It’s not all that long ago, 20 years-ish or less, that the majority of stock market transactions were still being executed over the telephone or by post. In fact, with many active stock market investors in their 50s or older, some may well have started their portfolios in that way and still remember receiving share certificates through the post. The late-Nineties and Noughties brought with them the mainstream internet age and with it online stock brokers.
This heralded a period during which the not insignificant commissions that had been habitually charged on every transaction by stock brokers and financial advisors starting to be squeezed and replaced by transaction fees and annual account administration charges. Over the last decade or so increased competition has also seen transaction fees and admin/management charges drop or at least be justified by the provision of impressive digital platforms including value-added resources such as market data and investment research and analysis.
The last few years have seen the entry of low cost stock brokers to the retail online stock trading market. Dutch company Degiro arrived in the UK in 2015 with £1.75 + 0.004% per transaction. No frills online stock brokers like Degiro can be roughly compared to the budget airline industry. They will get you from A to B perfectly satisfactorily but don’t expect a sandwich and a glass of wine, or investment research and fancy dashboards. Degiro also doesn’t yet offer ISAs and SIPPs, which has limited its traction so far in the UK with most retail investors holding at least part of their portfolio in these tax-efficient vehicles.
Shortly after their launch, Degiro made the bold claim that the company would soon be able to offer fee-free online stock trading. This was to be made possible by the caveat that the online stock broker would be able to lend all shares bought fee-free on its platform to other clients, potentially for short-selling positions. However, a couple of years later and the promise Degiro initially seemed to embody has lost some of its shine. The fee-free model is yet to have been delivered upon, though users do have one free ETF transaction per month from a selected list of LSE-listed ETFs, and ISA and SIPPs are still not available. Not to be overly critical, it’s still a very cheap model that offers great value.
However, Degiro have been beaten to the punch. The recent announcement that UK-based Freetrade will launch a fee-free online stock broking platform before the end of the year means investors will be able to choose from 3 such providers. iDealing, another UK-based platform, launched commission free trades for Netherlands, Belgium and France-listed Euronext shares, though trading LSE-listed shares still comes with charges. Trading 212 also launched a fee-free model in June this year, with over 2000 securities including stocks listed in London, the US and on some European exchanges, plus a selection of ETFs and Investment Trusts available. There is a limit of 10 trades per month with a maximum per trade value of £10,000 but the broker believes that 90% of its clients will fall into this band.
Freetrade will be the most recent arrival at the party and clients with portfolios of up to £10,000 will not be charged fees on transactions. The obvious question is how online stock brokers who do not charge for transactions make money? Both Freetrade and Trading 212 see their fee-free market entry point as one that mirrors developments elsewhere in the tech world. Both companies have described their service as a ‘freemium’ model much like that of business models in other markets such as Spotify and many mobile apps. Both companies have also stated that with the cost to them of facilitating a trade somewhere around £1, they are able to support a small loss per client only using the free service in the interests of building up user base. Paid for add-ons such as robo-advisory portfolio creation, ISAs, SIPPs, live market data and research is where revenues will, theoretically generated.
Freetrade’s stated aim is to target millennials, a group who are accustomed to the freemium pricing model and a group the company’s founders believe have found themselves priced out of share ownership. As part of their drive to onboard ‘micro investors’, usually younger individuals just starting out in investing, Freetrade plans to introduce ‘fractional share dealing’ to the UK market. A handful of companies in the US already offer fractional share dealing, which allows investors to invest in less than a full company share. Fractional share ownership means that even investors with very low-value portfolios are able to achieve real diversification and not be overly reliant upon the fortunes of just a few companies.
Freetrade are also working on an Uber-esque platform for IFAs (Independent Financial Advisors). The IFAs will be able to provide investment advice directly through the app and investors will have access to affordable professional advice. The ‘advice gap’ has been an issue in the UK since the Retail Distribution Review banned IFAs from making commissions on their clients’ investments and forced them to charge upfront fees. If Freetrade’s IFA platform is done well it is sure to be replicated by other online stockbrokers. This will both give IFAs cost-effective and convenient access to large numbers of potential clients, allowing them to offer more affordable prices, and give retail investors better access to affordable qualified advice. Win-win.
The likely future of the online stock trading market in the UK will almost certainly see more freemium models and further cost squeezing for their competitors. Freetrade’s addition of fractional share trading and the IFA platform will be particularly interesting and could really disrupt the market. Hopefully they will be able to follow through on these features and not let the promises ring hollow a couple of years from now as Degiro’s promises to introduce fee-free transactions, ISAs and SIPPs. Freetrade have already managed that so their ability to bring a product to market already appears superior.
There will also surely still be a role for premium online stock brokers who continue to charge transaction fees but include value-added resources and tools. The online stockbroker market is simply diversifying and different categories of investors need and want different kinds of stock brokers, range of services and price points. The outlook does, however, look good for investors and online stock trading costs can be expected to continue to fall across brokers targeting different investor profiles. Competition is a good thing in any market as is technological innovation and different approaches to the same service.
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