PHELAN JR. is correct in calling for a restoration of ``confidence'' in America's capital markets after last month's 190-point stock-market plunge on a single day. The head of the New York Stock Exchange knows Wall Street cannot tolerate many more market nose dives if trading houses are to succeed in wooing back individual investors.

Few individuals now buy stocks directly. Small investors fled the market after the meltdown in October 1987. Trading mainly involves multibillion-dollar institutional accounts, like pension and mutual funds.

Current market volatility is blamed on program trading using high-speed computer programs to gain quick profits. The strategies employed by the big players include tactical allocation, market timing, and index arbitrage. Index arbitrage is, in Mr. Phelan words, trading ``based on price disparities between stocks, futures, and options.''

Defenders of index arbitrage insist they are victims of a witch hunt and that arbitrage alone does not trigger volatility. Indeed, volatility is hardly new to Wall Street. And sharp movement is not necessarily bad. Everyone welcomes a climbing market. Markets that suddenly drop can be messengers. On Oct. 13 the market signaled that leveraged buyouts, and the junk bonds used to finance them, are risky for a debt-ridden society that has failed to solve its budget deficit.

Congress needs to bring regulatory order to capital markets without interfering with their main purposes. Stock and options markets currently come under different regulatory agencies. Such a divided approach is antiquated. Long-range investing must be promoted over short-term speculation.

The NYSE should follow through on its promised reforms, such as requiring trading halts when the market plummets and discouraging index arbitrage.

The NYSE adopted somewhat similar circuit-breakers after the 1987 downturn - but subsequently backed off. An orderly market is essential to restore the confidence of individual investors turned off by the cascading heights and depths of today's program-driven stock market.

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