Robinhood is a new broker, who lets customers purchase US stocks for no commission. Yes, that is true, customers pay no commissions when they purchase stocks using Robinhood.

Robinhood
By Lg1025 (Own work) [CC BY-SA 4.0], via Wikimedia Commons
Robinhood

The service is available for customers with iPhone’s or Android phones. I believe Robinhood could provide much lower fees to many beginning investors. To me, it would be much nicer to be able to allocate $2,000 – $3,000 into shares of 10 – 15 companies every month without paying commissions, rather than be limited to 2 – 3 investments for that month. Long-time readers know that I do not want to pay more than 0.50% in commissions on my purchase amount, and I also rarely sell. Your assets at Robinhood  are also SIPC insured, meaning that your assets are protected for amounts under $500,000.

There are several appealing factors behind Robinhood:

  • Zero commissions on US Stocks
  • No account minimums
  • No Inactivity Fees
  • No Deposit/Withdrawal fees
  • Trades are executed right away at good prices
  • Investor assets under $500,000 are insured by the SIPC

The items I don’t like are:

  • Only available for a limited number of people
  • Has not existed long enough
  • Only available using an app
  • Does not allow opening IRA accounts
  • Does not allow automatic dividend reinvestment
  • Does not allow purchasing fractional shares

I opened an account a little over two years ago. To open an account, I went through the usual forms of identification ( address, Social Security number etc), and then had to link my bank account information. After I signed up, and the account was approved, they prompted me to download their app on my smartphone. I decided to put a few hundred  dollars in the broker.

I bought a couple of shares at Robinhood, and the process was very quick and efficient. The prices I paid were fair. It was nice that I didn’t have to pay any commissions for those investments. If I were a new investor just starting out, I would definitely use Robinhood as a starter broker.

The trades are executed only through a smartphone. While the sign up for the account was on my computer, the trading interface is only through that app on the phone. I know that this will be a very appealing feature for many younger readers, who can invest from anywhere. With commissions at zero, many investors will probably start investing more actively, which is usually a recipe for disaster for 90% of investors out there. I am relatively young myself (or at least consider myself that way), but I do not want to just be limited to an application on my phone when it comes to investments. Plus, if the app crashed or is being updated, I would not be able to make investments.It would be helpful if Robinhood also was accessible through a website.

The idea of zero commissions is very appealing, particularly to new investors who add money to their accounts regularly. If I were starting out today, and didn’t have a lot of money, I would use this application to build out a portfolio. I would watch out for other fees however. For example, it costs $50 to trade listed foreign stocks. It also costs $10 to make trades over the phone. Transferring securities out is another way where you will get hit by fees – there is a $75 outgoing ACAT transfer fee.

Zero costs are great, but it is also important to think about system reliability, and security. In my experience, Robinhood has always performed well, and I thought that their technology worked great all the time. Over the past 2 years, I have been satisfied with their instant execution at the best price of the moment, without any commissions. The app has worked pretty well during the period.

So how can a broker offer zero dollar trades? I believe that this broker will earn money by routing orders to exchanges that pay them fractions of a penny for order traffic. The broker will also earn money by potentially matching high frequency traders with your orders. The high frequency crowd essentially front-runs individual investors to earn a fraction of a penny per share, multiple times per day. As a long-term buy and hold investor, I do not care whether I buy Coca-Cola (KO) at $37/share or $37.01/share. The only thing that matters to me is that I do not pay more than 20 times earnings for Coca-Cola and that the earnings per share can grow over time, in order to justify valuation and generate more dividend growth in the future.

Another way that brokers earn money is by charging margin interest rates to their clients. Many like Schwab for example charge anywhere from 6% – 8% for margin loans (buying shares with borrowed money). Given the fact that money is so cheap today, this is a nice profit for the broker. The other way that brokers earn money is by lending out your shares to short-sellers, who pay them a short rebate. If Robinhood can somehow gain scale, and attract a lot of investors that trade often, they should do pretty well for themselves, once their fixed costs are met. In the  business, a brokerage must meet steep regulation hurdles and costs, in order to handle client money.

Robinhood does have a margin loan feature called “Robinhood gold”. It is open to any customer with an account balance that exceeds $2,000. Instead of charging you interest, they charge a flat fee for 30 days. The fee amount is dependent on your account balance. It comes out to roughly 0.50% per month on the amount you borrowed to purchase shares. For margin balances exceeding $50,000, the company charges an 5% APR.

The idea of zero commission stock trades is not new. When I was first starting out with dividend investing, I used Zecco, which used to offer zero commission stock trades to investors. First they offered 40 free trades per month, then it was decreased to 10 trades/month. After that, the broker required a $2,500 minimum amount invested in order to be eligible for the free commissions, followed by an increase to $25,000, and then abolishing the free stock trades. Despite the increasing level of hoops however, for someone like me in the accumulation phase, it was helpful to be buying my first shares without incurring much in transaction costs. There are other companies like Merrill Edge which also offer free trades every month to their customers. The problem is that there are several hoops to jump through in order to qualify for free trades. In the case of Merrill Edge, I have to have at least $50,000 in securities at the broker, as well as a Bank of America account in order to qualify.

That being said, Robinhood is a great broker for new dividend investors today. It offers free real-time trades, doesn’t have any account minimums or any fees, and doesn’t charge any commissions. The broker does not offer fractional shares and dividend reinvestment. However you can always accumulate cash and combine those with new deposits to invest in the best values at the moment. Right now, Robinhood also