Am I Paying a Hidden Commission for Stocks?

Editor's note: Ask TheStreet is designed to answer questions about the market, terms, strategies and investment methods. Please email us to ask a question, but keep in mind that we cannot offer specific investment- or stock-related advice.

---

I have been told that quoted ticker tape prices include a fee above the one charged by the brokerage. When I buy stocks, do I actually pay an added, hidden commission? If so, what is the estimated magnitude of the extra charge? -- B.G.

Unlike when you buy a candy bar at the supermarket, when you buy a stock from your broker, there isn't an "Ingredients" label to break down what went into the stock price. Indeed, stock pricing is a topic whose mystery begins at the initial public offering (IPO).

When you buy a stock, your cost for that stock is the market-based price actually paid for the stock plus any commissions and fees paid to a broker in order to acquire it. So is that it, or is there something else -- some hidden commission -- that you don't realize you're paying?

In a sense, yes, you are paying a hidden commission for that stock. It's called the underwriting spread. However, calling it a hidden commission is perhaps a bit misleading. While it's not apparent to most investors, there's nothing hidden or underhanded about it
-- it's just a result of the way most companies go public.

Where Does This Come From?

The underwriting spread is born out of the IPO. When a company (the issuer) decides to go public, they need to find an underwriter (or more typically, a group of them). The underwriter is an investment bank that agrees to help the privately held company offer its shares for sale in the stock market.

In a nutshell, the underwriter will typically acquire the company's shares and sell them to the public -- albeit mainly the institutional public -- through its channels. The selling price is usually based on an impressively complex set of calculations and permutations. This determines the stock's market value (which could be, and usually is, markedly different from its fair value). The underwriter marks the stock up before it sells it. This markup is known as the underwriting spread. From the stock's public inception, the underwriting spread is built into the share price of the stock.

« Previous Page

1 2 3

Next Page »