Broker-Dealer ETF Faceoff

Financial stocks have rebounded from peak-crisis lows, but broker-dealer ETFs like iShares Dow Jones US Broker-Dealers(IAI Quote) and SPDR KBW Capital Markets(KCE Quote) have once again found themselves in the headlines, following proposed regulations put forth by the Obama administration.

Included in the proposals are new fiduciary regulations holding broker-dealers offering investment advice to the same standards as investment advisers. While broker-dealer costs could potentially rise with reform, many of the companies that make up top-heavy IAI and KCE could benefit from measures in the stimulus plan.

Broker-dealers and exchanges have transformed dramatically in the last few years and now provide more transparency and competition for their customers. With the advent of high-speed electronic trading, exchanges like the New York Stock Exchange have been pushed forcefully into the 21st century as trading volume goes up for grabs to the fastest execution.

The pendulum has swung hard and fast from the image of brokers fighting hand and fist to get to a trading post to anonymous algorithms matching electronic order flow with minimal human intervention. The momentum has perhaps swung the pendulum too far past the middle mark, however, and the increased volatility and lack of liquidity in smaller stocks has led many customers to crave human know-how.

The broker dealers that make up IAI and KCE are the large-cap firms that have weathered the storm and have adapted to the changing conditions in the marketplace. LaBranche(LAB Quote) began trimming their ranks dramatically; by December 2007 the NYSE had closed large sections of the trading floor.

IAI and KCE help investors partake in financial stocks while limiting their exposure to credit markets. Both IAI and KCE provide investors exposure to broker dealers and stock exchanges that have been more resilient than many strictly banking institutions. The year-to-date returns for both funds have also been impressive, with IAI and KCE gaining 25.64% and 24.86%, respectively.