Making money in stock trading isn’t simply a matter of investing and then collecting your return. You must pay for the opportunity to invest in the stock market. Stock brokers and brokerages charge commissions and other trading fees in exchange for helping you execute your trades. They’re “times two,” payable when you buy and again when you sell, according to the Pennsylvania Department of Banking and Securities.
Brokers and Their Commissions
Two types of brokers are common in stock trading: discount brokers and full-service brokers. Discount brokers aren’t in the business of giving investment advice. They’re not investment advisors, so they simply handle your trades for you. Their commissions and management fees are typically more modest for this reason.
Full-service brokers may charge a flat fee for their assistance, or a commission-based fee. You’ll pay a higher rate of commission because they’re acting as your financial advisor and guiding you, not just handling your trades.
FINRA regulatory rules dictate that an agent “shall not charge his customer more than a fair commission or service charge, taking into consideration all relevant circumstances…” One of these circumstances is market volatility.
What’s the Commission Schedule?
Calculating the commission you’ll pay begins with accessing your brokerage firm’s commission or fee schedule. However, FINRA also states that disclosure of the fee doesn’t support or justify a commission that isn’t reasonable.
Discount brokerage services tend to charge a flat fee per transaction that includes commission, regardless of share price or the number of shares you’re trading. It can run anywhere from less than $5 to as much as $30 for an online stock trade.
Calculating Commission Costs
Calculating commission costs can be a simple, one-on-one process for each trade you make. For example, assume a $5 fee for your discount broker. Your total commission costs to buy and sell a single stock will be $10: $5 to buy and $5 to sell. You’d net $40 if your entire buy-and-sell transaction resulted in a profit of $50.
Now suppose that your brokerage is disclosing its commission rate rather than stating a flat fee. The equation becomes more complicated. You’ll need the commission rate, the lot volume and the current bid price.
Let’s say that the rate is 0.5 percent. Lot volume is 0.02. One lot represents 100 U.S. stocks, so 0.02 works out to two stocks. The bid price is $100. The equation would work out like this:
$100 x (0.02 x 100) x 0.5 percent = $1.00
You’d pay $1 in commission for a 0.02 buy or sell order on two stocks, but then you must multiply this by 2 if you both buy and sell. You might make $50 on the trade, but you’d actually pocket $48.
Beware Low Commission Costs
Beginners might think it seems logical to seize on the services of a brokerage that’s willing to perform for negligible commission costs, but buyer beware. It’s not unheard of for a broker to apply such a rate only to certain accounts. You’ll be hit with a higher rate if you don’t meet certain requirements, so read the fine print and look for any additional information if an advertised commission-based fee seems really low. There may also be additional fees and charges on top of commission fees, such as advisory fees and extra brokerage fees.
You’ll also want to keep that FINRA rule in mind about “fair” commissions. Market volatility is one of those relevant factors that can influence this. Investor.gov warns that you could conceivably suffer a significant loss simply because the market fluctuates wildly mid-process, even if your trade is based on comfortable commission costs.
This information pertains specifically to stock trading, but commissions can also come into play if you’re investing in other types of investments, including exchange-traded funds (ETFs), mutual funds or assets held within an IRA. They can apply whenever you make a transaction through your brokerage account on any trading platform, be it a robo-advisor, a mobile app, online trading with an online broker or trading in person. Commission-free trading or trading with no transaction fee is rare.
- Brokers make money in different ways. If you have a margin account, you pay interest on the funds you borrow from the broker. Clients may trade options, mutual funds, bonds and other products, which generate additional commissions for the broker.
- Pay attention to the bid-ask spread, which is the difference between the offer and asking prices for a stock. If the spread is too high or the market is very volatile, place a limit order stipulating an exact price.
Beverly Bird has been writing professionally for over 30 years. She is also a paralegal, specializing in areas of personal finance, bankruptcy and estate law. She writes as the tax expert for The Balance.