Changing Business Environment Likely To Be A Boon For Schwab and Ameritrade Despite Zero Commissions

Charles Schwab (NYSE: SCHW), TD Ameritrade (NASDAQ: AMTD), and E-Trade (NASDAQ: ETFC) saw their shares fall 10%, 25%, and 16%, respectively, after Schwab eliminated trading commissions earlier this week – a move that was replicated by its peers within days. While the loss of a revenue stream is definitely bad news for the largest brokerages, a key thing to remember is that trading commissions are not the main revenue source for brokerages. In fact, as we detail in our interactive dashboard comparing Charles Schwab vs TD Ameritrade vs E-Trade, the share of trading commissions in the top line of these brokerages is roughly the same as the percentage decline in share value as detailed above.

Share of Trading Commissions Have Been Declining

• Since the disruption by Robinhood in 2013, trading commissions of incumbents have been declining steadily due to stiff competition.
• In 2015, the share of trading revenues for Schwab, Ameritrade, and E-Trade was 14%, 43% and 31% of the total revenues, respectively.
• This share fell to 7.5%, 36% and 17% for Schwab, Ameritrade, and E-Trade, respectively, in 2018.
• Losing a sizable revenue source, such as trading commissions, is a definite blow to near-term earnings and shareholder returns
• But we believe that the growing asset custody business is likely to have a positive impact in the long run.

Custody Business Likely To Grow For All Brokerages

• Schwab has been a leader in asset custody business with $3.3 trillion of client assets and nearly $887 million of fee-earning assets (comprises of money market funds, Schwab ETFs, and mutual funds) in 2018.
• Since 2015, Schwab’s asset management fees increased by $579 million, making up for the declines in trading commissions despite a significant number of zero commission proprietary ETF offerings.
• The growth in Schwab’s investment product income has primarily been due to its long-standing relationships with registered investment advisors (RIAs).
• Moreover, TD Ameritrade also entered the asset custody business in 2017 with the acquisition of Scottrade.
• In 2018, TD Ameritrade’s assets under custody stood at $250 billion, with an average custody fee comparable to Schwab.
• Subsequently, E-Trade acquired Trust Company of America in 2018 and gained nearly $18.3 billion in custodial assets.
• Custody business provides a much stable source of income for brokerages as it is widely associated with macroeconomic growth. For Schwab, it contributed nearly 32% of its total revenues in 2018.
• Per the report Evolution Revolution, broker-dealers are custodians of nearly two-thirds of assets controlled by RIAs.
• A strong broker-dealer presence in asset custody business and the growing RIA market is an opportunity for TD Ameritrade, E-Trade, and Schwab.

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