My Opinion on Commission Free Stock Trading

It was only a matter of time before Wall Street’s revenues got squeezed enough that they finally decided to throw in the towel and move over to the dark side of commission-free trading. It started off with Robinhood in April 2013. Robinhood was the first online discount broker to start offering no commissions to all of its customers for trading stocks, options, and even cryptocurrencies. While this was obviously a revolutionary offering the downside to Robinhood is that they only offered to trade through a mobile app. This meant any serious trader was forced to continue to pay higher trading fees because it’s not possible for an active day trader to only execute their trades off of a smartphone. That is fine for part-time trades, especially those that want to swing trade, but it just doesn’t work for full-time traders.  With that said, obviously the word “free” means something to enough people which is why Robinhood made a big impact on the industry.

On October 1, 2019, Schwab was the first broker to announce that as of October 7, 2019, they are starting to offer no commissions on stocks, options, and even OTC penny stocks. Schwab had already lowered their fees on most of their Index fund offerings so this makes sense that they would join the part. The same day that Schwab made this historic announcement, TD Ameritrade, E*trade and even Interactive Brokers (through a new lite version of their trading platform) jumped on the bandwagon that they would all be eliminating commissions for trading. So far the remaining big players that have not made an announcement yet are Fidelity and Vanguard. Although in my opinion, Fidelity will not be far behind these other companies, Vanguard is against active traders which is why they offer 20 commission-free trades a year and then charge an astounding $40 per individual stock trade after that.

Overall I would say that this announcement was one of those make it or break it moments for the brokerage industry because if any of the companies had not decided to lower their commissions, they probably would be out of business soon after. In the next few weeks, I am sure many other smaller brokers will be lowering or eliminating their commissions to try to keep their customers and remain relevant in this highly competitive industry. The difficult part of this is that all of the big brokerage companies have the ability to eliminate their commissions and earn revenues in other ways, but this will probably put most of the smaller brokers that can’t compete, out of business.

Traders and investors did not take too kindly to this news because much of the revenues of these brokerage companies will be eliminated due to no longer collecting commissions. TD Ameritrade’s share price has declined 29% in the past month, while Schwab and E*Trade have both dropped 13%, as these brokerage companies eliminated commissions. The fact of the matter is, these brokers have been earning billions of dollars off of their customers for the past 25 years and up until now, never had much pressure to lower their prices. Of course, commission rates have come down over the years but for the past 10 years, the majority of brokers kept their rates steady in the $2.95 to $9.99 range for side per trade.

This is a big win for market participants but what is yet to be determined is how this change will impact active day traders. In general, commissions are not an issue unless a trader is a scalper. Scalpers enter and exit trades many times per day and commissions can end up being hundreds or thousands of dollars per day. The problem with all these commission-free brokers is the execution speeds that they provide are not useful for scalping. Take for example Robinhood. The way that they are providing commission-free trades is by only allowing their clients to add liquidity. What that means is they force you to either sell at the ask or buy at the bid. In return, they collect an ECN rebate which is how they are actually getting paid, and you get an order that won’t be executed immediately. This is fine if you are a long term trader or investor, but inactive day trading this is useless.  So now the question is whether the other brokers end up doing the same.

 The other way that these brokers have been generating revenues over the past 8-10 years is by selling order flow out to the large high-frequency trading market-making firms such as Getgo and Citadel, which operate through dark pools. These companies are then able to choose whether they want to execute an order so that they are able to take advantage of the “dumb money” investors and traders or they can send it back out to the market to get executed on a normal exchange. This results in a kickback to the brokerage houses, and a real cost to their customers. E*trade has been doing this for a number of years and I am sure all of the other brokerage companies are also doing the same. If they are not doing it then they certainly are going to start doing it to make up for their lost revenues and this raises the question would you rather pay $6-10’s in commissions to have your trade executed or would you prefer a free trade but inevitably lose thousands of dollars because all of your trades are being cherry-picked by the HFT’s?

 The fact is humans can’t compete with computers and the algorithms that these HFT’s are utilizing. Most people that go up against a computer will lose money. This is why in my opinion it’s best to stay away from these retail brokers and continue to pay for the ability to route your orders through a direct access broker. For example, Interactive brokers are going to be offering a lite version of their platform which will provide commission-free trades but they will continue to offer direct access trading and most likely keep charging $.005 per share for this ability. Perhaps the price may come down a bit but I am guessing that traders will continue to pay for their services because they allow them to earn large profits which wouldn’t be possible through Schwab, TD Ameritrade, Robinhood or any of these other brokers. In the event that this competition does help the prices come down then I am all for it as long as lower commissions does not lead to poor technical support. The fact is getting stuck in a trade and having no way to contact your broker is going to be detrimental to traders so I feel like commissions are a necessary evil.

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