Online Trading during the first years of the new millennium

Since the beginning of online trading the commission rate dropped from around $50 a trade down to around 1/5 of that and even some companies like Bank of America, Zecco and Saxo Bank offered commission free trading in stocks. These price slashes generated great growth in the industry according to Mc Kinsey & Co who states that in 1999 online banking constituted 2 % of the entire industry, by 2002 it constituted 10 %. The explosive growth in the online trading industry attracted many new entrants, leading to intense competition.

In addition to that, many of the traditional full-service brokers like Merrill Lynch and Morgan Stanley also entered the arena by offering online trading. The Internet posed the most serious threat to the established brokerage firms since the unfixing of commissions on May Day, 1975, when deregulation created the discount-brokerage business, threatening, but not vanquishing, a cozy oligopoly (Nathan, 1999). The oligopoly has now being battered by new technologies. So far, traditional full-service brokers had resisted using the Internet in any way that would cannibalize their existing offline brokerage business. They appeared positively complacent, arguing that the cut-price online brokerage is not a sustainable business model.

However by the early years of the new millennium, the traditional full-service firms finally began to counterattack. Their first steps were to add online trading to their information-only web sites with a better deal for their more active customers. As they further enter the online market at a larger scale, with vastly greater capital bases, and powerful global brand names these traditional firms will probably change the nature of the competition.

The entry of traditional offline firms to the online market, however, has not necessarily been a smooth process. This has caused major “channel conflict” when distributing through competing channels that offer different prices and service levels. An example of this kind of conflict was felt during the launching of Discover Brokerage Direct, owned by Morgan Stanley (Smith, 1999).

One of the clearest indications of how channel conflict influenced management decisions was in the way the online unit was named. Rather than extending the Morgan Stanley brand name to the online operation, a name that carried considerable clout in the securities business, the new company was given the name of the Discover credit-card operation. This was a way of distancing the parent company from the online business.

New entries to the online market have been appearing in various ways: from traditional tier 1 banks, specialized online banks and hundreds of small online brokers, offering different trading platforms. Growth in the industry has been driven mainly by retail forex operations and other derivatives such as CFDs (Contracts for Differences).

Online Financial Industry Today

We are now at the apex of a new period of unprecedented opportunities for the online financial industry. The economy is about to open up a large space for us to grow. History has revealed that after recessions, new ‘windows of opportunity’ open up where new industries grow and become established. We might also start to see a consolidation since there are too many online brokers out there that do not offer a relevant and differentiated product but are just benefiting from the early low hanging fruits in the online markets.

In a report published in December 2010, LeapRate estimated that the online Forex trading volume was some $200 billion daily, barely 5% of the total world foreign exchange market (this is the largest market in the world, with an average daily turnover estimated at $3.98 trillion). This represents enormous growth if we compare it to the figure of under $10 billion that was traded online daily 10 years ago. If the LeapRate numbers are correct, daily online Forex operations are already more than double those of the New York Stock Exchange and some 40 times that of the Ibex in Spain.

For this reason, in 2011 and in the next several years, we will see significant ‘organic’ growth in the online trading industry.

History of the Financial Service Industry and Online Trading click here to read

The Emergence of Online Brokers click here to read

Uriel

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