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46 - Broker Price Wars: End Game ($0 Commissions)

The DIY Investing Podcast: Value Investing | Fundamental Analysis | Mental Models | Business Management

Release Date: 10/11/2019

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More Episodes

Mental Models discussed in this podcast:

  • 2nd-order effects
  • Price Competition

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Show Outline: Broker Price Wars

The full show notes for this episode are available at https://www.diyinvesting.org/Episode46

Major Online Brokers eliminated commissions on Stock Trades:

  • Interactive Brokers (IBKR) - On September 26th announced IBKR Lite, with unlimited free trades on United States exchange-listed stocks and ETFs. 
  • Charles Schwab (SCHW) - Effective October 7th, Schwab eliminated commissions for stocks, ETFs, and options on U.S. and Canadian exchanges. 
  • TD Ameritrade (AMTD) - Effective October 3rd, TD Ameritrade eliminated commissions for stocks, ETFs, and options on U.S. and Canadian exchanges. 
  • E-Trade (ETFC) - Effective October 7th, E-Trade eliminated retail commissions on U.S. listed stock, ETF, and option trades. 
  • Fidelity (Private) - Effective October 10th, Fidelity eliminated retail commissions on U.S. listed stock, ETF, and option trades. [Not announced prior to the recording]

Robinhood: The beginning of the end

  • Popular with young investors (Millenials)
  • Free trading - announced in 2013 as a startup
  • Receives payments for order flow

2nd-order effects

  • The potential demise of the paid index fund
    • Why pay a non-zero management fee, when you can replicate the entire index for free?
    • Fidelity has already shown this with zero-fee index funds.
  • Higher returns for investors all-else equal
    • If you don't change your trading behavior, your returns should rise with this change. You have lower expenses but the same gross return. Your net return should be higher.
  • Changing behavior that promotes more frequent trading. (Could be a major negative)
  • Changing behavior that increases the number of investors and the amount they invest
    • Leading to lower returns in the aggregate as more money chases the same number of assets. 

How do brokers make money?

  • Robinhood makes money through order flow
  • Brokers also earn money through:
    • Spread between cash interest paid and earned by the broker to investors
    • Internal ETFs and Mutual Funds
    • Asset Management Fees

Summary

The end game has begun in the brokerage price wars. We have reached the zero bound in terms of commissions now at $0 for US and Canadian exchanges. This will have a major impact on the accessibility of investing and will certainly change the recommendations I have made in the past to new investors.