Barron's (Part 1)
Survivors on the Online Island
The harsh market climate makes Web brokers work harder for you
By Theresa W. Carey
Survival Strategies
Survivor describes not only a hit television show but what online investors and brokers have been through in the past year. As the Nasdaq has been sliced by more than half, the breakneck growth of online trading has gone into reverse. But nobody's been forced to eat rats. Indeed, the survivors have benefited from their harsh experience of the last 12 months.
Our sixth annual survey of online brokers finds continued incremental improvement in the four occupying the top tier, a marked bunching of many brokers just below the very best, and respectable performance even among most of the also-rans.
The competition clearly has gotten fiercer with the slump in online transactions -- from just under a million per day in the second quarter of last year, to 850,000 per day in the third quarter, with only a small recovery to a 900,000 daily average in the final three months of 2000, probably because of tax-loss selling -- according to a report by J.P. Morgan Securities.
New online accounts continued to grow last year, albeit at a more moderate 53% rate, to 19.3 million, down from 1999's heady 73% increase. But the average account was less active, with an average of 2.9 trades per quarter in the final three months of 2000, down from five per quarter a year earlier. And poorer as well; the average online account was down to $49,000 in the fourth quarter from $70,200 a year earlier.
In response, brokers are offering lures, such as free trades, airline miles or cash rebates, to attract new customers. More substantively, most have tried to improve their infrastructure as well as the Websites themselves. A continuing area that needs improvement, however, is portfolio analysis and tax accounting. Too many online brokers rely on offline means of analyzing a portfolio -- exporting the data to a personal finance program or spreadsheet -- and sometimes requiring customers to perform data-entry chores, rather than transferring the information directly, even though they have the numbers available.
But the brokers apparently have heard the hue and cry from Barron's readers who called for better customer support. Over the past year, we've asked readers to comment about their online brokerage experience and to answer specific questions to help guide us in our reviewing efforts. Our thanks to the hundreds of respondents who helped us hone our rating system.
We've rated 23 Web-based brokers, including the top 15 in terms of trading volume, plus another eight of interest to Barron's readers. We're well aware that there are about three times as many online brokers out there. But, according to J.P. Morgan's data, the top 10 accounted for 95% of assets and 90% of the trades online. (We'll also look at direct-access brokers at a later date.)
We assumed typical Barron's readers (if there are such persons) could avail themselves of benefits for high account-balance holders -- over $100,000 in assets -- and make three round-trip trades per month. We made significant changes to our rating system, evaluating the brokers' offerings and performance in six areas, assigning a point value of 0 (low) to 5 (high) in each category. We then weighted the results according to the presumed importance to investors, adding to two the measures, and halving another.
The best possible rating Barron's could bestow is Five Stars -- which we have yet to award. Four brokers did cop Survivor's equivalent of a $1 million prize -- a Four-Star Rating. They are CSFBdirect, the recently renamed DLJ Direct, which barely edged out last year's winner, National Discount Brokers; industry leader Charles Schwab, which has moved up in this year's standings; and lesser-known newcomer, J.P. Morgan Online.
Ten brokers, a Barron's record, earned an estimable 3 1/2 Stars: Wall Street Electronica, Scottrade, Morgan Stanley Dean Witter, TD Waterhouse, Merrill Lynch, E*Trade, Fidelity, Quick & Reilly, A.B. Watley's "Watley Trader" and Mr. Stock. Each has strengths that will appeal to knowledgeable investors, but also a drawback or two that drop it down a notch -- and those minuses may not matter to you. The rest of the field was more bunched together this year; even the bottom-ranked broker got 2 1/2 Stars. A year ago, most of the surveyed brokers got three stars or less, and one broker earned a lowly single star.
Table: How the Online Brokers Stack Up
What would it take to get the so-far unobtainable Five Stars? For starters, clearly written reports updated in real-time, plus price improvement on limit orders. Many readers wrote in to object to payment for order flow, so our rating system this year penalizes brokers who accept such payments. Proprietary research, well-organized links to third-party research, and great customer service also would be musts.
We looked for a streamlined order entry process, minimizing (or eliminating) the number of verification screens by utilizing field-by-field checking during data entry, while maximizing the amount of data available at the time of the trade. A real-time quote, presented before the order is entered, is essential.
Drop-down list boxes, or links to trading screens from a positions report or a research window, eliminating the need to enter ticker symbols, are a major plus. For example, if you select "Sell," there should be a drop-down box with the ticker symbols of issues in your portfolio, as well as the number of shares currently held, to avoid data-entry errors and inadvertent short sales.
We'd like to see an easy-to-read verification screen that is more than an echo of the order entry screen; that spells out the name of the security being traded, and shows the total value of the trade, including commission charges.
Final requests: an instant link to the status of the order, or a pop-up confirmation screen, followed by real-time updating of the trader's portfolio, plus portfolio analysis reports, with links to news and research, as well as transaction history going back at least 90 days. Readers also have emphasized the importance of tracking the tax consequences of each trade.
We ranked the brokers in six key areas, awarding or subtracting points in numerous sub-categories:
Trade Execution Process: Reader feedback inspired us to focus on the process of placing and confirming trades, which can't be ascertained by using a demo. We broke the points awarded down into six sub-categories:
A real-time quote on the trading screen earns one point. Partial credit was given to brokers that display the real-time quote and then force a move to the trading screen.
The quality of the trading screen itself was worth two points. A well-organized screen that helps the investor avoid data entry errors, and locates potential problems before they result in expensive effects, is key.
Brokers offering price improvement for limit orders received 1/2 point. Brokers that accept payment for order flow lose 1/2 point.
A pre-filled order entry screen was worth up to one point. We looked for the ability to click on a trading link while viewing a positions report, and have the order entry screen set up for the investor. The full point went to brokers who filled in the number of shares available in the investor's account when placing a Sell order.
Easily accessible order status reports and pop-up confirmations were worth up to 1/2 point.
We executed equity trades during market hours, performing a market buy and a limit sale of a Nasdaq stock. Following the market buy, we evaluated the execution and portfolio reports. After the limit sell, we examined the open order reports and looked at ways for the trader to follow the progress of the order.
We also examined the mutual fund and options entry screens, though we did not place orders there. A "5" in this category means the order entry and execution process flowed easily from one step to the next, with real-time information available when needed.
The availability of price improvement strategies and the absence of payment for order flow are necessary to attain a "5." We added 25% to this score to emphasize its importance to Barron's readers.
Ease of Use: How easy was it to navigate around the site? Does the layout of the site make sense and minimize the number of mouse clicks it can take to get from one place to another? Sites that keep you just a mouse click or two away from any other area get higher rankings than those that require navigation through an online obstacle course. A "5" in this category means the site was easy to use, well designed, and doesn't bog down when moving from screen to screen.
Range of Offerings: In past years, we've combined this category with others, but readers have prompted us to give it its own place in the sun again. We awarded points for equities that can be traded online, with partial points given for those that can be traded with the broker, but only offline.
Points were given for the ability to trade stocks long and short, mutual funds, bonds, simple options and complex options. A fraction of a point was awarded for other online investing opportunities, including CDs and banking services. A "5" in this category means you can execute all of these transactions online.
Research Amenities: This category measures the quality and accessibility of proprietary research, third-party research, quotes and charting. We assigned up to one point for proprietary research available only to account holders, also determining whether additional goodies are given to those with large accounts. Up to two points were awarded, depending on the third-party research available and how well it was integrated into the brokerage's site.
Quotes and charts earned up to two points also, with the higher rating going to brokers with access to real-time streaming quotes, powerful charting capabilities, and Level II quote accessibility. The brokers who received the highest points in this category gave exceptional research and quote services to high-account-balance holders.
Reports and Customer Access: This category measures the quality of portfolio analysis reporting (up to one point); the quality of tax reports available, including how far into the past transaction history is posted (up to 1 1/2 points); and the availability and quality of online and offline help (up to two points). Brokers received 1/2 point for having wireless trading access.
Online help includes live chat capability, frequently asked question files, and investor education. Offline help was assessed through the assistance of a group of friends, who made random calls to customer service asking relatively intelligent questions. (I've found that certain brokers tend to be extra nice to anyone who calls up claiming to be Theresa Carey.) We added 25% to the score in this category, emphasizing what Barron's readers want: How much am I worth, what are the tax consequences of my trades, and what can you do for me right now?
Costs: This year, we looked at commissions for stock and options trades, and margin interest rates. Higher points are assigned to lower costs. We looked at the cost of three round-trip stock trades, assuming one side of the trade was at market and one side was a limit order. Up to three points were awarded for stock commissions. We also looked at the cost of trading 10 options contracts, with one point going out in this category.
Last but not least, up to one point could be earned for lower margin interest rates on balances of $25,000 and $50,000. A "5" in this category could be earned by a broker with commissions of under $50 total for three round-trips, commissions of under $50 for 10 options contracts, and margin interest rates under 7.5%. We reduced the weight of costs in the overall ranking by 50% to reflect the importance of trade quality and service over price.
By just a hair, CSFBdirect (formerly DLJ Direct), which was on top of the heap in 1998 and 1999, returns to the top spot in 2001. Now owned by Credit Suisse First Boston following last year's acquisition, just the name, logo and colors have been changed. DLJ Direct account holders can still use their existing log-in IDs and passwords.
The easy-to-use Website gives customers access to all kinds of equities, and the research offered to high-end account holders is hard to beat. The main functional areas of the site are accessible from a menu represented by tab bars across the top, which opens up additional choices on the left side of the screen. You can trade on the Web, via touch-tone phone, using a wireless device, or by contacting a live broker for the same commission: $20 for market or limit orders.
CSFB's order entry pages haven't changed much in the last few years, but they have added the ability to view a real-time quote before placing an order. Executions are announced using the Alerts! feature, and on the order status page.
CSFBdirect just barely edged out the other Four-Star online brokers.
Customers with Windows PCs get access to CSFB's MarketSpeed software, which provides pop-up confirmation notices, streaming quotes, news, and improved charting. CSFB's lack of a Mac version, a phenomenon we've noted in the past with other direct access platforms, is a sore point with one Barron's reader, Blair Zajac.
Portfolio holdings can be viewed in real-time, though customers who don't qualify for Preferred (over $100,000), Select (over $1 million) or Active Investor (more than 48 trades per year) status dip into their quote bank to do so -- one of our main quibbles with the site. Perusing the amenities available to customers makes it clear that CSFB is looking for high rollers and is willing to spend to keep them. Account holders with less than $10,000 deposited, by contrast, don't have access to wireless trading, AssetMaster (debit card, money market sweep, etc.). A few goodies kick in when an account hits $100,000, but the best are reserved for those with over $1 million. Additional research is free, as are streaming quotes and a personal broker.
Reports detailing realized and unrealized gains and losses help investors keep tabs on portfolio performance, as well as the tax impact of trades. One helpful report is the Cash Flow summary, which estimates your projected income for the next six months from dividends, bond coupons and mutual fund distributions. Elite account holders can get additional research and discounts on commissions, but options traders might prefer a less expensive site.
Two brokers finish in a near-tie for second place. Charles Schwab's ranking comes as a surprise, given our past criticism of its labyrinthine Website with its less-than-stellar design and high commissions. The industry leader -- accounting for one out of five online trades in the latest quarter, according to J.P. Morgan -- Schwab obviously has been laboring away streamlining the site, making its wealth of services more easily accessible to account holders.
Schwab has also finally eliminated a major block to breaking into the highest tier in the Barron's rankings: overnight updating of account balances and performance reports. Trades are immediately reflected in Schwab position reports, and Schwab recently started providing real-time account balances as well. Portfolio performance reports, however, reflect the results of trades after an overnight update. High-account-balance holders get access to Schwab's Signature Services, which include additional research.
Schwab customers can trade a wide range of equities online, and futures trading is now available through a partnership with Lind-Waldock. When placing a trade of a stock held in your account, you can click on the "Trade" button from the positions report and get a pre-filled order entry screen. Active traders qualify for lower commissions, and access to Schwab's "Velocity" software.
Last year's champion, National Discount Brokers, still offers all the benefits that put it on top last year: information-packed trading screens, pop-up execution reports, real-time portfolio updates, and portfolio analysis reports that can keep the trader up to date on changes in asset values.
Investors sensitive to the tax impact of their trades will appreciate NDB's Tax Center and "Schedule D-efense," which allows them to download account history into an Excel spreadsheet, designed to make Schedule D tax calculations. NDB's "same side, same day" pricing permits multiple trades in a single stock on the same side (all buys or all sells) on a particular day for a single commission, plus $3.95 for additional trades. By contrast, several readers complained about other firms charging separate commissions when a large order is executed in multiple blocks.
Concierge customers at NDB (with over $1 million on account or 30 or more trades per month) get increased service, Level II quotes, additional research, and reduced margin rates, among other benefits. The firm recently added "NDB Speak," which lets your computer read you your account balances and other interesting information -- which you might want to forego if you trade in a not-so-private office. Another recent addition, RiskMetrics, gives indications about the volatility of your investments and of your overall portfolio.
What hurt NDB this year was the inability to trade bonds online (they're available offline only), and the relative clutter of the site itself. There's so much information available that it's often buried and difficult to find. Still, we like the ability to route an order through an electronic communications network, or ECN, and the way the trading screen is accessible from just about every spot on the site.
J.P. Morgan Online also earned Four Stars in its first appearance in this review. J.P. Morgan's Internet-based trading and advice service won't win over any Datek fans or day-trading junkies, but it might soothe high net-worth investors who want a combination of hand-holding and free rein when it comes to investment management. The site currently is in transition to version three from version two, which will combine services from the J.P. Morgan, Chase and Hambrecht & Quist, which have been merged under one roof in recent years. We got a sneak peek at the new offerings to be unveiled in a few weeks, and have based our score on the enhanced research abilities.
Morgan Online's excellent portfolio evaluator and tracking program can keep tabs on all your investments, no matter where they're held, via a Yodlee-powered account consolidation. The evaluator will give you an in-depth asset-allocation worksheet, including specific advice to rebalance your portfolio. The downside: Your accounts with financial institutions that are not linked to account aggregator Yodlee will have to be entered manually. Your J.P. Morgan-based transactions are automatically accounted for in the portfolio analysis. If any of your holdings, whether Morgan-based or elsewhere, are the subject of J.P. Morgan research, you'll be alerted to a report when you look at the portfolio screen.
You can even import your portfolio holdings into a calendar, which will display the dates of earnings announcements, stock splits, and other items of interest. The site includes a good employee stock option tracker that monitors tabs on the value of the options, and lets you set trading alerts as well. The mutual-fund screener is also excellent.
Morgan Online is not beating the drums to increase its client base through advertising and promotions. It has, however, changed its pricing structure, eliminating the annual fee of $2,500 but charging for some advice features and portfolio diagnostics. Stock trades are $30 each. The trading screens are easy to use, though they lack the ability to enter a trade from the portfolio view. Account holders can grant limited access to a financial planner, accountant or family member if they'd like to collaborate with other interested parties. |
