Electronic trading innovator predicts brokerage industry cull

Thomas Peterffy, the billionaire owner of Interactive Brokers and a pioneer of electronic markets, says there will be a huge cull of the US brokerage industry in years to come, triggered by falling revenues, rising costs and a mounting regulatory burden.

Mr Peterffy founded Interactive Brokers nearly four decades ago to harness technology to broaden and improve access to equity markets for investors. Many of those advances have proliferated across the industry, and trading US stocks has never been cheaper or easier.

Coupled with the burden of increasingly onerous regulation, only a minority of the nearly 4,000 securities firms registered with the US regulators will endure, Mr Peterffy told the FT.

“The brokerage industry has become incredibly efficient. It’s all about taking costs out of the system,” Mr Peterffy said. “Only one-fifth of brokerages will survive. There will be fewer and bigger firms. Trading will be extremely cheap and efficient, and there will be more semi-automated trading algorithms.”

Competitive pressures are expected to intensify in the coming years, due to technology lowering commissions while increasing costs. Investors are also moving away from individual stockpicking and towards passive investment strategies. The mounting burden of regulatory supervision, such as the labour department’s recent overhaul of retirement advice aimed at financial advisers is also seen as weighing on brokerages.

“Everyone is feeling the cost pressures,” said Fred Cannon, director of global research at KBW. Although he doubts that as many as 80 per cent will drop away, “there will be more consolidation to come . . . There is excess capacity in the industry.”

The number of US brokerage firms registered with the Financial Industry Regulatory Authority has been shrinking for some time, with nearly 500 disappearing from the regulator’s books since 2011.

Eric Noll, the chief executive of Convergex, a US brokerage, said that smaller stock market-focused firms would come under particular pressure from slumping trading revenues and rising costs.

“It’s become a scale game,” he said. “Increasing competition has brought rates under pressure, there is more regulation, and more technology investment . . . Everyone is looking for new and better ways to run their business.”

Mr Noll argues that small but nimble firms able to take advantage of technological advances more quickly than the “big five” brokerages — Charles Schwab, Fidelity, ETrade, TD Ameritrade and Scottrade — will be able to thrive. “The industry has overcapacity and costs have come up, but small, innovative players can still flourish,” he said.

Mr Cannon said another bright area is the bond market, which is garnering more interest from retail investors but is at the early stages of embracing electronic trading, so commissions are typically much higher than in equities.