Commission-Free Trading: The Pros and Cons

If you’ve been keeping up with market news lately, you might’ve heard that Charles Schwab is the latest broker to offer commission-free trading. 

Sounds great, right?

I think so — especially for new day traders and those of you with smaller accounts. No commission fees can mean more money in your pocket.

But there’s a little more to it than that. While I do think this is good news, there are some potential downsides that you should be aware of.

So, let’s get into it: Here’s what you should know about the pros and cons of commission-free trading and how you can take advantage of lower fees.

Is Schwab Setting a New Standard? 

Earlier this month, Charles Schwab sent out a press release saying that it’s dropping commission fees for stocks, ETFs, and options on U.S. and Canadian exchanges. You don’t even have to have a minimum balance to open an account.

What’s the catch?

Well, nothing, according to Schwab CEO and President Walt Bettinger. As he said in the press release, “This is our price. Not a promotion. No catches. Period.”

Don’t be fooled, though. Brokers like Schwab aren’t dropping commissions out of the kindness of their hearts. Brokers are always looking out for their own best interests, not yours.

In reality, there will probably be some backend fees or order flow selling going on so these brokers can still turn a profit.

But, for now, all we know is that more and more major brokers are dropping their commission fees, which is good news for day traders like us.

More to Come?

Schwab isn’t the first broker to drop its fees and it definitely won’t be the last.

Robinhood has offered commission-free trading for years, which is probably a major reason why major brokers are starting to do the same.

Interactive Brokers, TD Ameritrade, and E-Trade all recently announced that they’ll start offering commission-free online trading.

If your broker isn’t offering zero commissions yet, it probably will be soon. It looks like this is becoming the new standard in the industry.

Is This Good News?

So, is this new zero commission trend good or bad?

Like most things, I think there are a few pros and cons.

The Good

What are the pros of commission-free trading?

First, and this should be pretty obvious, no commission fees means you get to keep more of your money. 

This is particularly good for new traders and day traders with smaller accounts. Even if you’re only making small $5 trades, commissions can eat you up.

If you’re actively trading, which most day traders are, then these commission fees add up. $150 in commission fees is kind of a lot when your account only has $1,500 in it.

Even if you’re just testing strategies and want to take some ideas to the real market, zero-commission trading can save you a decent amount of money.

More Traders

The other thing I like about this is that commission-free trading will probably bring a lot of new traders into the market.

Why do you think Robinhood is so popular? New traders have always flocked to Robinhood because they don’t want to spend hundreds of dollars on commission fees.

As more and more traders enter the market, volume will increase. When volume increases, so does volatility, and volatility is a day trader’s best friend. Volatility means more opportunities to buy low and sell high.

And, not to sound mean, but a lot of these new traders are likely to be inexperienced and uneducated — so there will be more opportunities for educated day traders like us to take advantage of.

The Bad

The major downside you’ll probably see people talk about when it comes to these commission-free brokers is that they might be selling your order flow. This is one of the ways Robinhood makes up for having no commission fees.

What does this mean?

Basically, there are these companies that are referred to as high-frequency trading (HFT) firms. 

When you place a trade, your broker sells your data to an HFT firm.

Now that the HFT firm knows which stock you want to buy, it quickly buys the shares before selling them back to you at a slightly different price than you expected. It’s sort of like scalp trading.

There’s a good chance you’ll see some traders point this out, but is it really that big of a deal?

Yeah, sure, nobody wants a bad order fill. But, in reality, we’re probably talking about half of a cent here.

Ultimately, even if they do end up selling your order flow, you’ll still be paying less than you would be in commissions. You probably won’t even notice. 

Zero Commissions: Do the Pros Outweigh the Cons?

So, is commission-free trading ultimately a good thing?

Yes, I think so.

Even if these commission-free brokers do sell your order flow or add some other small backend fees, you’ll likely still be saving a lot of money on commission.

It’s true: Brokers aren’t looking out for you; they’re looking out for themselves. So it makes sense to be skeptical about something like this.

But, in some cases, what’s best for them is also good for us. In the case of commission-free trading, I think day traders should be happy about this new industry trend.

Be Careful … Execution Matters

Commission-free brokers tend to attract uneducated traders who don’t know how to properly plan and execute trades. They just see “zero-commission fees” on the front page and throw caution to the wind.

Don’t fall into this trap. You don’t want to join the majority of traders that lose.

As more traders enter the market to take advantage of commission-free trading, it’s more important than ever to stick to your trading plan, manage your risk, and know when to cut your losses.

Zero-commission trading offers a great opportunity for day traders to save money on fees, but that won’t matter if you go into the market without a plan.

Stay sharp, keep studying the market, develop a strong plan, and you can take advantage of all the brokers that are dropping their commission fees.

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Final Thoughts

Schwab is just the latest broker to jump on the new commission-free trading trend, and more will likely follow.

Some traders might complain about the smaller fees brokers add to make up for lost commission revenue, but, as far as I’m concerned, this is a win for day traders like us.

But what do you think? Is this a good thing for short-term traders? Let me know in the comments below.