Trouble on the Horizon for the Brokers?

We all know that the brokers play an integral part in both trading and investing. Everyone who trades needs a brokerage account and some people have multiple accounts with various brokers. These brokers make their money based upon the commissions that they receive, generally on a per trade basis. This has been a profitable model for these brokers as the market conditions of years past have been bullish which encourages people to put their money to work in the financial markets. The more money people put to work in the markets the more commissions the brokers can earn. But with thoughts of a recession looming a recent rash of people pulling money out of play in the markets should mean that the brokers' main source of revenue, their commissions, will fall drastically.
This expectation should lead the stocks of these brokers such as Optionsxpress Holdings (OXPS), The Charles Schwab Corporation (SCHW) and Interactive Brokers Group (IBKR) to fall. In fact, the thought of recession has led to recent declines in the prices of all three of these stocks. What is the problem then? The issue is with the market expectations that these companies are still going to make windfall profits. Under the conditions of tough credit and a market that has seen capital fleeing over the past quarter, it is baffling as to how the analysts can still claim that all three of these brokers (OXPS, SCHW, IBKR) are going to exceed their earnings from the same period last quarter. The stocks are falling for a reason right? And a stock price generally shouldn't fall on a company that is making more money every single quarter.
For the quarter ended June 8, 2008, analysts have given OptionXpress a mean earnings estimate of $0.39 a share versus actual earnings of just $0.35 a share for the same period last year. For The Charles Schwab Corporation that estimate is $0.26 per share versus an actual of $0.23 for the same period last year and Interactive Brokers Group has been give a $0.49 a share mean estimate despite just earning $0.33 a share for the same period last year.
It is important to realize that these companies have other sources of income other than just their brokerage commissions. They operate some proprietary trading and collect a significant amount of interest from margin accounts. The margin interest is also likely to suffer from having a lesser amount of capital entry into the markets and even if these companies were able to keep interest and trading income equal to last year's levels, there is still no possibility that they could have brought in the same amount of brokerage commissions.
The bottom line is that it seems as though these companies are set up to disappoint the market when they report for this most recent quarter. OptionsXpress will report on July 15, The Charles Schwab Corporation on July 14 and Interactive Brokers Group on July 21. If one of them reports lower than expected earnings look for the market to then price in lower earnings for the entire group, but until that happens this can be a great opportunity particularly for you traders out there. These look like prime put option opportunities if you can get in before any fall in expectations takes place. In the long run though the market will rebound and that is the time for those of you who are long term investors to swoop in and pick up these companies, which are actually quite well managed companies, at bargain prices.
Happy investing...happy trading

InglefoX
(disclosure: author is short OXPS)