The Zero Fee Reckoning
Charles Schwab and TD Ameritrade cold slashed trading commissions from $4.95 to $0 in an aggressive rebuttal against discount brokerage disruption.
Needless to say, markets went crazy and all brokerage stocks were trading lower. But the message was loud and clear. Zero cost trades is the new gold standard. All trading is now discounted. The timeline of these events will likely mark a monumental shifts in the consumer fintech — for better, or worse will be seen but a few immediate consequences can be imagined.
#1 It sucks to be Robinhood right now
Pack leader Robinhood will be under tremendous pressure. The company last raised money at a whopping $7.6 Billion valuation, with barely 6 Million active users (last reported in 2018) while still burning boat loads of cash. In comparison, erstwhile incumbent and now turned competitor Schwab has 12 Million users, brought in $10.6 Billion in sales over the last twelve months and was profitable with almost $3.8 Billion in net income over that time. This makes Robinhood look like an over funded side project.
After losing its low-cost strategy the company will have to go after other levers of differentiation and growth. Perhaps the fact that it runs a digitally native operation with low overhead would come to rescue in times like these but that is wishful thinking. It could definitely leverage its appeal with millennials through differentiated research and content (recent acquisition of MarketSnacks was geared towards this)and a deep tech bench that can enhance user experience to make the product 10x better but I doubt that would come cheap.
#2 Free trading is a feature not a product
Moreover, commission free trading is becoming more of a feature than a product. Many consumer finance platforms (payments, lending, advising) reaching saturation are looking at zero commission trading as a lever to boost growth.
Just recently had SoFi announced free stock trading on its roboadvisor. Soon followed by Square’s Cash App. Public.com, WeBull, Firstrade, Stash etc. are other famous competitors. I won’t be surprised if Betterment and Wealthfront come out with their own service soon. Differentiation in such a competitive market will come expensive.
#3 Startups better have alternate revenue streams
The ripples will certainly be felt far beyond Robinhood, with a push for all consumer investing fee to trend towards zero in order to remain competitive and appealing. Charging consumers as the sole revenue strategy will be scorned upon by investors and alternative revenue streams will be key to attractive valuations during future raises.
#4 What is good for consumers?
The zero commission model itself raises questions. While it might seem like consumers are saving, in the long run the reality is different. Users are incentivized to trade more, which history clearly suggests is not a profitable endeavor for an average investor. One could even argue that a $5 fee is in fact in the interest of consumers considering the monetary barrier it puts before any transaction, discouraging over trading. I expect this to be a topic of deeper interest for academia and journalists very soon.
A discount brokerage is a marketing operation which both does a lot of uncompensated education about investing and retirement savings and also spends a metric shedload on advertising, partially underwriting substantially all media which touches financial topics (and a lot of higher-end lifestyle media besides). — Patrick McKenzie, How discount brokerages make money?
#5 New dawn for consumer fintech startups
If we can be certain about anything here than it is the fact that consumer fin-tech is HARD. Acquisition costs are skyrocketing, users are overwhelmed, differentiation is limited and industry incumbents under pressure are showing penchant for self-cannibalizing aggressive moves.
The consequences will particularly be dire at late stage venture, where investors are reeling from the failed We IPO and a few other busted names. Expect the scrutiny to be high and freebies to be restricted here on. The consumer fintech startup bar is now set a few inches higher.
However, the good thing is that the likely cash crunch and overall cost increase will drive ventures to be cash flow positive early on, as well as be more innovative with features. Some might even try challenging and expanding regulatory frameworks that have been limiting investment management at scale.
Conclusion
Consumer investing is a thin margin business and scale is the name of the game but cash burn in exchange for unprofitable growth is no longer a viable strategy. Entrepreneurs in the arena will be forced to get more innovative with product, marketing and operations to build cash flow positive lean business. And as far as the brokerage business goes, it no longer will be just about trading. Differentiation will be powered by value-add services like digestible research, content and investor education.
Feel free to reach out to me on Twitter with any thoughts and ideas.
