E-Brokers: Separating The Wheat From The Chaff
Matthew Rand with AAII 03.27.07, 6:00 PM ET
forbes.com
When Zecco.com launched its free online brokerage in October 2006, it looked like commissions might become a thing of the past. Hot on the heels of Zecco’s start, Bank of America (nyse: BAC - news - people ) said it would also offer free trades. Wells Fargo (nyse: WFC - news - people ) joined the party just last month.
But none of these are really free. Bank of America’s "free" brokerage is the least free of all, since you have to keep $25,000 in cash in a regular interest bearing account in order to qualify. Wells Fargo is similar. It offers 100 free trades a year to "customers with balances of $25,000 or more in any combination of loans, credit balances, brokerage accounts, savings and checking accounts and IRAs." The company even allows you to use 10% of outstanding mortgage loans for the balance.
Even Zecco, which hoped advertising revenue would cover trading costs, charges for mutual fund trades, IRA accounts and broker-assisted trades. Its advertising comes mostly from Google's (nasdaq: GOOG - news - people ) Adsense.
Despite what seemed like a wave of commission cuts, a study by the American Association of Individual Investors (AAII) found that in the past year, average discount brokerage commissions as a percentage of trade-size held steady. A $5,000 broker-assisted trade costs $33.50 on average, and a $25,000 trade costs $52.50 on average. For a $25,000 online trade without broker assistance, the average commission is $19.50, according to AAII. The study looked at 56 discount brokers.
AAII surveyed its members and found that the most popular 10 brokerages were used by nearly 90% of respondents. The top two brokerages in that survey were Interactive Brokers and USAA Brokerage Services . Interactive was No. 1 for price of a trade, execution speed and the reliability of electronic trades. Commissions at Interactive Brokers run a half a penny per share, or 50 cents for a 100 share trade, and account minimums are $5,000. USAA was No. 1 for overall satisfaction and No. 2 in price of a trade, execution speed and reliability of electronic trades.
The most widely used e-broker among respondents was Scottrade. Scottrade came out in the middle of the pack on price, speed, reliability and satisfaction with its $7 online trades. After that, in number of respondents, was TD Ameritrade and Fidelity.
In addition to these metrics, AAII says it’s also important to look for what kind of account statements you’ll be getting from a broker. You can ask for a sample before signing up. Almost all have the basics, such as what’s in your account and how that changed from the last statement period. But good ones will also remind you what kind of choices you’ve made on things like whether dividends are reinvested. Some even provide research on your portfolio holdings. A pie chart of asset allocation doesn't hurt either.
Cash management is also important. If you ever sit on large cash balances, you'll want to make sure that you can have them swept into a money market fund, which will give you a higher, though uninsured, interest rate. Brokerages make good money from the spread between the interest they get for your cash and the interest they pay out when they're holding your cash in the equivalent of a savings account.
The big ones, like Charles Schwab, E*Trade and TD Ameritrade, have money market accounts available, but will automatically sweep your cash into a savings account unless you ask for the money market account. At Schwab, you'll need at least $500,000 in cash to get the money market account, but other minimums are much lower. Scottrade and Interactive Brokers don't offer money market sweep accounts.
Also worth looking out for is how commissions change for different trade sizes. Some brokers, like TD Ameritrade, have one commission no matter the size of your trades. That means that bigger trades have a smaller relative cost. Others, like Interactive Brokers, have a per-share amount, so that the commission will change but its relative size will not. And then there are brokers like Vanguard Brokerage Services, which has different price break points. Think about what cost structure works best for the size of the trades you’ll be making.
Another size concern is whether your broker insures account values for more than the Securities Investor Protection Corporation minimum of $500,000. USAA doesn’t. Its happy customers probably don't keep more than $500,000 in their accounts. |
