Headline: Merrill To Offer Trading Online For Low Fees Amid Internet Threat
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By Charles Gasparino and Rebecca Buckman, Staff Reporters of The Wall
Street Journal
At a conference in May, the chairman of online brokerage firm E*Trade
Group Inc., Christos Cotsakos, chided Merrill Lynch & Co. for failing to
understand the power of the Internet. Merrill Chairman David Komansky
held his peace, but he did remark, significantly, that if a "bunch of
yuppies" could win over investors on the Internet, so could Merrill.
Today, Merrill will show its hand. In a bold move fraught with risk,
the nation's largest brokerage firm, anchored in tradition and costly
full service, is expected to announce plans to enter the low-cost
business of online stock trading.
Merrill, whose customers pay commissions of up to several hundred
dollars per trade, will offer online trading for as little as $29.95 per
transaction, matching fast-growing rival Charles Schwab Corp. It's as if
Bergdorf Goodman started selling inexpensive merchandise in its basement
to compete with Wal-Mart.
Indeed, Merrill's decision -- one that every full-service Wall Street
brokerage firm will have to respond to -- shows just how profoundly the
Internet is transforming the competitive landscape in the U.S. economy.
Rarely in history has the leader in an industry felt compelled to do an
about-face and, virtually overnight, adopt what is essentially a new
business model.
In Merrill's case, the move is especially remarkable. It was less
than a year ago that Merrill's brokerage chief, John "Launny" Steffens,
publicly stated that "the do-it-yourself model of investing, centered on
Internet trading, should be regarded as a serious threat to Americans'
financial lives." Merrill instead found that scoffing at cyber-trading
was a threat to its own health. "There's not a (broker) at Merrill who
hasn't lost business" to online brokers, a senior Merrill executive
confides.
Internal debate raged for months before top executives agreed they
would embrace the Internet, and figured out how to do it. Only after
proponents suggested starting a separate online unit -- which would have
ended up competing from within against Merrill's thousands of
stockbrokers -- did internal critics of online service drop their
opposition to cheap Internet trading through Merrill itself.
That trading will be offered in more than one form. Another new
option expected to be outlined today is an account that will permit
unlimited free trading -- either with a broker, online or over the phone
to an order taker -- in return for an annual account fee equaling about
0.2% to 1% of the account's assets. Its minimum fee will be $1,500 a
year. This "core relationship account," as Merrill insiders call it, is
expected to include free research reports, financial-planning help and
basic banking with free ATM transactions.
But clients who want to continue to deal with Merrill as before,
advised by a stockbroker and paying full commissions, will still be able
to do so.
Merrill's new strategy is as risky as it is daring. The most obvious
danger concerns what the change will do to revenue -- how much new
business the new accounts will generate vs. how much will be lost
through much-lower commissions. Right now, online trading, like most
kinds, is booming in America. But calculations could be thrown out of
whack if the long-running bull market ends and individual investors cut
back sharply on their trading.
More immediately, Merrill's business overhaul could spark rebellion
within its army of 14,800 well-paid brokers. An internal Merrill Lynch
study, for example, suggests that brokers who are paid chiefly in
commissions might see their incomes decline by 18% initially. To offset
this loss, the company is considering issuing Merrill stock to brokers
who are hurt the most by investor switching to the low-cost accounts.
Finally, this strategy to take on the online rivals has a key
weakness: delay. The centerpiece of $29.95 trading -- also available for
phoned-in orders -- won't be offered until Dec. 1. This means that
competitors, some of whom already offer deeply discounted fees of
$14.95, $9.99 and even $5 a trade, will have time to counter Merrill's
moves before they are even fully implemented. Moreover, Merrill is
expected to require $20,000 to open these low-commission accounts. As
for the new relationship accounts that charge a percentage of assets,
they are expected to be available July 12.
But there is no turning back for Merrill, as its executives indicated
when they used the code-name "Rubicon" for their low-cost trading plans,
after the river Julius Caesar crossed on his way to overthrow Rome's
rulers.
In addressing the online challenge, Merrill faced a decision that
market leaders in business often face, although rarely with so much at
stake: At what point does one stop ignoring pesky upstarts and
counterattack -- particularly if doing that means cannibalizing one's
existing business? Responding too quickly, before a new business method
catches on, can unnecessarily damage both profits and reputation. But
waiting too long can allow the upstarts to become entrenched, as Sears,
Roebuck & Co. discovered with discount retailers and as U.S. auto makers
learned when Japanese rivals won a big piece of the American car market.
Most traditional Wall Street firms regarded online trading as a
curiosity or a small niche when it first appeared in 1994. That was when
a discount broker named K. Aufhauser & Co. executed the first trade over
the Internet, with little fanfare. Aufhauser has since been absorbed by
Ameritrade Holding Corp.
Far from a curiosity, it has led to a securities-markets upheaval, as
a new generation of investors -- attracted both to the surging Internet
and to the much-publicized returns of this long bull market in stocks --
took to cyberspace to buy and sell. Discount broker Schwab, quick to
recognize how the game was shifting, switched from its branch-office and
telephone-based order-taking to an emphasis on online trading. Its
bet-the-ranch strategy paid off, as increased volume more than made up
for lower commissions. Schwab's own stock soared, and last December its
total stock-market value topped venerable Merrill's, astonishing the
securities world.
With the Internet now accounting for 30% to 35% of all stock trades
by individuals, Merrill executives finally decided they couldn't afford
not to embrace such trading.
In moving aggressively, Merrill is seeking to act from a position of
strength rather than weakness. The firm is also a powerhouse in
underwriting, in mergers and acquisitions and in asset management.
Analysts estimate that less than $2 billion of Merrill's 1998 revenue of
$17.5 billion came from commissions paid by individual investors for
stock and bond trades.
Moreover, Merrill's brokerage business isn't shrinking but growing,
with an increase in commissions of 7% in the first quarter. Still, that
is far below the rate of growth of Schwab and other online brokerage
firms. Schwab's commission revenue surged 59% in the first quarter.
Merrill's online plans represent its biggest initiative since 1975,
when the firm unveiled its hugely successful Cash Management Account, an
all-in-one brokerage account with banking features that was widely
copied. The online move will no doubt prove a major legacy of Mr.
Komansky. In his two years as chairman, he has overseen a rapid
international expansion in various business lines, but he came to
realize that the growth of Merrill's core brokerage business was
threatened if it took too slow an approach to the Internet.
Merrill's multitiered strategy aims to offer something for everyone.
Customers who aren't comfortable with trading online still will be able
to have their stockbrokers handle things and give advice, although
Merrill expects that business to shrivel over time.
ML Direct -- Merrill's internal name for the account with a $29.95
base commission for trades of up to 1,000 shares -- will compete with
the discount brokerage business, online and otherwise. Its customers
will be able to get the same commissions on phone orders by calling an
order-taker at a Merrill customer-service center. Though some rivals may
charge less, Merrill believes investors won't mind paying a bit more for
its reputation, combined with some additional services such as free
research reports.
But Merrill hopes that most customers will choose the new
relationship account, offering unlimited free trading for an annual fee
based on the assets held. (If customers do an extreme amount of trading,
Merrill reserves the right to tell them this isn't the account for
them.) Some existing fee-based accounts are to be converted to the new
model. Clients will have access to a broker and such other services as
mortgage preapproval.
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