Every trader is familiar with stock brokers, but you’re likely less familiar with the ways that stock brokers make money. Commissions and trading fees are a part of stock brokers’ revenues, but there’s often much more to it than that. In order to understand how stock brokers really work and what they do beyond placing trades, it’s important to trace where they’re making their money.

What Do Stock Brokers Do?

Stock brokers, whether firms or individuals, are essentially middlemen. They take in a buy or sell order from a client, then find a matching order that allows them to complete a trade at the best possible price for both the buyer and seller. This allows stock and other securities trades to proceed smoothly, even though individual buyers and sellers don’t necessarily have information about counterparts who they could trade with.

On top of that, many stock brokers offer a range of additional services. Full-service stock brokerages don’t just act as middlemen for trades, but also provide services such as tax consulting, portfolio management, and estate planning. These brokerages may also offer real-time price quotes, market news services, and research on short- and long-term market conditions for actively trading clients. Typically, full-service stock brokerages encourage individual advisors to form long-term relationships with clients and charge an annual fee for services that may or may not include trading commissions.

Discount brokerages reduce the number of services available to clients and the often eliminate the personal nature of the advisor-investor relationship found at full-service brokerages. However, by cutting these services they are typically able to offer trades at lower commissions and may reduce or eliminate annual fees. Today, many full-service brokerages also offer discount branches to cater to a wider variety of investors.

A new class of stock brokers, known as robo-advisors, has recently gained in popularity. Robo-advisors serve as brokerages, but they typically automate clients’ trades and portfolio management. Different robo-advisors offer varying services, but most have a small set of portfolios that they allow clients to invest in. The advantage to robo-advisors is that they are extremely inexpensive compared to getting portfolio management services through a full-service brokerage. But, there is often no human advisor to speak with and your portfolio typically cannot be modified beyond what the algorithm allows.

How Stock Brokers Make Money

Stock brokers make money in several different ways, and the main revenue streams may vary among full-service brokerages, discount brokerages, and robo-advisors.

Interest Income

Chances are, some of the money in your brokerage account is held in a money market fund or cash account. You may earn a small amount of interest on that money – probably around 0.25%. But your brokerage likely isn’t just allowing that money to sit in a low-interest savings account. Instead, they’re investing it in a low-risk bond or a government-backed security, which offers returns of several percent. The difference between the several percent that your brokerage is earning on your cash and the 0.25% that you’re seeing as return is interest income for your brokerage.

Interest income is surprisingly important for brokerages, and particularly for discount brokerages. In fact, it can make up more than 50% of the total revenue of discount brokerages – for example, E*TRADE makes more than two-thirds of its revenue through interest income, and Charles Schwab makes 57% of its revenue from interest income.

Commissions

You may feel like you pay a lot in commissions if you place a large volume of trades, but commissions are a relatively small fraction of brokerages’ revenues. Commissions make up 28% of revenue at TD Ameritrade, but just 17% at E*TRADE and 6% at Charles Schwab. The truth is that commission fees on trades are at an all-time low, and the advent of commission-free brokerages like Webull and Robinhood is putting pressure on discount and full-service brokerages to further lower fees.

Payment for Order Flow

When you place a trade, your brokerage has multiple markets to choose from for executing that trade. On small timescales, these multiple markets may have different prices, so your brokerage would take on a small amount of risk in choosing which market to place the trade at.

Rather than take on that risk or develop in-house products for trade execution, the majority of brokerages use internalizers. Internalizers act as middlemen between brokerages and public markets. Essentially, they offer brokerages the ability to execute trades for clients at slightly better than public market prices in exchange for the opportunity to take advantage of arbitrage in prices between public markets.

This arbitrage, on a large scale, is lucrative enough that internalizers actually offer commissions back to brokerages in exchange for routing investors’ orders through them. This is known as payment for order flow.

Payment for order flow is a relatively minor source of revenue for most brokerages. It makes up about 8% of TD Ameritrade’s revenue, 6% of E*TRADE’s revenue, and 1% of Charles Schwab’s revenue. However, payment for order flow is the primary source of revenue for commission-free brokerages like Robinhood – it makes up about 40% of Robinhood’s revenue.

Other Ways Brokers Make Money

Premium Services

The value of premium services, such as free trade programs or access to human advisors, varies a lot between brokers, particularly for discount brokerages. Typically, it is a minor source of revenue. For example, E*TRADE makes about 10% of its revenue through fees for add-on services above and beyond its free brokerage software.

Software Fees

Most brokerages do not charge fees to use their software, so this is a nonexistent form of revenue. For brokerages that do charge software fees, revenue from these fees is typically lumped with revenue from premium services and other fees, and is likely negligible.

Trading Against Clients

Brokerages can bet that their clients will place losing trades and directly fulfill their orders rather than execute their orders on the open market. In that case, if your trade is unprofitable, the brokerage makes the money that you lost.

However, trading against clients by stock brokerages is extremely rare and makes up a negligible amount of revenue for almost all brokerages.

ETF and Mutual Fund Offerings

Brokerages that create and offer their own ETFs and mutual funds also make money off of the exchange fees and commissions on these funds. This revenue can be significant for brokerages that offer these products – 18% of total revenue for Charles Schwab and 10% for TD Ameritrade.

How Do Zero-Commission Brokerages Make Money?

As discussed above, commissions are actually a minor source of revenue for most brokerages. Thus, the business plan of zero-commission brokerages like Robinhood and Webull doesn’t seem so crazy. Instead, Robinhood and Webull make money through interest income and payments for order flow.

Robinhood makes about half of its revenue through interest income, similar to other discount brokerages. However, the fraction of income from payments for order flow is significantly higher – around 40% of total revenue. The remaining 10% of revenue comes primarily through fees for the premium Robinhood Gold service and fees for orders placed outside the Robinhood app.

Examples for Top Brokers

TD Ameritrade

Interest Income: 51%

Commissions: 28%

Payment for Order Flow: 8.4%

Mutual Fund/ETF Management: 10%

Other: 2.6%

E*TRADE

Interest Income: 67%

Commissions: 17%

Payment for Order Flow: 6%

Mutual Fund/ETF Management: 4%

Other: 6%

Charles Schwab

Interest Income: 57%

Commissions: 6.8%

Payment for Order Flow: 1.4%

Mutual Fund/ETF Management: 18%

Asset Management: 11%

Other: 6%

Interactive Brokers

Interest Income: 60%

Commissions: 30%

Payment for Order Flow: 1%

Mutual Fund/ETF Management: 0%

Other: 9%

Full Broker Comparison

Conclusion

Brokerages make money in a number of ways, and commissions aren’t the number one money maker for the majority of stock brokers. Instead, most brokerages make the majority of their money by earning interest on the money you park in your brokerage account. Payment from order flow can also be a significant revenue driver, particularly for zero-commission brokerages like Robinhood.