Many people buy sports cars even though they never intend to race. By the same token, our
Online Broker Survey
readers have switched their accounts to direct-access brokers, even though only a small percentage see themselves as daytraders.
Why switch? Survey participants say direct-access traders offer key features that give them an edge over customers of traditional brokers.
And among those "extras," one surpasses all others in importance: the ability to execute and confirm orders instantly.
Direct-access brokers, as the name implies, bypass middlemen employed by traditional brokerages and allow investors to make trades directly with an exchange, electronic communications network (ECN) or market maker.
This speedy trading process is accompanied by a set of high-end features that clearly appeal to the 597 survey participants (out of more than 2,400 total) who identified themselves as direct-access traders, according to their survey responses and emailed comments.
Direct-access investors say real-time Level II
quotes -- which show the latest
ask prices as well as the last trade -- and real-time charts give them a clearer window on the markets. Other extras, like real-time portfolio management, let them trade with more confidence. In a nutshell, respondents say they really like their direct-access bells and whistles, whether they use them to daytrade or just to make a handful of position trades each month.
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In the near future, all of us may get a taste of some of these direct-access trading features, regardless of where we park our portfolios. Mainstream brokers like
already provide watered-down versions of direct-access software for their customers who trade actively. Schwab's Velocity, for example, lets you create customized watch lists of stocks that update in real time. You also can submit orders for more than one stock at a time. E*Trade, in addition to providing real-time streaming quotes, lets its active-trader customers place orders on
, an ECN, during after-hours trading.
Though entry-level direct-access services like Schwab's Velocity are not as robust as those offered by
direct-access brokers, such as
, in one important respect they're the same: The trading software resides on your computer and not on your broker's server. That fact alone greatly accelerates the speed with which you can trade. Why? There's no waiting for pages to download from your broker's server. Instead, you receive a steady stream of raw financial data -- the stock prices. That data is then organized for viewing by the trading software on your desktop PC.
Some direct-access brokers charge a fee for their software, which can run as high as $300 per month. That fee is typically waived if you make 50 or more trades per month. Increasingly, however, direct-access brokers are letting customers use the software for free, with no minimum trade requirement.
Under the Hood
Let's take a closer look at how direct-access brokers differ from their mainstream cousins.
The difference is a little like comparing a Buick to a Porsche. Sign up with a direct-access broker and you get a software trading platform that, to the uninitiated, can look a little like a fighter-jet control panel. A half dozen or more windows track the markets. Charts build in real time like electrocardiograms, or EKGs, while the positions in your portfolio tick up and down in value with each heartbeat.
But that's only half the story. Direct-access brokers let you route your buy or sell orders directly to an exchange, such as the
New York Stock Exchange
; to an ECN, such as Instinet or
; or even to a market maker for a particular stock. There's no waiting long moments for a confirming email. Zap off a bid, and if the price is right, it gets executed -- usually in a fraction of a second.
Contrast that to the way typical brokers route your order. You check the stock's price. Fill in the order form. Confirm your password. Then let it fly. From there, the order is in your broker's hands. Depending on market conditions, any number of things can happen. Your broker might take the other side of your trade. Alternately, your broker might route your order -- if it's a Nasdaq stock -- to a market maker for execution. Or the broker may have a financial arrangement to route orders to a particular trading firm. (For more on these arrangements, see our
story on payment for order flow.)
Whichever route your order takes, the bottom line is this: Prices can change during the delay -- and you could miss an opportunity.
Direct-access brokers can help you seize those opportunities. That's because direct-access trading software lets you see up-to-the-second prices. You can jump on an opportunity the moment you see it. Just as important, if you see momentum shifting, you can cancel a pending order with equal speed. That capability translates into money saved, whether you're trading for 1/16th of a point or getting in and out of long-term positions. Think of the standard transmission on a Lincoln vs. the gearbox on a Ferrari.
perhaps put it best: "Let's face it," he writes. "Regardless of how frequently or infrequently one trades, it is vital to have the best execution possible. For that you need a direct-access broker; the rest simply cannot compare."
Customer Service Concerns
It's notable that customer support ranked last among the factors that led traders to switch to direct-access brokers, despite the fact that many reported receiving poor customer service. Judging from write-in comments we received, customer service is an area direct-access brokers can definitely improve upon.
That should serve as a note of caution for those of you tempted by advanced direct-access features. They take time to learn, and they don't always work the way they should. To stretch our analogy: Just like a sports car, direct-access software can require a lot of tinkering before it works properly. The comments we received suggest breakdowns and spinouts are all too frequent. Survey respondents complained about real-time portfolio balancing tools that didn't work, orders that didn't go through and Java applications that froze their computers at critical moments. One writes: "It appears to me that while direct access is a great idea, you require a real pioneering spirit to employ one of these services at this juncture."
Other responses suggest direct-access brokers -- no surprise -- are especially prone to breakdowns during heavy volume days. "I still believe that online brokers' biggest concern should be making certain their clients have fast, easy and reliable access regardless of market conditions," writes
. "If that means getting faster, bigger servers, then they should do it without hesitation."
Whether or not they receive adequate hand-holding, are direct-access customers satisfied with their brokers? Written responses suggest the answer is yes. "After experiencing direct trading it would be difficult to go back to the Charles Schwab speed of execution," writes
, who has accounts with CyBerCorp.com and
. "Both have too many features to ever consider using them all," he admits. "I am currently daytrading, but I would keep my direct-trading brokers even if I reverted back to trading longer term."
Seems that just like with sports cars, we enjoy all that power under the hood, even when we're cruising in the slow lane.
Mark Ingebretsen is editor-at-large with
Online Investor magazine. He has written for a wide variety of business and financial publications. Currently he holds no positions in the stocks of companies mentioned in this column. While Ingebretsen cannot provide investment advice or recommendations, he welcomes your feedback at