Robinhood and The Future of Zero Commission Trading

By, Brett Scully

Robinhood, once known as the kingpin of discount brokerage, woke up to quite a market disruption earlier this month. Charles SchwabTD Ameritrade and E-Trade, three massive trading platforms, all dropped commissions on stocks, options and ETFs to $0.00.  This news brought massive declines in each company’s stock prices of 12.0%, 28.0% and 19.0% respectively.  Such a transition seems great for consumers, yet for many, could be a poisoned chalice filled with more frequent, higher risk trades.

Robinhood, the first U.S. brokerage to successfully target the intimidated, beginner investor with zero commissions and an intuitive interface, saw massive growth from a $1.3 billion valuation in 2017 to upwards of $8 billion in 2019.  With such growth in two years, it’s clear as to why other brokerages followed suit. Without this pricing advantage, Robinhood lacks many of tools and services offered by the bigger players.  However, without Robinhood going public, it’s difficult to truly measure how much business they’ve lost or may lose from this change.

In response to these market changes, Robinhood announced a new debit card that offers 2.05% interest on all uninvested capital.  As commissions no longer offer an ability to differentiate in this ever-growing competitive market, how far corporations will go to entice you to trade with them is unclear.

Now, it made sense that Robinhood was the cheapest brokerage due to the lack of other features they offered.  That being said, having these feature-packed, previously expensive brokerages like TD Ameritrade offering the same price, means a lot more opportunity for more frugal investors.

With all these positives that come with lower commissions, also comes with the adverse incentive of being more likely to make more trades.  On average, the typical trade from a non-professional trade is a bad one.  Reducing that barrier of entry to make trades will often cause more people to lose money, even if they’re spending less on each individual trade.

Although unclear, the losses that these large brokerages are losing in cutting commissions will likely be covered in some way.  Of all of the recent zero commission platforms, Ameritrade is expected to lose the highest percentage of their revenues of about 15.0%, with about 8.0% for Charles Schwab, and 11.0% for E-Trade.  With losses in revenues often comes new monetization strategies; nothing is ever truly free.

As for Canada, the move to zero commission platforms remains in its infancy.  With Wealthsimple introducing the first Canadian zero commission trading app Wealthsimple Trade back in August 2018, it’ll still be a few years before large banks follow suit given that banks have only just recently broke the $10.00 mark.

At the end of the day, competing in commission pricing has become a strategy of the past; expect brokerages to begin offering more for value to remain competitive.  With Robinhood’s new 2.05% interest rate precedent, it’s expected that many non-bank trading platforms will begin acting like one.  Most brokerages and banks make the majority of their money simply from you holding your money with them, and that’s what they’ll continue to push for.

As service offerings become homogeneous and value-added enticements become infeasible, the future of brokerage will likely be driven by two things: marketing and economies of scale.  As long as the top dogs continue to be able to match offerings of smaller competitors, sheer volume and better insurance will make competing at a cost-effective level incredibly difficult.

Featured photo by Austin Distel.

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