E-Trade’s Revenue Boost Replaces Lost Interest Revenue

Narrow-moat E-Trade’s (ETFC) merger with Morgan Stanley looks set to close in the fourth quarter of 2020, and its earnings are proving resilient in the face of short-term U.S. interest rates near 0%. E-Trade reported net income to common shareholders of $196 million, or $0.88 per diluted share, on $716 million of net revenue. Excluding $64 million of unusual securities losses a year ago, net revenue decreased 4% from the previous year, while being up 1% sequentially. We don’t anticipate making a material change to our $49.50 fair value estimate for E-Trade and assess shares as fairly valued.

Higher trading revenue is filling in the hole left by lower interest rates. Interest-rate-related revenue accounted for over 60% of E-Trade’s net revenue over the previous two years. With the Federal Reserve decreasing the federal-funds rate to a target range of 0%-0.25%, interest revenue has been under pressure. Second-quarter net interest income decreased $102 million, or 21%, from the previous year to $388 million. While net interest income only decreased $12 million, or 4%, sequentially, fees from money market funds and third-party banks that are based on the interest-rate environment decreased $38 million, or 63%, from the first quarter.

Thankfully, E-Trade has a strong trading business. Combined commissions and payment for order flow increased $43 million, or 26%, from the previous year to $209 million despite the base commission rate of many online orders being set to $0 in late 2019. Daily average revenue trades have increased over 250% from a year ago, as volumes received a boost from the lowered commissions and volatility in the stock market. We expect E-Trade’s revenue to gradually decrease in coming quarters as equity market volatility subsides and interest-earning assets further reprice lower.