Bloomberg News

Ameritrade's Low-Cost Online Trades Help Beat Schwab

Oct. 6 (Bloomberg) -- Charles Schwab Corp., the world's biggest discount brokerage by capital, has 400 offices from Manhattan to its San Francisco headquarters, and a staff of 16,500. Ameritrade Holding Corp. has about a 10th of the number of employees of Schwab and one office, in Omaha, Nebraska.

Unlike Schwab, Ameritrade has stuck to one business: trading equities online, at a single price of $10.99 per trade compared with Schwab's discount rate of $14.95. Ameritrade's lower charges and a 17 percent gain in the Standard & Poor's 500 Index this year helped the company increase its customers to 3 million by the end of September, more online customers than any other brokerage, from 1.9 million a year earlier.

``Trading online is more efficient than calling your broker and giving him an order,'' said Nicholas Economides, a professor of economics at New York University's Stern School of Business. ``It's quicker, you have more access to up-to-the-minute prices, and you don't have to be swayed by brokers. If you know what you're doing, this is a great product.''

Ameritrade's profit rose to a record $50 million in the three months to the end of June, lifting the operating profit margin to 52 percent, four times that of Schwab. Earnings may rise as much as 50 percent next year as markets revive, said Ameritrade Chief Executive Officer Joseph Moglia, 54.

Ameritrade, founded in 1975, three years after Schwab, lost money from 2000 through 2002 as the S&P 500 fell 40 percent and investors fled the stock market. The company stuck to its strategy of trading online, buying Datek Inc. and its 875,000 customers in September 2002, and the 20,000 accounts of Corp. a year ago. Just last week, Ameritrade bought 11,500 accounts from BrokerageAmerica.

No Diversification

The company has also reduced costs by eliminating about 1,000 jobs in the past year.

``Whenever there's a prolonged downturn the whole financial services industry suffers,'' said Moglia, a former head of investment products at Merrill Lynch & Co., in an interview. ``It made me challenge the idea that diversification hedges you in a negative environment. History doesn't support that.''

Schwab Chief Executive David Pottruck chose to diversify, buying U.S. Trust Corp., a 150-year-old money manager for millionaires, for $3 billion in May 2000. Pottruck, 55, was at the time co-CEO with founder and Chairman Charles Schwab, 63. In June, just after Schwab gave up his executive role, Pottruck agreed to buy the private client group of State Street Corp. for about $365 million.

Shares Soar

Moglia's strategy depends on making sure trading volumes are sufficient to cover costs. Following the reduction in staffing, to about 1,750 employees, Ameritrade is profitable if it handles more than 29,000 trades a day, Moglia said. Daily trading volume hasn't been that low in the past five years. The company spends about $270 million a year maintaining its software and paying staff, he said.

Shares of Ameritrade have risen 124 percent this year, making the brokerage the best-performing stock in the 12-member AMEX Securities Broker/Dealer Index. Schwab has risen 19 percent, the index's worst performance. Ameritrade's price-to-earnings ratio is 55, compared with 46 for Schwab.

Just as Southwest Airlines Corp. and EBay Inc. have prospered at the expense of established competitors by attracting savvy customers who want no-frills service at lower prices, Ameritrade has handled more trades per day than Schwab for five straight months. And while Ameritrade's accounts have grown 36 percent from the end of 2001, Schwab's online accounts have dropped to 4.1 million from 4.3 million.

More Acquisitions

``Ameritrade is betting that if it keeps prices low enough, it can attract enough business to cover costs and be the no-frills guy,'' said Austan Goolsbee, a professor of economics at the University of Chicago Graduate School of Business. ``I wouldn't be surprised to see Ameritrade buy up as many of these little guys as they can.''

Now, competition is intensifying for online brokers.

Fidelity Investments, the biggest U.S. mutual fund company, said last month it would cut commissions on stock and option trades by 42 percent for its most active customers, after Schwab made a similar change. Boston-based Fidelity, the fifth-largest U.S. online brokerage, is charging $8 a trade, down from $14, to customers who make at least 120 stock, bond or option trades a year and have $30,000 to invest.

Schwab said last month that it would allow traders who make at least 30 trades a quarter to qualify for $14.95 commissions, down from 60 trades a quarter previously required.

One Price

E*Trade Group Inc. of Menlo Park, California, the third- biggest discount broker after Ameritrade and Schwab, said two weeks ago that it doesn't plan on cutting prices or lowering the threshold for its most active traders. Ameritrade isn't planning to cut prices, Moglia said.

``We've come up with one price -- that's it,'' Moglia said. The $10.99 charge per trade doesn't require customers to conduct a minimum number of transactions.

While Ameritrade is benefiting from the current resurgence of equities trading, it lost money over the past three years when trading volumes fell to a low of 60,000 per day in August 2001. During the same period, Schwab diversified into the higher margin brokerage business that involves giving advice.

``Schwab is less and less of a story about numbers of trades and more of a story about financial services,'' said spokesman Glen Mathison. Schwab's earnings fell to $109 million in 2002 from $718 million at their 2000 peak, but Schwab did not lose money during this period.

``Ameritrade's earnings are going to be volatile,'' said Morningstar analyst Rachel Barnard. ``They are tied to the market.''

Tied to Market

Ameritrade's stock closed at $12.34 Friday, compared with $5.66 at the end of last year, and more than four times where they were five years ago. Schwab's price was at $12.77 Friday, compared with $10.85 at the end of last year, and about 36 percent above where it was five years ago.

Ameritrade's net income, at $49.9 million in its fiscal third quarter ended June 30, was almost nine times the level of the same quarter in 2002.

``If we come in at 10 percent higher business levels next year, our bottom line could rise 40 to 50 percent,'' Moglia said in a television interview with Bloomberg News last month.

The company had a 30 percent increase in trades in the past four months, Moglia said. Ameritrade expects volume to increase as individual investors return to the stock market.

``Our current activity level is still below where we were in 2001, and we think there's a tremendous amount of opportunity.'' Moglia said.

--Margaret Popper in the New York newsroom (1) 212-893-5989, or, with reporting by Aaron Pressman in Boston, Brett Cole and Stephen Cohen in New York, through the San Francisco newsroom (1)(415) 912-2980. Editors: Pickering, Roussel, Bray, Quinson.