A significant shift in the stock-trading market close to 2019 was the phasing-out of the commission on trading. The domino effect started with a few platforms and later into a widespread change. Today stocks and options trading is faster, easier, and cheaper.
As of 2020, the application of commission free trading is accessible to all platforms. What seemed like an impractical way to run business a decade back, looks like the only way to manage a stock-account today.
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If you are new to trading stocks, let’s quickly brush through the basics. Every company that goes public is listed on the NYSE or the New York Stock Exchange.
The general public can buy shares or “stocks” of these companies and own a very small chunk of this company in the form of these stocks. This is a way for the company to raise capital.
The stock market is the central location that connects buyers and sellers. A buyer can pick up stock at a particular market price and hold it as an investment. More active traders wait for a price spike and then sell these stocks back to the market, making a profit in the process.
What Is A Commission?
To execute a trade or to buy a stock, the user will need a trading platform or a broker. This is the link between the buyer and the market.
They are platforms that work as an intermediate to pickup a buy-order and connect with sellers on the market looking to sell. They also hold your stocks in an electronic vault until it’s time to sell.
For the above task, these platforms (until Oct. 2019) would charge a small amount as a fee. This fee was called a commission or a brokerage.
This amount could be as between 1%-8% of the trade value (some even reported to be as high as 40%). This means, if you were to buy a single stock, you would pay a premium price because it includes a mark-up brokerage value.
How does Zero-commission work?
Suppose we were to throw the spotlight on no-commission trading. We look at it from two points of view — the broker and the investor.
To the broker, a commission-free trade means an investor will merely use the platform to process a deal, buy stocks, or invest in options, etc. This process is done without having to give a slice of the cake or an added fee. The broker will act as a platform to make the trade, and not as a middle-man.
While this might seem unfair to the broker at first, the truth is that the brokers do not make a substantial income from commission. A study shows that only 20% of all earning are in the form of commissions.
These companies do a lot more than buy and sell stocks. They also provide other services in the financial sector.
For example, a broker can make their revenue from domains like annual interests, interest on margin loans, custom made investment plans, etc. Even an entity as small as a ‘bank-deposit account fee’ acts as a disguised source of income.
This quality also helps the brokers draw a more prominent clientele, which will eventually lead to more revenues. An investor is always inclined to pick a platform free from commissions. Additionally, most platforms still apply a fee on other forms of trade, like options trading or phone-assisted trade, etc.
One of the primary uses of a trading platform is also a ‘market watch’. This is the page on your platform that provides an overview of all the stocks and their fluctuations. With the innovation in free-APIs, users can also build their customized front ends and eliminate the need for a market watch.
One can create a custom visual representation using an API with python correlation for your portfolio if you know and understand programming. These will draw market data and formulate a custom table for you.
Another way broker makes money is as ‘Market Makers.’ They take your orders and connect them with sellers. In the process, there is a small difference in the stock price, which remains with the broker.
This small amount is a few cents or a faction of a cent. While it’s a small amount, over millions of trades, it adds to a significant earning.
For the investor, the benefits of zero-commission trading are quite apparent. If your broker is not billing you an additional amount for each trade, you will pay lesser in fees and have more capital to trade and buy stocks.
Let’s take an example to understand this better. If you, as in investor, are to buy a single stock of Microsoft Corporation at $200. Suppose your broker is charging you $6 as a trading commission. This means you will be spending close to 3% additionally with each purchase, which seems like a highly impactive alternative.
Over time these commissions will add up to over thousands of dollars. Even if you were to make a substantial profit with a spike in stock price, you would still be losing a small amount of this in the form of fees.
The only disadvantage the market has seen with zero-commission trading is the lack of smart trades. When a user is not paying a commission to a broker, they tend to move and sell stocks at a much higher pace, with improper planning and lack of judgment. So be cautious about your trade, and don’t get taken away by the currents of fee-less trading.
The benefits of commission-free trading have encouraged more people to invest their bucks in the stock market. If you are looking to do the same, you can use one of the processes we discussed. Use a free-API to set up a watchlist, this will draw real-time information on stocks, and most of these services come with many layers of protection.
The other option is to find a trading platform that has its own front-end and learn to use them. The most crucial factor to consider is that the trading market is not free of risks. If you are new to the market, play your cards right. Invest small, and make incremental progress.