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E*Trade chat plans face scrutiny

Federal regulators and lawmakers are weighing the implications of a plan by online brokerage E*Trade to add chat to its investment site.

Federal regulators and lawmakers today are weighing the implications of a plan by online brokerage E*Trade to add chat to its investment site.

As previously reported, E*Trade is planning to roll out a chat function, which is currently being tested, among other new features, as part of its Destination E*Trade project. Henry Carter, vice president of compliance for E*Trade, announced that the addition of chat was imminent at a recent National Association of Securities Dealers (NASD) conference.

Users will be able to log on to chat to discuss investment strategies and large and mid-sized stocks, Carter said. He noted that chat about so-called micro-cap or penny stocks will be prohibited because those stocks "are most likely to be manipulated" by rumors in a chat room.

Carter added that the chat will be moderated by a third party, a "passive moderator" who is not a stock broker. "Inappropriate live discussion will be blocked from the system," he said.

It may sound innocuous--thousands of businesses host chats where people talk about financial issues. But Carter was contacted yesterday by Rep. Michael Oxley's (R-Ohio) office and asked to testify before a House finance subcommittee next month. A spokesperson for Oxley said the hearings are about electronic commerce, but declined to give any further details.

Although online chat about stocks and investment strategies is not new, the fact that the site holding the chats also acts as a broker holds deeper implications.

"The Internet is a great tool for investors, but it's also a great tool for crooks," said Marc Beauchamp, a spokesman for the North American Securities Administrators Association (NASAA), the agency that represents state securities regulators. "Chat rooms and bulletin boards are used to spread false rumors that might force down" stock prices, for example.

The main concern for E*Trade is similar to that of other firms that want to host chat: liability. In E*Trade's case, it could potentially be held liable for fraud that is perpetrated within its chat rooms or defamation or trade libel by a chat room user, according to Michael Overly, special counsel to the information technology group at the firm Foley & Lardner.

He pointed out that a few legal cases have dealt with these issues as they pertain to Net services. Notably, in the Stratton Oakmont vs. Prodigy case in 1995, the online service was held liable as the "publisher" of a user's defamatory postings in one of its chat areas because of its practice of monitoring those areas.

Since then, Congress passed the Communications Decency Act, and although much of it was struck down, part of it was upheld--notably a so-called Good Samaritan provision, which states: "No provider or user of an interactive computer service shall be treated as the publisher or speaker of any information provided by another information content provider."

There are few examples of the law being applied so far--and it mostly has been to online services, not Web sites. Currently, the Supreme Court is being asked to hear a case in which a man who claims he was hurt by a false statement on America Online wants the court to make ISPs responsible for the content posted on their sites. Two lower courts sided with AOL.

AOL also was named in a $30 million defamation suit filed by White House adviser Sidney Blumenthal. He claimed he was defamed by Net gossip Matt Drudge, who posted a column online saying Blumenthal had a "spousal abuse past." The column also was posted on AOL. The online service was dismissed from that suit on grounds that under the provision of the CDA, AOL is a conduit of information, not a publisher--which means it is not responsible for the content in question. The suit against Drudge still stands.

Still, "there is some confusion over what the CDA protects," Overly said. There are some who interpret the law to mean that a provider is liable if it "knew about the defamatory content and published it anyway."

Also in question among some attorneys is whether the statute would apply to specific Web sites the way it has been applied to online services.

But E*Trade's Carter said: "No one has said we can't do it. You don't reject the technology because it can be misused."

Overly also pointed out that E*Trade's liability could be limited because the firm plans to post disclaimers that the chat and chat participants are not "agents of E*Trade."

"The issue turns on who is making the statement," Overly said. "If E*Trade is not making the statement, they will not be held liable."

Online brokerages also face scrutiny from the NASD, which regulates brokerages, and the Securities and Exchange Commission (SEC).

Carter said E*Trade would host chats and not bulletin boards because they are regulated differently by the NASD. Chats, which are in real time and generally not archived, are considered speech and are not subject to what is known as "principal review." Under this definition, a principal refers to an employee of the brokerage who is a stock broker with an additional license. Bulletin boards, which are considered ads under the regulation, are subject to principal review, Carter said.

"There are any number of issues that are raised with broker-dealer sponsorships of chat rooms, and it's clearly something we're looking at closely," said Michael Robinson, a spokesman for NASD Regulation. He declined to elaborate.

"We're always concerned with any kind of fraud on the Internet," said John Stark, head of the Internet enforcement program for the SEC. He declined to comment on whether the practice of hosting chat on a brokerage site is appropriate, but noted that the SEC has "never sued an access provider or bulletin board service because of a fraud perpetrated on the service, thus far."