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Transaction Network Confronts the Power of Suggestion

Options traders who deal in

Transaction Network Services


work in a sparse corner of the

Pacific Exchange

, far from the bustling


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options trading crowd or any of the San Francisco floor's other marquee listings.

But three weeks ago, they got caught in the crossfire of Internet message-board gossip, allegations of accounting improprieties and an options trader. And now, the matter has been referred to the Pacific Exchange's surveillance department, the exchange confirms, and may get passed along to the

Securities and Exchange Commission's

enforcement division.

The episode illustrates the power of the Internet message boards, which provide a way for posters to bash or praise a stock anonymously and without disclosing ownership or short interest. But it also shows another side of this phenomenon -- what can happen to options market makers caught in the middle.

On Aug. 10, TNSI shares were comfortably perched at 22 1/2 when a posting popped up on the



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TNSI message board about a July 17 alert by the

Center for Financial Research and Analysis

, a service used frequently by short-sellers to ferret out companies with accounting problems. The posting alleged that Transaction Network's revenue and earnings were suspect because of a financial arrangement with some of its customers.

After the posting, shares of the developer of point-of-sale transaction processing, call-billing validation and fraud control services began to slide. Within days TNSI traders on the P-Coast's cavelike trading floor saw a retail customer taking bearish options positions. To hedge themselves, the crowd traders had to sell shares of the Reston, Va.-based TNSI, a stock so thinly traded that this activity created more downward momentum.

Between Aug. 17 and 21, TNSI puts were especially active. Contracts that usually traded in five-contract lots were getting orders for blocks of 25. At one point, the anonymous options player put on a reversal (or conversion) in which he bought puts and sold calls, a position equivalent to selling or shorting the stock.

By creating the synthetic position as opposed to shorting the shares outright, the person kept TNSI out of the public short interest tables and out of the cross-hairs of other shorts as the sentiment tide turned.

By Aug. 20, TNSI's stock volume soared to 340,000 shares from its daily average of 85,000 and the stock plummeted almost 13% to 15 3/4. On that afternoon, a posting appeared on the TNSI board from


, a frequent message-board poster who often bashes stocks. His moniker is similar to that of

Mr. Pink

, a famed bulletin board participant who went after

Chromatics Color Sciences


earlier this year.

Mr_Pink_esq's posting cited the Center for Financial Research alert, and he concluded that TNSI was "overvalued and should be sold or sold short." Among the reasons were "self-dealing management," concentration of sales to five customers, insider selling and declining margins. The poster's target on the stock: $8 per share. Ouch.

TNSI executives were worried. Telephone traffic between the P-Coast trading crowd and representatives of the company picked up as each side tried to determine what information was driving the trading. The company's CFO, Tad Weed, went to the wires to say that the Center for Financial Research was wrong and that the service had admitted as much to him.

Howard Schilit, who heads the center, declined to comment on the details of his firm's TNSI report, but said, "Our report is accurate as it stands. We stand behind our conclusion."

But nothing Weed could have said during the Aug. 20 stock plunge would immediately replace the ground the shares had lost, or the money the options market makers had lost taking the other side of the TNSI options trades. It was ugly.

"When you couple a chat-room rumor with a thinly traded stock, it's a recipe for disaster," one trader said, detailing the kind of trading that proceeded for three days before TNSI's big drop. "Whoever it is, he's very aggressive. He came in with a 400-lot conversion, which means essentially he was selling 40,000 shares of stock in one shot."

On a stock that trades 80,000 shares a day, that kind of trading gets noticed, and the market maker who's also selling shares to hedge goes straight into the blades. The buyers of the stock realize that someone is more or less desperate to unload a large chunk of shares and they offer less and less until the seller has to give in. "They see you coming; they're going to kill you," the trader said.

The stock's spiral ended Aug. 31 when it hit 14 1/2.

Transaction Network Services stock has recovered since then: Tuesday it was trading near 27 3/8. Much of the gain came from an announcement that the company had bought some of


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transaction services for $64 million.

Even that announcement was bashed by Mr_Pink_esq in a Sept. 11 Yahoo! posting. "It is clear however that the transaction is yet another attempt by TNSI to buy customers, manufacture temporary earnings, and to manipulate investors," the posting alleged. "Furthermore, the humongous debt load that the company will take on could ultimately result in the bankruptcy of the company."

Mr_Pink_esq's original posting probably received more attention because of investors' focus these days on potential accounting problems, thanks to



recent book-cooking bloodbath.

It is difficult to establish exactly what Mr_Pink_esq's goal was in posting the Center for Financial Research report on the Yahoo! message boards. But the postings of the July report, along with some acerbic commentary, coincided with the stock's sharp drop. The company itself believes that it was a victim of an online drive-by slam it didn't deserve.

"It's tough for me to know how much weight they (the board participants) have, but had we not had the AT&T transaction, who knows what they would be doing to our stock," says John McDonnell III, TNSI's general counsel.

The Center for Financial Research's report's most inflammable citation alleged that TNSI "loaned $3.2 million to customers during the three quarters ended March 1998. The company refers to those loans as strategic investments which facilitate the development of new accounts or extend existing relationships. Although TNSI has not indicated the exact nature of such loans, they


to constitute concessions provided in exchange for customers' agreement to purchase a particular amount of products and services." The center went on to say in the report that it questioned "the legitimacy of any revenue and earnings recognized by TNSI in connection with those purchases."

Karen Kazmark, TNSI's director of investor relations, said the company's policy was not to respond to rumors and that "we have fully disclosed any loans and investments this company has made."