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E-Trade Matches Peers' Reductions in Commissions

On the morning of Oct. 3, narrow-moat E-Trade ETFC became the next major online brokerage to announce it will be reducing trading commissions on U.S.-listed stock, ETF, and option trades to $0. This decision is undoubtedly a defensive move to maintain market share against larger rivals that made similar announcements this week, particularly wide-moat Charles Schwab SCHW and narrow-moat TD Ameritrade AMTD. While we recognize that E-Trade needed to make this decision to maintain share, we think the industry is worse off because of this move. All the major players in the online brokerage industry reduced fees simultaneously and to a similar extent, so each firm reduced its revenue stream without improving its relative competitive position. We are reducing our fair value estimate for E-Trade to $46.50 from $54.50 and believe that while the market is overly pessimistic on E-Trade and other online brokerages, it is now materially more difficult for E-Trade to meet its $7 earnings per share goal.

E-Trade's plan to essentially double 2018's earnings per share by 2023 ($3.88 per share versus an anticipated $7 per share) is looking increasingly difficult to achieve. We estimate E-trade's move to reduce trading commissions will reduce annual income by about 9% in 2020 and because this is a fixed-cost business, we anticipate this forgone revenue will meaningfully reduce net income. Further, when the company unveiled their plan in late 2018, macroeconomic factors appeared to be a tailwind for E-Trade with increasing interest rates and a strong U.S. economy. Now, long-term yields are nearly the lowest we have seen since 2016 and concerns about the U.S. economy continue to build.

Given the expense synergies in the brokerage business, we think the probability of E-Trade being purchased by a larger entity has increased since last week.

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