RAZOR-THIN COMMISSIONS
Interactive Brokers lets investors trade stocks for a penny a share
Arthur M. Louis, Chronicle Staff Writer
Thursday, November 16, 2000
©2000 San Francisco Chronicle
URL: sfgate.com
Back in the early 1990s, you would have been lucky to find a stockbroker who would charge you a commission of less than $30 per trade.
Today, thanks to advances in technology and the proliferation of highly competitive online brokerage firms, you can buy and sell stocks for $10, $8, $5 and even -- under special circumstances -- $0 per trade.
One of the more intriguing extreme-discount brokerage firms is Interactive Brokers, which charges a flat 1 cent per share for a stock trade, subject to a $1 minimum.
That's a measly $1 to buy or sell 100 shares -- or $10 for a 1,000-share transaction.
Interactive Brokers also offers astonishingly low commissions on options and futures trades. In fact, options are the firm's principal business, while stocks are a rapidly growing sideline -- for now.
The firm charges only $1.95 per contract to buy or sell options, and $4.95 per futures contract. (The futures commission will be knocked down to $2.95 starting next month.)
By contrast, most brokerage firms charge $10 or more per contract to trade either options or futures.
A subsidiary of Connecticut's Timber Hill Group, a marketmaker established during the 1970s, Interactive Brokers started out in 1993 serving mainly institutions.
About a year ago, it opened its virtual doors to retail customers and now boasts an estimated 10,000 -- a 340 percent increase since January. Clearly, the firm represents at least a marginal threat to big online brokers such as Schwab and E-Trade.
An Interactive Brokers spokes woman says the firm makes a profit, though she won't say how much.
But how does Interactive Brokers make a go of it with such low commissions?
It's a combination of high volume and low overhead, explains Thomas Ascher, executive vice president. Interactive Brokers has an edge on most other relatively new, computer-based brokerage firms because it is a subsidiary of Timber Hill.
It was able to piggyback on Timber Hill's highly advanced technology, keeping its startup costs to a minimum.
Customers of Interactive Brokers do not trade via Internet browsers, as do customers of most other online firms.
Instead, to do business with the firm, they must download special trading software from the Interactive Brokers Web site -- www
.interactivebrokers.com.
When they are ready to trade, they use that software -- which remains permanently installed on their computers -- to connect via their Internet service provider with the Interactive Brokers trading system.
However, for customers who don't happen to be techno-nerds, the method of connection is largely irrelevant. What counts most is those phenomenally low commissions.
Interactive's commission rates seem "too good to be true," says James Punishill, an analyst with Forrester Research in Cambridge, Mass. He speculated that the firm imposes a lot of hidden charges on its customers, that it will "nickel and dime you on fees."
Other skeptics suggested that Interactive Brokers probably requires its customers to deposit huge sums of money up front or that it charges higher commissions for limit orders than for market orders or that its favorable rates apply only to heavy traders or that it makes tons of money on payments for order flow.
None of that is true, Interactive Brokers says.
Ascher says there are no hidden fees -- that all customers, big and small, pay commissions to trade and nothing more. The commission rates remain the same, he adds, regardless of whether the customer places a market order or a limit order.
There is, however, a stiff $30 surcharge per transaction if a customer places an order by telephone, rather than computer.
As for up-front deposits, Interactive Brokers requires new customers to deposit at least $2,000 in cash accounts or $3,500 in margin accounts. Both those figures are in the low-to-moderate range for the brokerage industry.
Ascher acknowledges that Interactive Brokers, like most other brokerage firms, accepts payment for order flow. But he insists that it is not a big deal for his firm.
With payment for order flow, brokers will route a customer's order to a marketmaker that holds the stock in its inventory. The marketmakers provide liquidity to investors while trading for their own profit.
The marketmakers compete vigorously to process trades placed by brokerage customers, because most of the trades they handle produce a quick, sure profit.
They typically pay the brokers a fee of about $2 per 1,000 shares traded.
Critics of this process say brokers may be inclined to sell their orders to firms that don't necessarily provide the best execution, causing the customer to receive too little money for a stock sale or pay too much for a purchase.
Ascher says payment for order flow at Interactive Brokers is less of a factor than at most other brokerage firms. Even though it is a subsidiary of the Timber Hill market-making firm, it has no special order-flow arrangements with Timber Hill, he adds.
"Best execution is our priority," he insists.
He stresses that the Interactive Brokers software provides its customers with quick, direct electronic links to the New York Stock Exchange, American Stock Exchange and Nasdaq, as well as the principal options and futures exchanges.
It lets them identify the best prices available in any market at any given moment, and to buy and sell at those prices.
E-mail Arthur Louis at alouis@sfchronicle.com.
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