FOOL PLATE SPECIAL
Market Spanks Discount Brokers

TD Waterhouse reported earnings this morning that were down over 90% year-over-year. The company's results highlight perfectly how the bearish market has created a very difficult environment for discount brokers, which are collecting markedly lower commissions and margin interest.

	Email this page Format for printing Reuse/Reprint
	Related Links Internet Report -- Online Brokers Discount Broker Center Market Wags Schwab's Profits Dueling Fools -- Schwab TD Waterhouse Disappoints in Q1
	Discussion Boards Ameritrade Schwab TD Waterhouse

By Paul Larson (TMF Parlay)
May 16, 2001

TD Waterhouse (NYSE: TWE) this morning reported earnings for the quarter ended April 30, the company's income statements highlighting just how difficult an environment it has been for discount brokers. Though TD Waterhouse continues to add customers, it is not harvesting nearly as much money from its existing accounts as it once was.

Let's see just how the anemic stock market has spanked TD Waterhouse and its peers.

Spanking #1 -- lower commissions
With the stock market in the doldrums and major market indices standing at as little as half their previous highs, the amount of trades per account has plummeted. TD Waterhouse reported that even though its total number of accounts increased 1% over the last three months, the total number of trades executed dropped 12%. Year-over-year, the company's revenue from commissions and fees dropped a staggering 53%.

As we said in the most recent Internet Report on Online Brokers, part of the problem is that a lower stock market means lower average portfolio values. In general, the less an account is worth, the fewer trades that account will see.

Also hurting the discount brokers is the fact that the recent correction has guided expectations about the unrealistic ability to make a quick buck -- by "playing the market" -- rightfully downward. Many closet day traders may have left the market or moved closer to a buy-and-hold strategy. Either way, a rule of thumb is that a market's bearish or bullish mood can directly impact trading volume and commissions.

Spanking #2 -- lower margin interest
Lower portfolio values do not just hurt commission and fee revenue. They also affect the amount of money brokerages can make from margin interest. As a market sinks, so does the collateral value available for margin loans, and many investors reduce borrowings when this happens. Moreover, there's nothing better than a swift and painful correction to warn investors of the dangers of buying on margin.

For TD Waterhouse, the amount of money made from margin loans went from $94.0 million in last year's quarter to $63.6 million this time around, a 32% drop year-over-year.

When all was said and done with TD Waterhouse, the company reported cash earnings of $0.04 per share, a penny shy of Street estimates. Net income at TD Waterhouse on an "as reported" basis dropped more than 90% year-over-year in the most recent quarter. Most watching the brokerage industry were expecting a poor quarter, but it is still quite shocking to see the damage "in the flesh."

The brokerages react
The brokerages are doing all they can to counteract the market forces at play today. Unfortunately, that means layoffs are all too common in the sector, and TD Waterhouse is no stranger to the pink slip. In the most recent quarter, TD Waterhouse went from 8,180 employees to 7,418, a 9.3% drop. The vast majority of the recent reductions are thanks to attrition, but TD Waterhouse said in March that it expected to reduce its total headcount by as much as 18%.

TD Waterhouse's archrival, Schwab (NYSE: SCH), is also doing the layoff shuffle. This year, Schwab has laid off 2,200 of its employees, and including attrition has reduced its headcount by 3,700, or about 13% of the worldwide employees it had at the beginning of the year. Privately held Datek and Ameritrade (Nasdaq: AMTD) have also announced layoffs in recent weeks.

Regardless, the health of the brokerage industry is directly related to the health of the overall stock market. Right now, the sector is clearly in the midst of a major downswing, but the discount brokers should see their financial health improve when the market recovers.

Paul Larson's first brokerage account was with Schwab, but he has never owned shares of any discount broker. You can see Paul's complete stock holdings online. The Motley Fool is investors writing for investors.