Brokerage Fee – Definition

Cite this article as:"Brokerage Fee – Definition," in The Business Professor, updated February 29, 2020, last accessed August 8, 2020, https://thebusinessprofessor.com/lesson/brokerage-fee-definition/.

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Brokerage Fee Definition

Brokerage fee refers to a fee that brokers charge you for using any of their specialized services. During buying and selling in a financial market, there is usually a transaction cost involved. This cost is what is known as a brokerage fee. The brokerage fee may apply to things such as sales, purchases, consultations, delivery, and negotiations. These charges from brokers usually have an impact on returns and overall experience.

A Little More on What is a Brokerage Fee

All brokerage fees are based on a transaction’s percentage, either a hybrid of the two or as a flat-rate fee. Note that fees for brokers vary depending on the broker and the industry.

In some industries, like in real estate, broker fee has a standard percentage they charge a buyer, seller, or both. In the insurance industry, it is rare for a broker to charge a buyer of a policy. Remember, in the insurance industry, the broker represents the customer’s interests and not the insurer’s.

So, they always strive to find the best insurance policies that suit the needs of the customer. The broker usually collects a fee from an individual who purchases the insurance policy.

Types of Brokerage Fee

A brokerage fee is a cost that comes up when you engage in a trade. These charges eat into profits or returns. It is, therefore, important that an investor puts this into consideration during investment. The following are types of brokerage fee:

Commission fee: This is a fee charged based on either a flat fee per trade or traded volume. The most common in the European market is the traded volume.

Spread fee: Spread is the difference you get between the selling and buying price. When you buy and sell at the same time, you encounter a loss known as spread cost.

Let’s assume that the purchase price of an Apple share is $151, and the selling price is per share is $150. It means that if you purchase one Apple share at $151 and sell the same at $150, you lose $1. The $1 loss, is what we call to spread the cost. Note that when the spread is wide, the cost becomes higher.

Financing rate fee: It is also known as the overnight rate. It is usually charged if someone happens to hold a leverage position for more than a day. A leveraged position is where you borrow cash from a broker for the purpose of trading. There is interest payable for the borrowed money, and this is what we call a financial rate.

Conversion fee: This type of fee is charged when you convert your currency. It occurs under these circumstances:

  • During trade with different currencies
  • When depositing or withdrawing cash in different currencies

How Conversion Fee Works

Let’s assume you buy Apple shares from your EUR brokerage cash account. In this case, the online broker will first have to convert the EUR to USD before he or he can purchase the Apple share in USD. There is a cost involved in the currency conversion process.

So, if you are a frequent trader, then you should expect a serious negative impact on your results. Remember, this type of implicit charges usually don’t reflect on the fee report. It, therefore, means that you are likely not to notice it.

However, there is a way you can comfortably avoid this type of fee. Have both a USD and EUR brokerage sub accounts with different currencies at the same broker. The two brokerage subaccounts will eliminate the conversion fee by allowing you to trade in both currencies at any given time.

Reference for “Brokerage Fee

https://investinganswers.com/financial-dictionary/stock-market/brokerage-fee-5226

https://www.investopedia.com/terms/b/brokerage-fee.asp

www.businessdictionary.com/definition/brokerage-fee.html

https://brokerchooser.com › How to invest

https://legal-dictionary.thefreedictionary.com/Brokerage+Fees

Academics research on “Brokerage Fee”

Uncertainty, efficiency, and the brokerage industry, Knoll, M. S. (1988). Uncertainty, efficiency, and the brokerage industry. The Journal of Law and Economics31(1), 249-263.

The Principal‐Agent Relationship in Real Estate Brokerage Services, Arnold, M. A. (1992). The PrincipalAgent Relationship in Real Estate Brokerage Services. Real Estate Economics20(1), 89-106. This article investigates the principal‐agent relationship between the owner of a house and her real estate broker. The principal’s (owner’s) problem is to design a contract that induces the agent (broker) to adopt a selling strategy that maximizes the owner’s expected return. A sequential search model is utilized to analyze this principal‐agent relationship. Three different systems for paying the broker are considered: fixed‐percentage commission, flat‐fee, and consignment. Both the discount factors of the owner and the broker and the net costs of ownership incurred while attempting to sell the house play a central role in determining the nature of the optimal contract. The analysis demonstrates that the fixed‐percentage commission system is the only one of the three systems considered that can induce a first‐best, incentive‐compatible contract. A numerical analysis provides insights regarding the effect of the fixed‐percentage commission system on competition in the real estate brokerage industry.

Brokerage commission schedules, Brennan, M. J., & Chordia, T. (1993). Brokerage commission schedules. The Journal of Finance48(4), 1379-1402. It is generally optimal for risk‐sharing reasons to base a charge for information on the signal realization. When this is not possible, a charge based on the amount of trading, a brokerage commission, may be a good alternative. The optimal brokerage commission schedule is derived for a risk‐neutral information seller faced with risk‐averse purchasers who may differ in their risk aversion. Revenues from the brokerage commission are compared with those from a fixed charge for information and the optimal mutual fund management fee.

Fixed-percentage commissions and moral hazard in residential real estate brokerage, Carroll, W. (1989). Fixed-percentage commissions and moral hazard in residential real estate brokerage. The Journal of Real Estate Finance and Economics2(4), 349-365. If home sellers cannot monitor real estate brokers’ efforts on their behalf, fixed-percentage brokerage commissions can promote welfare by giving brokers an incentive to tailor their services to their clients’ demands. This article shows how a competitive broker optimally allocates selling effort across clients who pay different commissions. There is an equilibrium in which clients who value brokerage services more highly offer to pay larger commissions and consequently receive more selling effort from the broker. If clients who are selling higher-priced houses tend to value brokerage services more highly, then this result helps explain the prevalence of fixed-percentage commissions in the residential real estate brokerage industry and suggests that they could emerge in a competitive setting.

The pricing of security dealer services: An empirical study of NASDAQ stocks, Stoll, H. R. (1978). The pricing of security dealer services: An empirical study of NASDAQ stocks. The journal of finance33(4), 1153-1172.

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