Stock brokers play an integral role in facilitating investments and the management of portfolios for investors. They make money by levying commissions and trading fees for their services.
As an investor, it can be helpful for you to understand the different types of fees charged by a stock brokerage, allowing you to make more informed trading and investment decisions.
In this guide, we explain the roles of stock brokers, the types of fees that stock brokers charge, how zero-commission brokers make money, and more.
What Does a Stock Broker Do?
Money brokers act like a matching engine, connecting traders and financial markets. They match and execute orders for buyers and sellers. With a traditional broker, traders can access financial assets like stocks, bonds, and other securities.
Whether you are trading through a digital platform or an advisor, a stock broker's role determines the different fees you pay. Here are the different types of brokers
They offer a large assortment of financial services ranging from account management to tax consulting. High-net investors use these brokers for their premium service, but fees can be substantial. Fees include management and annual fees.
Discount Stock Brokers
These brokers provide low-cost services to cost-conscious traders. Unlike full-service brokers, online discount brokers let investors manage their own portfolios. Fees include commissions, inactivity fees, monthly/annual fees, overnight fees, and transfer fees.
Direct Access Brokers
They operate proprietary trading platforms that help investors access financial markets directly. They cater to professional and advanced traders who need full exposure to the market. Fees include commissions, platform, inactivity, maintenance, and market insight/data.
Types of Fees that Stock Brokers Charge
Commissions and fees are the most significant sources of revenue for brokers. Let’s find out the different kinds of fees that brokers charge.
Stock brokers may require you to pay a small percentage or a fixed fee for the trade value or volume. Brokers can charge anything from 0.01% - 1% when you open or close a trade. These fractional percentages may look small but add up quickly, especially when trading multiple times or in large amounts.
The rise in digital brokers has led to a surge in zero-commission trading. Investors can now avoid paying commissions by using these zero-commission brokers. For example, platforms like eToro and Robinhood don’t charge any commissions.
Interest rates are a significant revenue stream for brokers. Brokerages hold lots of cash balances in traders’ accounts.
Discount brokers often offer interest-bearing accounts to their clients. The broker can put the money in a low-risk market fund or government securities to generate income. From this investment, the broker earns interest.
Stock brokers also generate income from investors who buy shares on margins. The interest comes from lending the investor money for investments.
Premium Services Fees
These are additional fees that are paid for non-standard services. Premium services include software, expert advice, and early access to IPOs. The payment can be charged monthly or annually. For example, the IG broker charges $40 for using ProRealTime charts.
Other money premium services center around risk management. For example, traders speculating on stock prices can use guaranteed stops to protect their positions against slippage. A stockbroker may charge you a premium of 0.3% to enforce a guaranteed stop on a position you placed against Apple stock.
Managed Services Fees
These are fees that brokers charge for managing the portfolio on your behalf. Some brokers charge a percentage of the total value under management.
The fee covers the cost of a personal manager, market insight, portfolio management, account rebalancing, and other services.
Account Inactivity Fees
Some brokers charge for inactivity after a specific period. For instance, eToro charges $10 monthly for accounts that have been inactive for one year.
Deposit and Withdrawal Fees
These are fees for moving money in and out of your brokerage account. Most brokers have scrapped these fees, however, some, like eToro, still charge withdrawal fees.
Brokers can make money from the difference between the price at which they buy a stock from a seller and the price at which they sell it to a buyer. This difference is known as the bid-ask spread. Brokers can offer a fixed spread or charge a percentage.
For example, assuming the bid price for stock ABC is $50, and the ask price is $50.30, the spread is $0.30. If a trader deals with 1,000 shares of the stock, they will pay $50,300.
The seller would, however, receive the bid price ($50,000). The broker facilitating the trade would make the difference between the bid and ask ($50,300 - $50,000), which would be $300.
How Do Zero Commission Brokers Make Money?
The liberalization of the public markets and the emergence of digital-led stock trading platforms has led to a sharp rise in the number of brokers offering commission-free trading.
With the loss of commissions, brokers have partnered with liquidity providers to find alternative revenue streams. During trading sessions, the stockbroker directs traders to specific providers in exchange for commissions. The compensation that the broker receives from the liquidity provider in return for routing orders to them is known as payment for order flow (PFOF).
Where Do Stock Brokers Make the Majority of Their Money?
Different types of stock brokers use different pricing models. Full-service stock brokerages mainly depend on account management fees because they deal with high-net clients.
Discount and direct access stock brokers generate revenue through commissions, premium services, spreads, inactivity fees, and other fees.
The advent of fintech apps for stock trade has also led to price evolution. Zero-commission trading platforms are now offering services without commissions. These stock brokers replace the commission revenue with payment for order flows.