Profiting from New Market Guppies

The financial markets have been buzzing.

Millions of new trading accounts have been opened and we’re seeing investor participation at levels we haven't seen in 20 years.

Charles Schwab Corp. (NYSE:SCHW) has been playing catch up over the last year in a strange war on brokers.

Popular apps like Robinhood have transformed the landscape for the first time since online brokers became a thing in the 90s.

Robinhood’s app makes it simple to buy and sell stocks from your phone and they offer commission-free trades.

Previously, you’ve been hit with fees on each side of your holdings. When you buy, that’s $10. When you sell, that’s another $10. If you trade options, you’ll be hit with both a flat fee and a per contract fee.

Robinhood and others broke this system. The likes of TD Ameritrade Holding Corp. (NASDAQ:AMTD), E*TRADE Financial Corp (NASDAQ:ETFC) and Schwab have all had to fall in line. Each of these major brokers ended up finally capitulating last year.

Now, there are pretty much no fees across the board. Schwab was late to the party, but eventually fell in line too.

But this battle is far from over.

Round Two

While on the surface, it appears all of these companies are direct competitors. They aren’t. Prior to them all dropping trading fees, they made their money in vastly different ways.

E*TRADE made about 17% of its revenue from commissions. TD Ameritrade derived about one out of every three dollars in sales from fees. Schwab, on the other hand, banked just 8% of its top line from trading fees.

That set the three apart. But it also created an opportunity.

Clearly, the three majors had been failing to keep up with the likes of Robinhood. And while they all announced their own defeat, the elder of the group made its move.

Schwab announced last November, shortly after gutting its own fees, that it was going to purchase TD Ameritrade for $26 billion.

Now, this makes sense. Sure, TD had the most to lose when commissions disappeared. But that also made the company a cheaper target.

Schwab’s business model involves cross-selling different services to its customers. If you use Schwab, you likely know about or even have checking accounts, financial advising services and other money makers for the company.

The acquisition of TD will allow Schwab the chance to sell all of its various services to the millions of new customers coming over.

Shareholders of both companies, as well as the Department of Justice just approved the deal.

Still, shares of Schwab lag those of E*TRADE despite having this huge growth opportunity:

All of this alone might make for a unique rebound opportunity in SCHW. But there’s one final reason why you should consider buying shares of this grandfather of brokerage services.

Fractional Shares

A second major development has been underway in the brokerage wars: fractional shares.

If you’re unfamiliar with how they work, consider this example.

Let’s say you want to buy shares of Amazon.com Inc. (NASDAQ:AMZN). But you don’t have $2,550 laying around. You’re out of luck, right?

With fractional shares, you can buy, say, $255 worth of Amazon instead. That would give you a 10% piece of one share.

Since the idea was abandoned in the late 90s during the tech boom, that would have been impossible. But now, all of these major players have brought back the idea.

This is even more important when it comes to a specific type of customer.

Those who want to reinvest their dividends struggle with how to do it. Often, dividends received don’t equate into full shares you can just purchase upon receipt.

With fractional shares, you’ll be able to immediately reinvest the full dividend you receive. That creates a strong incentive for long-term investors. Those likely to stick with a brokerage service for years.

Now, here again, Schwab was late to the party. It only launched its fraction share “Schwab Stock Slices” program two weeks ago.

Robinhood’s fractional share program, on the other hand, launched late last year. However, it is only in beta. And more than 1 million customers are still on the waitlist.

This gives Schwab its first real advantage. It is able to harvest TD’s massive customer list for its cross-selling strategy. It was able to knock out a competitor in the process. And now it has launched a popular program that should garner even more interest from prospective clients.

And the best part is, it is trading at a significant discount right now. Post-acquisition, there’s no reason it wouldn’t be traded at a premium compared to E*TRADE. But even if it just closes the gap in prices, shareholders that buy SCHW today would be looking at a 40-50% profit.

SCHW might not be the sexiest of stocks in the world. But when a company like this goes on sale, smart investors should act. This is a buying opportunity.