E*Trade (NYSE: ETFC) is a leading online brokerage firm, which also offers retail banking services, such as checking and savings accounts and CD accounts.  E*Trade makes money by charging commission fees to its customers for transactions made. These fees are variable and are based on the size of the client, the size of the trades, and the frequency of the trades. For the full year 2010, E*Trade reported a total revenue of $2.4B and a net loss of $1.3B.
The online brokerage firms have been facing increased competition and downward price pressure as traditional retail banks, such as Bank of America (BAC) and Wells Fargo (WFC), have entered the industry. This pressure prompted E*Trade to find another retail outlet: retail banking..
E*Trade provides online brokerage products and investor-focused banking products, sweep deposits and savings products to individual retail investors. The company’s subsidiaries include E*Trade Bank, which is a federally chartered savings bank that provides investor-focused banking products to retail customers nationwide and deposit accounts insured by the Federal Deposit Insurance Corporation (FDIC), E*Trade Capital Markets, LLC, which is a registered broker-dealer and market-maker, E*Trade Clearing LLC, which is the clearing firm for the brokerage subsidiaries and is a wholly owned operating subsidiary of E*Trade Bank, and E*Trade Securities LLC, which is a registered broker dealer.
E*Trade Financial Corporation provides online brokerage and retail related products directly and through its numerous subsidiaries, many of which are overseen by governmental and self-regulatory organizations. Its most significant subsidiaries are as follows:
E*Trade's core business is its trading and investing franchise, which focuses on two primary groups of customers: active traders and long-term investors. The franchise offers two branches of products and services:
The Trading and Investing segment is E*Trade's main service sector. It provides an online investing and trading platform that allows clients to trade market and limit equity, options, futures, exchange-traded funds, and bond orders. Its retail banking arm which includes checking, savings, sweep, and money market accounts, along with certificates of deposit (CDs), as well as mortgage, home equity, margin, and credit card products.
The Balance Sheet Management segment generates additional net operating interest income by leveraging loans (previously originated or purchased from third parties) and customer cash. Net interest income is generated by taking customers' deposits and loans, and reinvesting them where they hope to earn a high return. Although this can be a risky practice, it can keep the difference, also known as the spread) between the two interest rates. The more money E*Trade has in its clients’ accounts, the more its can earn on the interest rate spread.
E*Trade's clients include both individuals and corporations which account for approximately 2.7 million active brokerage accounts, 1.0 million stock plan accounts and 0.8 million active banking accounts. E*Trade earns revenue by charging commission fees on its clients' trades. The amount of the commission varies from client to client, depending on the size of a client’s account and how often she execute trades. Rising competition has driven down commission fees in the industry, leading E*Trade to focus on mass affluent investors, asset accumulation, and interest income.
E*Trade has faced increased competition for its online brokerage, which has effectively dropped trading prices and commissions. To grow revenues, E*Trade expanded into the retail banking industry business in an attempt to attract new customers and offer its existing customers a broader range of products and services. To further differentiate itself, it has introduced enhancements to its product and service offerings. For example, it has increased its customer services by launching 24/7 phone and online chat services for potential customers, as well as current customers who may have investment related questions. It has introduced personal finance planning tools to aid its customers with retirement, tax, and trading activities. In addition, it has even extended its trading capabilities to Blackberries and iPhones. MobilePro, its free trading app, was the most downloaded finance app for iPhones and had more than 2 million Blackberry log-ins in less than one year. E*Trade is considered to have the leading mobile platform among its online brokerage competitors TD Ameritrade Holding (AMTD) and Fidelity Brokerage Services. E*Trade has also partnered with PNC Financial Services (PNC) to add a line-up of actively managed portfolios to their line of products.
Revenues based on commissions are susceptible to swings in the stock market, which are linked to general economic conditions. In a bearish market, the trading volume is relatively low and this in turn decreases revenue from commissions. On the flip side, an upturn in the market will increase trading volumes and hence commission revenue for E*Trade. In periods of economic uncertainty, trading volumes can spike significantly, reflecting investors' apprehension about the future of the economy.
Furthermore, the Fed's interest rates directly affect broker-dealer's net interest revenues. A decrease in interest rates could hurt E*Trade's net interest margins and put pressure on revenues. E*Trade is particularly leveraged to interest rates since interest income makes up a larger percentage of its total revenues than any of its main competitors.
E*Trade Financial faces strong competition, most importantly from Charles Schwab (SCHW),TD Ameritrade (AMTD), Fidelity, and Scottrade. E*Trade and TD Ameritrade are very similar in structure: they both run a no-frills investing platform geared towards self-guided investors. Asset accumulation can be difficult for E*Trade and other no-frills online brokers as they're competing against firms that offer more advanced guidance for investors. As a result, E*Trade is far behind their "high-touch" counterparts when it comes to wallet share because they don't offer investment advising products and services. Charles Schwab--which has more comprehensive offerings--has been more successful in attaining a greater share of its clients' total assets.
By stepping up its retail banking offerings, E*Trade has decreased its dependence on commissions, but it has become increasingly reliant on interest income as a principal source of revenue. Changes in interest rates can, therefore, have a significant impact on earnings. This is especially true for E*Trade, which derives a larger percentage of its revenue from interest income than its main competitors, Charles Schwab (SCHW) and TD Ameritrade (AMTD).
Wells Fargo (WFC) and Bank of America (BAC), who are new in the brokerage industry, have offered fee-free online trading to a number of their customers. Offers like this will apply great pressure on the well established broker-dealers to cut their fees even further. To make up for lost commission revenues it will be necessary to increase revenues in other areas such as net-interest revenue. If the current trend continues it is likely that trading fees will continue to fall in the years to come.