eBrokerages - TD Ameritrade (AMTD), ETFC and SCHW
There is no doubt online trading firms have revolutionized the way people invest. The availability of these firms has brought a new crop of investors to the market. Lured by the inexpensive commissions and the convenience of being able to trade independently, investors and traders have come to rely on firms like TD Ameritrade (AMTD), E-Trade (ETFC) and Charles Schwab (SCHW) to get their orders executed at a reasonable price. Therefore, it is not surprising to hear TD Ameritrade reported 69 percent surge in profit this morning. Does this mean it’s time to double down on online brokerage?
The fundamental rule of investing is to never double down on anything as it would violate our number one rule of diversification. However, a 69 percent profit is quite impressive and hard to ignore. From our experience trading these online brokerage stocks, one thing is certain, they are very volatile. Another observation we would like to point out, any negative news will have an adverse affect on the stock. On the contrary, it takes significant news to move the stock up. The entire sector will move in tandem. For instance, if E-Trade releases a report that suggest less than expected trading volume or account acquisition, the market will interpret it as being true for the other firms in the sector. This is generally true for other sectors as well, but it appears to be more so with the online brokerage stocks. One more thing, with these online brokerage stocks, we also found it is better to wait after the earnings to buy them. Traders will typically bid up the prices before earnings and sell them immediately after the earning is released, the old “buy on the rumor, sell on the news” tactic.
Online brokerage companies make their living on trade volume. Therefore, the volume of trades needs to be very strong as their margin is very low. This is primarily why during a bull market these companies will tend to do well. As the customers account value increases, trading on margin and other premium services will also become popular, thus helping to increase the brokerage’s bottom line. On the contrary, during a bear market we see the opposite effect. The question of whether to buy any of these online brokerage stocks largely depend on your view of the market. If you believe the stock market will continue its bullish ways, getting in now should fare well. However, if you believe otherwise, these stocks are currently overvalued.
Our view is the market will continue to remain strong throughout 2007. Our reasons for this optimistic view are largely due to good economic data. If we had to choose between these three online brokerage firms, we would go with E-Trade (ETFC) because the stock is trading at a lower multiple in comparison to AMTD or SCHW. Moreover, we like the fact that E-Trade is doing more to branch out from being just an online brokerage. We believed this strategy will help soften the blow when trading volume declines. At $24 per share, we believed ETFC is trading at a fair market value. However, we strongly recommend buying on weakness. The best case scenario would be to acquire the stock at $22.
