I originally penned this for an update to Macro Trend Investor in April 2014, but the points are as relevant today as they were when I wrote it.
This brings me to a topic that I get asked about regularly: choosing the right broker. With so many low-cost online brokers offering such a wide array of investment options to choose from, it’s easy to get overwhelmed. After a while, they all start to look the same.
I can’t tell you what the “best” broker for you will be because much of your overall trading experience will be determined by how well you like a given interface—a matter of style over substance.
But I can certainly give you some guidelines of what to look for. I can also tell you which brokers I use personally and what I like—and don’t like—about each. With that said, let’s jump into the list of what to look for in a broker.
Cost
I mention cost first because this tends to be the most obvious differentiator, and it’s easier to measure than some of the other criteria. But don’t think for a minute that I’m minimizing the impact of trading costs. Trading commissions are frictional costs that can massively erode your returns over time. So long as you’re not sacrificing execution quality (which can be more expensive to you than explicit trading costs if you’re not careful), you want to pay the lowest commissions possible.
This is my general rule of thumb: If you’re paying more than $10 per trade, you should look for a new broker. If you do a modest amount of trading (1-5 trades per month) it won’t make a meaningful difference to your returns if you’re paying $10 per trade or $7. But it will certainly make a difference if you’re paying “full service” commissions, which can be multiple hundreds of dollars per trade or more.
The only exception here would be if you full-service broker is providing you with investment ideas and research that would justify the prices. But even here, you need to ask why your broker hasn’t followed the industry trend and reorganized as a registered investment advisor, which comes with higher fiduciary standards.
Some discount brokerage houses charge less than a penny per share. But be careful here, because sometimes those low rates come with strings attached, such as minimum trading requirements to avoid inactivity fees. These conditions are not necessarily deal breakers, mind you. Just something to consider.
The table below lists some of the most popular brokerage options and details their trading costs, the availability of automatic dividend reinvestment, access to foreign markets and my somewhat subjective evaluation of customer service and ease of use.
| Broker | Cost per trade, U.S. stocks | Dividend Reinvestment | Access to Foreign Markets | Customer Service / Ease of Use |
|---|---|---|---|---|
| E*Trade | $9.99 | Yes | Yes | Fair |
| Fidelity | $7.95 | Yes | Yes | Fair |
| Interactive Brokers | $0.005 per share, $1 minimum | No | Yes | Below Average |
| Merrill Edge | $6.95 | Yes | ADR only | N/A* |
| Charles Schwab | $8.95 | Yes | Yes | Good |
| Scottrade | $7.00 | Yes | ADR only | Good |
| TD Ameritrade | $9.99 | Yes | ADR only | Fair |
| TradeKing | $4.95 | Yes | ADR Only | N/A* |
*While I’ve tinkered with TradeKing and Merrill Edge, I haven’t used them enough to make a credible evaluation of their customer service
Interactive Brokers jumps off the page as being significantly cheaper than the alternatives; half a cent per share with a minimum commission of $1. But be warned, Interactive Brokers also requires $10 per month in commissions. If you fall short, they charge you a fee to make up the difference. For example, if you do $7 worth of trading in a month, they will charge you a $3 fee.
The rest of the brokers fall into a range of $5-$10 per trade. Most brokers offer special discounted pricing to frequent traders, and it is not uncommon for some brokers to give commission-free trading if certain account minimums are met. So, the prices you see in the table above are not “set in stone,” but they should give a pretty good estimate to the average investor.
Another factor to consider are incidental expenses, such as account closing and transfer fees. These don’t come up regularly (few investors change brokers often), but they can be annoying when they do. Of the brokers covered, E*Trade, Interactive Brokers, Charles Schwab, and TD Ameritrade currently charge no closure fees. The rest charge fees of $50-$75. Most brokers will charge you outbound wire fees, though there are exceptions. Interactive Brokers, for example, will allow one fee-free wire per month.
Execution
Execution is something that is a little harder to understand for the inexperienced investor, but think about it like this. Your broker is charged with a simple task. When you place an order, via a web form, an iPhone app or over the phone, their job is to execute that order as quickly as possible and at the best possible price.
These days, stock brokerage is so competitive that differences in execution price for liquid stocks (essentially anything trading on the New York Stock Exchange or Nasdaq) is going to be negligible for most investors. For example, Interactive Brokers proudly advertises that they have superior execution, backed by third-party studies. But this superior execution amounts to $0.23 per every 100 shares traded.
Likewise, execution speed is generally going to be pretty competitive. In a recent Barron’s ranking, five of the most popular online brokers—Scottrade, TD Ameritrade, Fidelity, e*Trade, and Charles Schwab—all had average order response times of 2.8 seconds to 4.7 seconds; this is the amount of time it takes you to place the order using the web forms. A separate study by NerdWallet found that the difference between the execution times—the time required by the broker to take your orders and act on them—of the best and worst performing brokerages was less than 0.8 seconds. And frankly, it makes sense. Many of the brokers outsource their execution to the same wire houses.
Bottom line, for anyone reading this article: quality of execution is not going to be the deciding factor in which broker you choose.
Products Offered
This is an important point, and for many readers this will be the deciding factors. Any broker you are realistically considering will offer basic U.S. stock, options, and ETF brokerage and access to most mutual fund families. Most brokers offer some number of mutual funds with no transactions fees attached (i.e. no brokerage commission). If there is a particular mutual fund family you like, shop around and see if it is available without transaction fees in the brokers you are considering. You can also generally go directly to the mutual fund company itself and bypass a broker altogether.
Note: A “no transaction fee” fund is different from a “no-load” fund. Sales loads are large commissions paid to a broker to sell you a fund and are usually in the range of about 5% of the purchase price. NEVER pay a sales load, and if your financial advisor pitches a loaded mutual fund, fire them. A transaction fee, as distinct from a sales load, is simply the commission charged by your broker to process the paperwork, and it usually amounts to around $20, though some brokers charge upwards of $50. An ideal mutual fund would have neither a load nor a transaction fee, but generally you’re going to get stuck paying the transaction fee. In my book, no-load mutual funds with transaction fees of no greater than $20 are fine. Any more than that, and I would want to consider other options.
The availability of foreign stocks is also a major consideration, and I outlined the offerings in the table above. In my work, I scour the world for the very best value investments I can find, and sometimes those investments are not available on the U.S. exchanges. Having easy access to foreign stock exchanges is a major selling point to me, and it is something I recommend my readers watch for. On this front, I find Interactive Brokers to have the best international access, but E*Trade, Fidelity and Schwab all offer international trading.
What about more exotic investment options, such as real estate, precious metals or hedge funds? Well, unfortunately, none of the major online brokers are going to offer good access to these kinds of alternatives. If you are making these kinds of investments with after-tax dollars, you’ll simply need to hold them outside of a brokerage account. And if you want to use IRA funds, you’ll need to use a specialty “self-directed IRA” shop.
Other Frills
Most brokers these days offer free dividend reinvestment, and I outlined this in the table above. If the commissions are cheap enough, this is something I can live without, as I can simply reinvest the dividends myself. But for investors who like to put their core stock and ETF positions on autopilot, you really can’t beat the convenience of automatic dividend reinvestment. Whenever dividend income hits your account, it is instantly swept into new shares—sometimes even fractional shares. This can massively aid in the compounding process. All brokers reviewed but Interactive Brokers offered automatic dividend reinvestment.
Another consideration is the quality of research offered. I generally don’t read broker research, as I prefer to do my own homework and I don’t want my mind polluted with what are often very biased opinions. But some investors get a lot of value out of broker research. If you do, make sure you like what your broker is offering.
And finally, some brokers offer comprehensive banking services. I keep my brokerage and my banking at separate institutions, but if you like the idea of having it all under one roof, then you should probably ignore some of the very cheapest options. Schwab, TD Ameritrade and E*Trade all offer functional banking services.
Which Broker Is Best?
Now for the moment of truth. Again, this is somewhat subjective, but I certainly have my favorites, and I am happy to share them with you now.
The majority of my client accounts at Sizemore Capital are housed at Interactive Brokers, something I expect to see continue for the foreseeable future.
Note: I do most of my trading though my firm, Sizemore Capital. But I receive no compensation or soft-dollar arrangements from any broker discussed. I use Interactive Brokers as a paying customer, the same way that you would.
Why do I like Interactive Brokers (“IB”)”?
IB offers some of the absolute cheapest commissions on the planet at half a cent per share for stocks on U.S. exchanges, with a $1.00 minimum per order. Most of my trades end up costing a dollar, and that’s hard to beat.
But cost is only part of IB’s appeal. IB was designed with a sophisticated trader in mind, and you can trade stocks, options, bonds, ETFs, mutual funds, foreign currencies, commodities and even single-stock futures. And most importantly for me, you can buy stocks on every major exchange in the world, and you can do it just as easily as trading a U.S. stock, without any special assistance. It’s the “go anywhere, do anything” appeal of IB that makes it my primary custodian.
IB’s Trader Workstation also has a fantastic rebalancing tool that allows you to place order based on allocation rather than share count. What do I mean by that? Let me use an example. Let’s say that I wanted Microsoft (MSFT) to be 5% of my portfolio. I type “5%” into the field, and the system calculates the number of shares for me. This feature alone has saved me countless administrative man-hours over the years.
Alas, no one is perfect. There are aspects of IB’s service that I do not like. Because IB’s Trader Workstation was designed with a professional in mind, it can be overwhelming for a new investor to navigate. And IB’s account interface for making deposits and withdrawals and other administrative functions can be cumbersome. So, if you are new to investing, IB might not be the right broker for you. (This is why I rated IB “below average” in ease of use and customer support.)
IB also tends to penalize small accounts with nickel-and-dime fees. As I mentioned earlier, those half-a-cent trades come with the condition that you have to place at least $10 worth of trades per month. If you fall short of that, IB will essentially charge an inactivity fee that brings your total commissions paid to that $10 number.
That’s no big deal on a $1,000,000 account or even a $100,000 account. But in a $5,000 IRA, that can really start to eat into your returns.
IB also does not offer automatic dividend reinvestment.
Bottom line: If you are an experienced investor or if you are a financial professional, I highly recommend Interactive Brokers. If you are still somewhat new to investing or you value customer service and ease of use above all other considerations, then I would recommend going with Scottrade, TDAmeritrade or Charles Schwab.
And what about the other options? I run a few small accounts at Fidelity, TD Ameritrade and Schwab, and I can credibly say that there is nothing wrong with these brokers. I have no compelling reason to avoid them. But I find that in terms of sophistication, there is simply no beating Interactive Brokers.
Charles Lewis Sizemore, CFA, is the chief investment officer of the investment firm Sizemore Capital Management. Click here to receive his FREE weekly e-letter covering top market insights, trends, and the best stocks and ETFs to profit from today’s best global value plays.