Demystifying the Economy | How does a commission-free broker generate his income?

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Posted at 9:00 am

Richard Dufour

Richard Dufour
The press

Recently, online brokerage firms offer to conduct transactions for the sale or purchase of securities for free. These companies are certainly not operating at a loss. It would be interesting to know where they get their revenue from if they offer this service for free.

Jacques Larose

By the turn of the 2000s, fees charged by retail investors for buying and selling stocks ranged from $25 to $40 per transaction, depending on the discount broker used.

Prices could even go as high as $70 per trade if traders traded in person over the phone with direct support from a representative.

Since that time, the popularity of independent investing has exploded and a major trend, particularly from the United States, has allowed traders to benefit from ever lower transaction costs.

An unprecedented enthusiasm for online brokerage has also been seen during the pandemic.

For example, in August of last year, National Bank Direct Brokerage became the first broker affiliated with a major Canadian bank to introduce zero-commission pricing.

The Desjardins group’s Disnat daughter followed with similar prices the following month.

However, not all transactions can be carried out without commission. The main trades, such as stocks and exchange-traded funds (ETFs), are commission-free, but there are fees when buying options or buying fixed-income securities, for example.

The standard in the United States

In the United States, where most online brokers are now commission-free, one of the main ways to make their trades profitable is by selling buy or sell orders to third parties who execute them Payment for order flowand it’s a practice Robinhood is known for, points out Julien Brault, CEO of Hardbacon, creator of the personal finance app of the same name.

In Canada, this is an illegal practice. Commission-free brokers are therefore dependent on other sources of income.

Julien Brault, CEO of Hardbacon

For example, low-commission brokers associated with financial institutions can earn income from annual fees, inactivity fees, margin accounts (interest on cash or stock loans), and currency conversion fees.

You should also know that online brokerage is not a relatively important activity in the overall operation of a large financial institution, and Julien Brault does not believe that these fees are enough to make an online broker profitable.

According to Julien Brault, when they offer brokerage services at reduced commissions, the big financial institutions do so more to maintain the relationship with the customer than to make a profit.

“Commission-free mediation is a strategy of loss leader for banks and financial groups like Power Corporation, which is notably behind WealthSimple,” he says.

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