Strategic Positioning of the E-TRADE Financial Corporation

Term Paper 2019 22 Pages

Business economics - Investment and Finance


Table of content

List of abbreviations

List of figures

1. Introduction

2. Overview of E-Trade and the Online Brokerage Industry
2.1 Company Overview
2.2 Industry Overview

3. External Analysis
3.1 Macro Analysis
3.2 Industry Analysis
3.3 Competitor Analysis

4. Internal Analysis
4.1 E-Trade’s Value Chain
4.2 Analysis of KPI along the Value Chain

Integration of the Analyses and Recommendations

Conclusion and Investment Decision


List of abbreviations

Abbildung in dieser Leseprobe nicht enthalten

List of figures

Figure 1: Competitor Overview in the Online Brokerage Industry

Figure 2: PESTEL-Analysis of the Online Brokerage Industry in the U.S

Figure 3: Five Forces Analysis of the Online Brokerage Industry in the U.S

Figure 4: Competitor Analysis of the major online brokers in the U.S

Figure 5: E-Trade’s Value Chain

Figure 6: Analysis of KPI along the Value Chain

Figure 7: SWOT-Matrix for E-Trade

1 Introduction

In this paper the company E*TRADE Financial Corporation (‘E-Trade’) is analyzed from a strategic point of view. The objective of this paper is to derive a recommendation for the strategic positioning and evaluate if it would be a clever investment at the moment. In order to reach the objective, this paper follows a comprehensive structure: First, an overview of E-Trade and its industry is given. Second, E-Trade will be analyzed from an external perspective. This includes a macro, industry, and competitor analysis. Third, an internal analysis is conducted which is done by breaking down E-Trade’s value chain and benchmarking internal KPI against the main competitors. Fourth, the findings of the individual anal-yses are integrated in order to derive strategic recommendations for action. Lastly, the results of the paper are concluded and a final investment recommendation is provided.

2 Overview of E-Trade and the Online Brokerage Industry

2.1 Company Overview

E-Trade is a financial services company founded in 1982 by William A. Porter and Bernard A. Newcomb. The company’s main business is providing a trading platform for financial assets, e.g. stocks, future contracts, exchange-traded funds (ETFs), options, and fixed income instruments. Further, E-Trade of-fers products for employee stock plans, online banking as well as consulting and cash management services. The company has been listed on the NASDAQ stock exchange since 1996 and its valuation amounts to $10.25 billion per December 31st, 2019. E-Trade has approx. ~4,000 employees and achieved a total net revenue of $2.87 billion in 2018. The headquarter is located in New York City.

Being nearly 37 years on the market, the company has gone through major developments. In its begin-ning E-Trade was named TradePlus and was one of the first businesses to enable discount brokerage services including access to market information and fully automated trade execution. In the course of the company's history TradePlus was renamed E-Trade and various products and services were added to the portfolio.

The current business offerings can be broken down into five product and services units: (1) Trading, (2) Investing, (3) Corporate Services, (4) Advisor Services, and (5) Banking and Cash Management.

(1) E-Trade offers trading accounts for retail customers over which a range of financial assets like stocks, ETFs, bonds etc. can be traded. Further, margin accounts are provided that enable custom-ers to trade with leverage. Additionally, customers can earn interest via a lending program by offer-ing to lend their securities for margin account customers.
(2) In the product unit ‘Investing’ the company offers investment accounts which can be used for long-term investment needs. E-Trade provides a wide range of investment products like stocks, ETFs and pre-defined funds. Further, services like asset allocation models are offered to help the cus-tomer find suitable investment opportunities based on their risk tolerance. Other components are individual retirement accounts (IRA) and portfolio management services including reviews and in-vestment recommendations conducted by E-Trade or its financial consultants.
(3) In the product unit ‘Corporate Services’, E-Trade offers stock plan administration services for com-panies via their digital platform ‘Equity Edge Online’. The company provides both the infrastructure and the technical solution for stock-based retirement plans and profit-sharing plans including tools for accounting, tax calculation, reporting and scenario modelling.
(4) Within the product unit ‘Advisor Services’, E-Trade provides a comprehensive solution for Regis-tered Investment Advisors (RIAs) from which they can fully manage their advisory business. This means they have a technical platform from which they manage and rebalance their client’s portfo-lios, settle their fees, aggregate client’s accounts, and create performance reports.
(5) Finally, E-Trade operates a bank (‘E*TRADE Bank’) through which it provides online banking, sav-ings accounts, checking accounts, and credit lines.

As the scope of this paper is on analyzing the strategy on a single business unit, the focus lies on the Trading and Investing services and products for retail customers as this is the major business unit of E-Trade.

2.2 Industry Overview

The industry covered in this paper is the 'U.S. online brokerage industry'. The online brokerage industry includes all U.S. companies that offer brokerage accounts to legal aged residents of the U.S. in order to enable investing in financial assets, such as stocks and ETFs, or give access to trading capabilities of derivatives, such as options. The described industry is a sub-sector of the American securities brokerage industry which also includes full-service brokerages, that offer a professional financial advisor who man-ages client portfolios, makes investment decisions autonomously, and provides clients with ongoing assistance (Hayes, 2019).

The entire securities brokerage market is experiencing solid, steady growth. While the total brokerage market generated $118.3 billion in revenue in 2011, $151.2 billion is expected for 2019, representing a compound annual growth rate (CAGR) of 1.52%. In 2023, the market size is expected to grow to $159.3 billion (Statista, 2019). There are no official aggregated revenue figures for the sub-segment 'online brokerages', but with regard to the individual market participants, it can be assumed that this segment is also growing.

The initial starting point for the emergence of the online brokerage industry was in 1975 when the SEC banned practice of fixed income brokerage commissions. Then, in the following years, two fundamental prerequisites enabled the occurred development: on the one hand, the increasing spread of the first home PCs, on the other hand, the great potential for cost savings through IT capacities. The ongoing growth of the online brokerage industry can be attributed to two reasons: (1) digitalization makes invest-ing online more convenient than ever before, and (2) the good economic situation in the U.S. as well as the available financial resources of the population enables customers to invest their savings. Compared to European countries, and Germany in particular, investing in securities is much more widespread in the U.S., as it is seen as an important component of retirement planning. The different attitude towards investing is reflected in the percentage of population investing in stocks. While 55% of all adults in the

U.S. invest in stocks, only 15% do so in Germany (Gallup, 2018; Verband der Privaten Bausparkassen, 2019).

As already mentioned, there is no official market size of the American online brokerage industry availa-ble. However, the main players in the online brokerage industry are the so called ‘big four brokerages’ who combined account for the major share of the total market (Ross, 2019). These four providers are Fidelity Investments, Charles Schwab, TD Ameritrade, and E-Trade, which are the market leaders in terms of AuM (Assets under Management), number of accounts, and total revenue. The following table (Figure 1) shows the main characteristics of the providers.

Figure 1: Competitor Overview in the Online Brokerage Industry

Abbildung in dieser Leseprobe nicht enthalten

Source: Own Representation

Although each of the four companies has recorded significant sales and customer growth in recent years, the industry is under strong competitive pressure (Henderson, 2019). This is partly due to chang-ing customer demands, and partly due to the emergence of various FinTechs, which are able to gain market share through innovative business models and improved customer experience. A detailed anal-ysis of the market forces can be found in section 3.2.

3 External Analysis

3.1 Macro Analysis

In order to conduct the macro analysis of E-Trade the PESTEL-Framework is used. Hereby, it is ana-lyzed how the online brokerage business is impacted by the following macro factors: Political, Economic, Social, Technological, Environmental, and Legal.

From a political perspective, two important factors need to be considered for the online brokerage in-dustry in the U.S.: (1) political stability and (2) trade conflicts. As research suggests, political instability has a negative impact on the equity market (Irshad, 2017). This may reduce the willingness to invest among retail customers and thus might negatively impact commissions for brokers. Currently, political stability in the USA is considered moderate (World Bank, 2018). A deterioration of this indicator could therefore have a negative effect on the profitability of American online brokers. Trading conflicts also pose a threat to online brokers, as the freedom to invest and thus the choice of products may be re-stricted. This in turn could reduce the turnover through commissions for online brokers.

Next, economic factors, namely interest rates, inflation, unemployment and disposable income, are eval-uated. Interest rates in the U.S. are relatively low at the moment with a federal funds target rate range of 1.5-1.75% in December, 2019 (Derby, 2019). Changes in interest rates can be a risk and an oppor-tunity: low interest rates can decrease the net interest revenue of brokerage firms but can also increase the demand of investments in the stock market which could then increase revenue streams from com-missions. Inflation lies at approx. 2.1% in November, 2019 (Bureau of Labor Statistics, 2020a). Changes in inflation poses both risk and opportunity as well. Generally, research suggests that rising inflation negatively impacts stock market valuation vice versa (Cohn & Lessard, 1981). Thus, inflation could in-directly impact the revenue from commissions when an increase in inflation causes a downturn in the stock market and lower investment volume. The unemployment rate in the U.S. is historically low at 3.6% (Bureau of Labor Statistics, 2020b). The low unemployment rate is positive for the brokerage industry as a large share of the revenue results from retirement plans supported by employers. Lastly, disposable income in the U.S. has been steadily increasing over the last years (BEA, 2019). This could generally be positive for U.S. brokerage firms as people have more income for investments and retire-ment savings which can positively impact online broker’s revenue.

In the following the social factors are examined. First, the American population is growing – however at a decreasing rate (World Bank, 2019b). This is generally positive for American brokerage firms as the potential customer base increases. However, since the rise in population is caused increasingly by im-migration and not by domestic births, brokerage firms need to take this into account in the target cus-tomer analysis (NCHS & US Department of Health and Human Services, 2019). The age distribution in the U.S. is slightly changing: the share of people aged over 64 is lightly increasing while the share of people under 64 is decreasing (World Bank, 2019a). The aging population can be both opportunity and threat. On the one hand, older people have more capital to invest and are more likely to save for their grand children’s education. On the other hand, however, many elderly people use their already saved assets to finance their retirement. Lastly, the wealth distribution in the U.S. is changing: The top 10% of the population owns an increasingly large share of total wealth in the USA (Credit Suisse, 2018). This also has an impact on the definition of the customer base of online brokerage firms. While there might be a high number of potential customers in the lower end it has to be evaluated if this customer group also offers the necessary profit potential.

Next, the technological factors are analyzed. Technological factors are strongly linked to social factors, as they have a significant influence on the lifestyle of the population. First of all, it should be noted that due to the growing strength of the digital native generation convenience is one of the most important customer demands of our time (Hyken, 2019). Thus, fast omni-channel solutions with enhanced cus-tomer experience are an opportunity in the online brokerage business. In addition, elements such as data protection and cyber security are increasingly important prerequisites for going to a financial ser-vices provider (IBM & The Harris Poll, 2019). Finally, the continuous development of artificial intelligence and machine learning algorithms enables new use cases within the online brokerage business segment. For example, robo advisors have enjoyed increasing popularity in recent years (Statista, 2020).

The environmental aspects are examined in the following. Although the online brokerage business has no direct impact on the environment due to its special value chain, its positioning in the field should not be underestimated. Climate change is one of the most discussed topics in recent years and also has an important influence on consumer behavior. Within the financial industry, 'sustainable investing' is be-coming increasingly popular (Global Sustainable Investment Alliance, 2019). An early product position-ing in this field therefore represents an opportunity for online brokers. Furthermore, it could be beneficial from an investor relations and employer branding perspective to position the company in that context.

Lastly, the legal factors are evaluated. The financial industry is considered one of the most heavily reg-ulated industries in the USA (McLaughlin, Sherouse, & Strosko, 2017). Since many online brokers also hold a bank subsidiary, restrictions for banking are often also imposed. Regulations cover capital struc-ture, lending activities, deposit insurance, accounting requirements, and restrictions on the qualifications and conduct of personnel. These regulations are of course a major challenge for online brokers, espe-cially since an ongoing increase in legal bases and regulatory practices is expected.

The following table (Figure 2) summarizes the results of the analysis.

Figure 2: PESTEL-Analysis of the Online Brokerage Industry in the U.S.

Abbildung in dieser Leseprobe nicht enthalten

Source: Own Representation

3.2 Industry Analysis

In the following, the industry analysis is conducted by utilizing the framework ‘Porters Five Forces’.

First, the bargaining power of customers in the described industry is assessed. Generally, it can be stated that the online brokerage industry is a bulk business and therefore the number of customers is very high. It is estimated that approx. 38% of adult Americans have used an online investing or trading service in 2018 (Statista, 2018). As a result, their bargaining power is weakened, because in a bulk business the threat of customers changing their supplier is not as strong as in a niche business. In addition, since mainly retail customers are targeted, the average order size is rather small, which also has a negative impact on the customers' bargaining power. Furthermore, the switching barriers in the online brokerage industry need to be assessed. While a few years ago it was still very costly and com-plicated to have your securities transferred to another provider, the picture has changed somewhat in the meantime. Many providers offer step-by-step account transfer instructions to make it easier for cus-tomers to switch to their business. Overall, however, the process is still not digital and convenient, as there are paper forms to be signed and a lot of information needed (U.S. Securities and Exchange Commission, 2009). Therefore, the switching barriers are to be classified as medium. Nevertheless, there are many comparison sites on the internet that rank the providers against each other. As a result, the information availability is very high and leads to an increase in the bargaining power of the custom-ers. Additionally, the high price sensitivity should also be mentioned. In recent months, all major online brokers in the USA have introduced zero commission trading. After a single provider reduced the fee, all competitors very quickly followed suit, as customers in the online brokerage business are very price sensitive and are therefore willing to change providers even if there are only small price differences. The high price sensitivity has a strong positive influence on the customers' bargaining power. Overall, how-ever it can be concluded that customers have moderate bargaining power.

Next, the bargaining power of suppliers is analyzed. The suppliers, which are linked to the core business of online brokers, are mainly (investment) banks, fund managers and stock exchanges. Banks and fund managers act as product suppliers and stock exchanges are basically information and settlement pro-viders. In general, there are a large number of suppliers, as the market for investment products, like ETFs, is very extensive and growing (Deutsche Bank & ETFGI, 2018). However, the investment prod-ucts offered to the retail investor are relatively easy for banks to copy, so that many products differ only in a few details. And since the product suppliers are very interested in getting as much volume as pos-sible into their products, the selection power is rather with the online broker resp. the end customer. As a result, the negotiating power of the suppliers can be classified as low.

In the following, the rivalry between existing competitors is assessed. As already mentioned, the 'big four brokerage firms' are in intense competition. As a result of the industry-wide abolition of commissions on trading in shares and ETFs, the providers now have to face the question of how they can differentiate themselves from each other when prices are no longer a decision-making factor. In addition to creating new products, customer loyalty programs and technological capacities, providers are focusing on inor-ganic growth. For instance, E-Trade took over the brokerage firm 'Capital One' in the end of 2018, and Charles Schwab announced at the end of November 2019 that it takes over one of his biggest rivals’ 'TD Ameritrade'. The closing for the merger is planned for the second half of 2020 (Fitzgerald, 2019). In addition to the intense price war and the strong M&A activity, FinTechs are attacking the business model of established players. One of the best-known FinTechs in the industry is 'Robinhood', which is consid-ered the main trigger for the happening price war as it was the first provider with zero commission trading (Detrixhe, 2019). In addition, rather new business models such as social trading and robo advisors are penetrating the online brokerage market by offering new features for the end customer. All these factors contribute to the fact that the rivalry among existing competitors is very strong and is not expected to decrease for the foreseeable future.

The next step is to evaluate the threat of new market entrants. First of all, it should be noted that the barriers to entering the American online brokerage market are relatively high. On the one hand, this is due to regulatory factors, since regulatory requirements are complex and cost-intensive to meet, just like in the entire financial sector (McLaughlin et al., 2017). On the other hand, rather high initial invest-ments in IT equipment and marketing are necessary in order to be able to gain a substantial market share and footprint within the industry. These factors reduce the risk of market entry. However, since the online brokerage business offers strong economies of scale, market entry can be particularly lucra-tive. Overall, the threat from new market entries can thus be classified as moderate.

Finally, the risk of substitution is analyzed. Substitutes for trading and investing in traditional securities markets, as offered by online brokers, are mainly so-called alternative investment products. These are e.g. P2P lending, investments via real estate platforms, crowdfunding, or investments in crypto-curren-cies. The performance of the substitutes varies and might be in some cases better than that of the stock market or of bonds. In addition, there is often no correlation in the value development of alternative and traditional investment products. However, the risks associated with investing in alternative financial prod-ucts are also in many cases higher with those of regulated securities trading (Connett, 2019). Addition-ally, many of the business models have not yet experienced a severe economic downturn, so the pro-vider’s crisis resistance is still difficult to assess. Overall, there is moderate risk from substitutes.



ISBN (eBook)
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Leipzig Graduate School of Management
Brokerage Business Strategy E-Trade



Title: Strategic Positioning of the E-TRADE Financial Corporation