Discount Brokers: What They Are & How They Work

A discount broker is simply a brokerage firm that offers discount trading rates to investors. The brokers work at a discounted commission rate to accommodate their clients. Discount brokers – either individuals or firms – complete buy and sell ordersTrade OrderPlacing a trade order seems intuitive – a “buy” button to initiate a trade and a “sell” button to close a trade. for clients. They do not, however, provide specific trading advice or other services. Thus, the primary appeal of a discount broker is to investors who manage their own investments.

A primary reason that discount brokers can operate with lower fees is that they don’t spend money vying for the business of and working with, high net worth individuals (HNWI)High Net Worth Individual (HNWI)A high net worth individual (HNWI) refers to an individual with a net worth of a minimum of $1,000,000 in highly liquid assets, such as cash and cash. They can also offer lower fees because they almost always do business exclusively online, which means lower overhead costs.

Summary

• A discount broker is a brokerage that executes buy and sell orders, often for clients with a lower income or small investors; they operate with lower commission fees.
• The primary advantage of working with discount brokers is that their commission fees are lower than full-service brokers, who offer a wide variety of services, though their commission fees are typically pretty high.
• The major drawback to working with discount brokers is that the process of investing is largely placed on the client; if the client is inexperienced at investing, using a discount broker isn’t advised.

Online Operations

Discount brokers in the securities industry are, more and more, conducting their business online, meaning clients rarely get any type of personal interaction. The brokers usually set up online accounts for clients so they can submit their orders for the broker to execute. Live communication with the broker is rare.

Discount brokers online are designed for investors and traders that know what they want and which orders they need to be executed. The platforms that discount brokers tactically provide are created with the intention that active traders benefit by submitting orders and then monitoring the orders’ progress with their own charting/position services.

Full-Service Brokers vs. Discount Brokers

Full-service brokers are significantly different from discount brokers. The former are usually part of or affiliated with a large brokerage firm, such as Morgan Stanley. They are registered financial representatives that provide more than just buy and sell order executions. They walk through the entire trading process with their clients, often offering wealth management and portfolio management services.

Because the brokers are full-service, the commissions they receive reflect the full menu of services they provide. In other words:

Full-service brokers don’t just execute buy and sell orders for stocks and exchange-traded investments (such as ETFsExchange Traded Fund (ETF)An Exchange Traded Fund (ETF) is a popular investment vehicle where portfolios can be more flexible and diversified across a broad range of all the available asset classes. Learn about various types of ETFs by reading this guide.). They also work with mutual funds, charging sales loads on the mutual funds they work with.

Full-service brokers work with clients in person, helping to manage their accounts and other services clients may want or need. They include:

• Selling annuityAnnuityAn annuity is a financial product that provides certain cash flows at equal time intervals. Annuities are created by financial institutions, primarily life insurance companies, to provide regular income to a client. products
• Various types of loans
• Selling insurance

Think of full-service brokers as both financial salespeople and advisors. They often receive the highest commissions when working with clients, selling them a variety of financial products.

Pros of Discount Brokers

The primary advantage of working with discount brokers is that they charge discounted commission fees, meaning less expense for the client.

Independent, self-directing investors – especially those that are already working with a financial advisor – benefit the most from discount brokers. Discount brokers are a cost-effective way for a confident investor to get his or her trades executed without spending a lot of extra money with a full-service broker.

Cons of a Discount Broker

The biggest drawback is that using a discount broker is largely a DIY endeavor. If a client is inexperienced and in need of financial guidance, they won’t really find it with a discount broker.

Also, discount brokers aren’t created equal. There are often significant variations in the terms regarding fees and services that are offered. Discount brokers offer different products, account types, and a variation of services. It is important for potential clients to research discount brokers before committing to one.

Learn More

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• Commercial Real Estate BrokerCommercial Real Estate BrokerA commercial real estate broker is a middleman between sellers and buyers of commercial real estate, helping clients sell, lease, or purchase them.
• CommissionCommissionCommission refers to the compensation paid to an employee after completing a task, which is, often, selling a certain number of products or services
• No-Transaction-Fee (NTF) Mutual FundNo-Transaction-Fee (NTF) Mutual FundA no-transaction-fee (NTF) mutual fund refers to mutual funds that do not charge trading fees for the transactions made. They are also known as no-load
• OverheadsOverheadsOverheads are business costs that are related to the day-to-day running of the business. Unlike operating expenses, overheads cannot be