The trade commissions grab headlines but ETF cuts are a glimpse of the future

February 3, 2010 — 5:25 AM UTC by Brooke Southall

1 Comment

Here are some points to take into consideration when analyzing Fidelity’s move to chop online equity commission to a flat rate of $7.95 from a high of $19.95 a trade, and its announcement that customers will be able to buy 25 iShares exchange-traded funds without paying commissions.

Fidelity partnered with with ETF manager BlackRock Inc. to develop the latter program.

1.) These free ETFs are a sign that eventually both Schwab and Fidelity will offer ETF supermarkets, predicts Tom Lydon, publisher of ETF Trends. Schwab’s mutual fund supermarket, OneSource, is highly popular with financial advisors because it enables them to buy and sell funds without paying a fee. Fidelity and TD Ameritrade have no transaction fee [NTF] platforms of their own. Schwab charges mutual fund companies .4% of assets for funds purchased by clients over its platform. Most competitors charge mutual fund companies at least .35% for this service.

2.) As mutual fund companies do, ETF providers will subsidize Fidelity, Schwab and their competitors so that they can afford to offer buying and selling of certain ETFs commission free, Lydon adds. The ETFs offered will have already be generating substantial enough revenues that they will be financially strong enough to pay to be on these brokerage platforms, he says. In addition, the custodians will be able to generate revenue from securities lending of the ETFs on their books.

3.) Unlike the series of price cuts that Fidelity announced to RIAs in September, the new round of cuts announced yesterday are coming on the retail side of the business. But the leaders of Fidelity Institutional Wealth Services made clear that they applied to RIAs, too.

“Prices should not be a barrier when you choose to do business,” says Ron Fiske, executive vice president of Fidelity Institutional Wealth Services. “You don’t have to have that discussion with clients about what the right forum is to do business.” Fiske says that this is a significant point because many RIAs have clients with assets on both the retail and institutional platforms at Fidelity.

4.) The combined market capitalization of the 25 ETFs that Fidelity is offering to trade for free is $212 billion compared roughly $550 million in total assets for the eight ETFs that Schwab offers, according to Morningstar. No single iShares offering on the list has attracted less than $765 million in assets, according to the fund tracker.

5.) On the other hand, Schwab ETFs have some of the lowest expense ratios in the industry and iShares tend to be on the higher end. See: Why Schwab’s move into ETFs may be an even bigger deal than it appears

6.) Customers trading through Fidelity’s automated service telephone will pay an additional $5 per trade, while those placing trades through a representative will pay an additional $25.

7.) ETFs are a big deal to RIAs. 50% of financial advisors who responded to a survey for a Morgan Stanley report published yesterday say that they plan to add to their ETF positions in 2010 and 42% say they added to ETF positions in 2009.

8.) Though Fidelity and Schwab may not do much damage to each other with these withering price cuts on ETFs and other equity trades, it may be a death knell for upstarts — even if they already significantly underprice these providers, according to Sean Cunniff, research director of the brokerage and wealth management service for TowerGroup of Needham, Mass. “Look at what you get at Schwab and Fidelity versus the small one,” he says. “It’s a whole different ball game.”

9.) TD Ameritrade does not plan to announce a cut to its $9.99 trades citing the lack of impact from Schwab’s earlier price cuts. The company also does not rule out the possibility. There was a time when cheap trades were a big part of its value proposition.

Mentioned in this article:

Morningstar, Inc.
Top Executive: Joe Mansueto

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Stephen Winks said:

February 3, 2010 — 5:46 PM UTC

Now that advice is no longer incidental to trade execution, but trade execution is now incidental to advice, Schwab has started a chain reaction of events which will have a profound im pact on the industry going forward as evidenced by Fidelity following suite. This is just the beginning of what is comming, that will permanently change the industry’s competitive landscape.

Schwab’s move to waive ETF cost was a conscious and brilliant move to accelerates the industry’s move to address and manage investment and administrative values in the best interests of the consumer from the industry’s historical focus on commission sales of investment products.

The difference is, as the industry belatedly focuses on cost and the effectiveness of portfolio construction, it will gravitate toward (1) faster (real time transparency), (2)better (a much more disciplined approach with far superior results) and (3) cheaper (overlay management, real time buy/sell manager research and the tactical discipline to proactively manage risk exposure as market conditions change, all for less than 20 bps) approach to portfolio construction that will (1)better compensate advisors,(2)provide superior results at a (3)far lower cost consistent with fiduciary duty.

Doing more with less works. How would you like to make more money, better serve your clients with superior results and fiduciary standing and do so less expensively than a packaged product? It’s comming.


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