SmartMoney 2010 Broker Survey

When Barry Northrop decided to open an account with a discount broker last year, he thought he’d be getting a good deal. After all, the firm was advertising commissions of just $2.50 a trade. But it wasn’t until Northrop started poking around that the 56-year-old discovered other charges he could have easily incurred—like $3 for every paper-based trade confirmation, $5 for a monthly statement in the mail and a $50 fee to transfer his account to his wife in the event of his death. In the end, Northrop was able to dodge these fees by changing his account’s settings, though he first had to contact customer service in order to know where to look: “I don’t know how anybody could find this on their own,” he says.

After spending 2009 trying to entice beleaguered investors back into the market by rolling out more-robust investment research and new hand-holding services, discount brokers are now fighting for new business by duking it out on pricing. Earlier this year Charles Schwab slashed commissions by more than 30 percent, to $8.95 a trade. Archrival Fidelity, which just a year ago charged as much as $19.95 for a single transaction, quickly undercut Schwab with $7.95 commissions.

The discount industry has taken its price wars to other product lines as well. Schwab cut fees on certain equity and bond funds, and even offered free trades for eight exchange-traded funds. Fidelity has countered by offering free trades on 25 ETFs. “The reality is that the average investor was psychologically damaged by the downturn,” says William Blair & Co. analyst Mark Lane. “The pricing adjustments reflect a new environment.”

Of course, commissions have been falling for a while now, and a few firms have long doled out free toasters, er, trades, with certain restrictions. Yet it’s been years since there was this much movement. Though it remains to be seen whether these new price-cutting tactics will ultimately drive up business, the discount industry is already making some full-service firms nervous: Nearly a third of financial advisers recently surveyed by research firm Aite Group say their business is threatened by online brokers who may lure clients away, with price cited as the top reason. But discounters aren’t safe either from penny-pinching customers. In fact, when SmartMoney recently teamed up with research firm Synovate, we found that 22 percent of discount customers were considering switching to a rival firm for cheaper commissions and fees, up from 13 percent last year.

Still, as investors focus on saving a few bucks, they might end up paying in other, less obvious ways. The industry has been shifting how it collects revenue over the past decade, experts say, ever since the dot-com bubble burst and trading levels plummeted. Firms steadily beefed up other offerings, adding advisory services and banking products. Today analysts say such areas have become a critical profit source, especially as trading volumes have been dropping at double-digit rates at some firms.

Michael Curcio, who heads E-Trade Financial’s brokerage business, says a growing share of the firm’s revenue in recent years has come from account and product fees, rather than from trading commissions. And officials at Schwab and TD Ameritrade say they’ve been expanding fee-based services for clients interested in, say, retirement and investment consultations. “Online brokers have become better at finding more ways to monetize relationships,” says Seth Dadds, an analyst with Garp Research & Securities.

The one-upmanship has led to some heated competition in recent years. Fidelity reclaimed the top overall ranking in this year’s survey after watching E-Trade lead the way in the previous three years. (Fidelity was tops in the four years before that). At the other end of the spectrum, firms with less-robust product or service offerings have been stuck near the bottom of our survey over the past three years, such as Zecco, SogoTrade and ShareBuilder.

For our 18th annual ranking of brokers—itself top-ranked by the Web site ConsumerSearch—we scrutinized a wide range of factors, from trading commissions and account fees to the cost of certain banking services and margin rates. In addition to parsing survey responses from the brokerages, we consulted with research firms and put brokers through our usual litany of customer-service tests. Our findings follow.