Friday, 25 November 2016

Myth about low (Zero) brokerage

Is the low (Zero) brokerage a sure-shot way to earn in the trading?

When it comes to making a profit in business, if we reduce the costs we can make more profit. But is it true for trading in the stock market? Is low (or Zero) brokerage a guarantee to make sure-shot profit?
On the contrary, number of experts believes that the lower brokerage is one of the major reasons for the losses of traders. Here is why they believe so:
  • Lower (zero) brokerage induces us to trade more: When we know, we have lower brokerage and hence lower costing; we are tempted to trade more frequently by believing that we can make profit even in the smaller movement of the price. Hence, we start focusing on all the smaller movements of the price. When we start attending to such a micro movements, we get exposed to all the emotional roller coasters of the price volatility because we are required to react to all the price-movements. i.e. with each of the price movements we get either euphoric or panic. By design, our mind is incapable of handling such frequent and extreme emotions of greed and fear and that leads us to commit the trading errors of either booking profit too quickly or keep moving our stop-loss further and further. Thus, the traders who are incapable of handling their emotions and unable to follow the trading disciplines, would be the big losers because of frequent trading induced by lower brokerage.
  • Lower Brokerage does not mean lower costing: Per say, the lower brokerage gives us the feeling that we are paying less. However, the fact is, when we have lower brokerage, we always want to trade more. With each trade we pay the transaction charges, the taxes and also incur slippages (the jobbing difference). Hence, we might have saved brokerage charges per trade, but we end-up paying higher amount of brokerage and when we calculate the other charges, it is certainly a losing proposition.
  • Do all the traders who pay higher brokerage, make profits? If we say low brokerage is not a sure-shot way to earn; then the question is, “Do all the traders who pay higher brokerage, make profits?” No, certainly no. Even the traders paying higher brokerage may not make money. However, the observation is, the traders paying lower brokerage lose faster. (e.g. if high paying traders wipe-off their capital in say one year, the low paying traders would lose the same amount in less than six months). The high paying traders survives a bit longer in the game. And because they are there on the pitch for longer time, they may get chance to have some favourable trades wherein they might make some money. Also, because they are not attending to the smaller movements in prices they are less likely to have knee-jerk reactions which cause the trading error. They have more time to allow the logical mind to work before the psychological mind reacts. Hence, there are higher chances for high paying traders to survive than the ones paying lower charges.
  • Remember one thing, the broker who is offering lower (Zero) brokerage is not doing it for your benefit but he is designing such schemes for his benefit. With lower brokerage his intention is to tempt the traders to trade more and thereby make more money for himself. We are not saying lower brokerage is bad, but what we need is; lower brokerage along with some mechanism to maintain the discipline and control over the emotions. This could be a winning combination.

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