A common refrain that people like to invoke when they're shopping is "you get what you pay for." While it's sometimes true that quality comes at a higher price, most of us know that many name brand products are simply more expensive because of their label.
When it comes to brokerage accounts, many investors immediately dismiss the idea of using a discounted brokerage firm because they fear they won't receive the same quality of service that is provided by name brand brokerages. Below are three reasons why you may want to consider choosing a discount broker over a name brand one.
1. More of your money will be spent on trade execution.
Opening an account with a discount brokerage firm doesn't mean you have to sacrifice the quality of your trade execution. According to a 2012 NerdWallet study, only about 12 percent of commission fees paid to the largest online brokerages (Charles Schwab, TD Ameritrade and E-trade) were actually spent on trade execution. The rest of the money went toward paying for advertising and other operational costs.
Deep discount brokers like Interactive Brokers and SpeedTrader, however, spent an average of 59 percent on trade execution.
This not only means that you could be saving money on trading fees by choosing a discount broker, but a larger percentage of what you pay will be used toward the actual execution of your trade.
2. You don't have to sacrifice the quality of the execution.
Though some name brand brokerages execute their orders directly, others like Schwab and TD Ameritrade outsource their trade execution to third party services. For example, TD Ameritrade uses third party execution services such as Knight, Citadel and Citigroup – the same third party services are used by TradeKing, but for about half the price.
Therefore, even if you go with a discount brokerage, when it comes to trade execution, these firms may actually be using the same third party services as brand ones.
3. You can still access research and trading software.
Some investors may fear that discount brokers won't provide them with the research tools they'll need to make informed choices about their investments.
While it's true many brand brokerages offer outstanding investment online tools to their customers, you can still find a discount brokerage firm, like Scottrade, which offers research reports, real-time data and analysis software, but for less.
When choosing a discount broker: If you think you are ready to open a brokerage account, whether it's with a discount brokerage firm or a name brand firm, be ready with the following information:
- Know how much you want to invest. Some accounts require a minimum initial balance, so make sure to know how much money you have ready and from what account you want to pull the funds.
- Have your personal information at hand. In order to sign up online, you will need your personal information such as your address, social security number and account numbers.
- Decide if you need additional assistance. If you think you will need help, whether it's in the form of research reports or a physical branch that you can visit in person, make sure your broker offers additional services such as 24/7 support, broker assistance or mobile access.
- Check if the account charges annual fees or inactivity fees. Some accounts charge you if you don't make a certain number of trades a year or meet a minimum account balance. So read the fine print before opening your account.
The takeaway: Do your research and know your needs ahead of time. Don't be afraid to choose a discount brokerage firm – it is just as reliable as its name brand counterparts. Also, all online brokerages available to U.S. investors must be a member of the Financial Industry Regulatory Authority and Securities Investor Protection Corporation, in addition to being registered with the Securities and Exchange Commission.
If you already have an account open with a firm but are looking to switch, keep in mind some brokers charge a fee for transferring your account, so make sure to factor that expense into your decision.
Neda Jafarzadehis an analyst at NerdWallet, which helps consumers make better financial decisions, whether it's finding the right credit card or the top broker for their needs.