More consolidation coming in online brokerage market

Firms need large cash on hand to make up lost commission revenue

The $26 billion merger of Charles Schwab and TD Ameritrade is only the beginning of consolidation in the online brokerage market, according to a new report from Wakefield Research.

After nearly every major brokerage eliminated trading commissions following Schwab’s move in October, firms will increasingly look to make up lost revenues by investing retail investors’ cash. This business model requires a large volume of customers, leaving consolidation as the only viable path forward for many firms.

Only a few firms are likely to remain after the M&A dust settles, said Wakefield Research senior partner and author of the report Paul Bragan.

“The market is going to incentivize and favor and push for consolidation because when commissions are no longer a revenue stream … it favors large cash on hand,” Mr. Bragan said.

Fidelity spokesman Robert Beauregard agreed with the report’s conclusion that more consolidation will happen.

“Revenue streams are getting harder to come by in the online brokerage world,” Mr. Beauregard said.

However, he says Fidelity doesn’t agree that driving scale in order to increase cash holdings is necessarily a good outcome for end investors.

“It might make financial sense for the firms to consolidate, but for the end investor, are they really going to see an improvement in their experience?” Mr. Beauregard said, adding that Fidelity’s position as a private company means it doesn’t need to make up the lost revenue to appease shareholders. Instead of sweeping cash into a low-yield bank account, Fidelity defaults cash in brokerage accounts into a money market fund, Mr. Beauregard said.

Beyond cash sweeps, which the Financial Industry Regulatory Authority recently added to its list of examination priorities, financial advice for a fee is going to be increasingly important for online brokerages as a source of revenue, Mr. Bragan said.

He predicts Schwab and Fidelity Investments will likely emerge as dominant players, as both already have significant scale as well as strong service offerings that generate fee-based revenue.

For example, Schwab now charges a flat $30 monthly fee for unlimited access to a financial adviser on its digital platform, Schwab Intelligent Portfolios. According to Backend Benchmarking’s report on robo-advisers, the firm attracted $1 billion in the second quarter of 2019, with 37% coming from new clients.

Firm that were the most heavily reliant on trading commissions are the most vulnerable to consolidation, Mr. Bragan said. Beyond TD, he said E*Trade is a firm to watch.

The new market will also make it difficult for startups like Robinhood. Robinhood declined to comment, and E*Trade was unable to comment by press time.

“If you can’t compete on price, it makes it harder fort new entrants,” Mr. Bragan said. “There’s a greater barrier for new [companies] to come into the market.”