Discount Brokers: Low Prices Are Only the Beginning
In the old days, before the advent of discount brokers, the investing world was served by "full-service" brokers, such as Smith Barney or Merrill Lynch (which have since been gobbled up by other financial-services companies). They provided a wide variety of services and charged lavishly for them, with simple stock trades often costing more than $100. The investing world has changed, though.
Enter discount brokers
Full-service brokerages pride themselves on offering their clients personalized investing advice. That is valuable, in theory, but the reality is that many brokers haven't necessarily made recommendations in their clients' best interests -- indeed, many have left their clients significantly worse off. Not all brokers, after all, are brilliant at investing, and many have suffered from conflicts of interest, such as collecting commissions from sales of certain investments. Their firms can profit more if they get their clients to trade frequently, too, as they charge fees for each trade.
Discount brokers set out to change this status quo, and over the past several decades, they've ushered in a new era of stock trading. Initially, discount brokers offered deeply discounted trading commissions and few other bells or whistles. They appealed to investors who made their own decisions and didn't seek the advice of professionals.
Over time, though, the differences between full-service and discount brokers began to dwindle as discount brokers began adding more and more services. Many people don't even refer to them as discount brokers anymore, as they're in many ways simply less expensive versions of traditional brokerages. (At the same time, some full-service brokerages have become more discount-broker-like, shrinking their fees and creating online trading platforms to permit clients to place their own orders.)
Here are some of the services that many well-regarded discount brokerages offer:
- Low-price trading commissions, typically $10 per trade or much lower
- Online trading as well as broker-assisted trading
- Local offices for those who like to conduct business in person
- Mobile services, such as trading
- Banking services, online or offline
- Mutual fund investing (many brokerages offer access to hundreds or thousands of funds)
- Exchange-traded fund investing, with many offered free of commission
- Dividend reinvestment
- Options trading
- Investing with margin
- Research reports, created in house or by respected third parties
- Stock research tools
- Access to financial advisors and portfolio consultations
- 24-hour customer support
Not every discount broker will offer every service above, but most will offer more than a few. Some cost extra, but affordability is always kept in mind.
To appreciate the difference between full-service and discount brokers, imagine having a $300,000 investment portfolio. If you have a "wrap account" with a full-service brokerage, you might be charged an annual fee of between 0.75% and 3% of your assets in order to have the brokerage offer advice and manage your accounts. That amounts to between $2,250 and $9,000 per year. If you use a discount brokerage instead, you'll likely pay no annual fee, and if you place four trades per month at, say, $7 per trade, that will cost you $336.
A decade or two ago, you might have stuck with full-service brokerages if you wanted more hand-holding and personalized advice. But today, many discount brokers offer that, too, at far lower costs. If you're not using a good discount broker, you should consider doing so.
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