Over the last five years, shares in Hargreaves Lansdown (LSE:HL) have fallen 51%. That makes the stock one of the worst performers in the FTSE 100.
Sometimes, a falling share price can be a buying opportunity. Other times, though, it can be a sign that a business is in trouble.
In the case of Hargreaves Lansdown, I think it’s the latter. With a dividend yield of 5%, the stock looks cheap, but I think the company faces a real problem for the long term.
Business model
Hargreaves Lansdown is an investment services firm. At first sight, its business model looks like a good one.
The company makes money in a couple of ways. First and foremost, it charges fees to investors to make investments and to use its platform.
HL also earns interest on the cash deposits in customer accounts. The model here is similar to the way banks earn returns on the balance in customer current accounts.
On the face of it, this looks like a good business model. Fees aren’t particularly onerous and customers generally don’t move their money around too much.
The cost to HL is also fairly low. This allows the company to distribute most of the cash it generates to shareholders in the form of dividends.
All of this is attractive from an investment perspective. But I think there’s a big problem for the business, which explains why the share price has been tumbling.
Commissions
I have serious doubts about the long-term viability of the company’s fee-based revenue streams. As I see it, there’s a real danger of this falling sharply.
To see why, it’s worth looking across the Atlantic. Over in the US, a broker called Charles Schwab has reduced commissions to zero.
When Schwab began doing this a few years ago, every other retail broker in the US suddenly faced an existential threat. They needed to either find a way to do without commission fees, or face going bust.
How did Schwab do it? By deciding to only make money on the cash held in consumer accounts. This brought in customers more customers, increasing the value of those cash deposits.
I think that trend is making its way over to the UK, albeit gradually. And I think that when it settles in, HL’s fee income is going to dwindle rapidly.
The good news for HL shareholders is that the company has been building out this revenue stream itself. Interest on deposits brought in £12m in the second half of 2021 – this grew to £125m in 2022.
At the moment, though, platform fees and transaction fees make up around 54% of the HL’s revenue. If commission-free investing takes hold in the UK – and I think it will – HL stands to lose a lot.
Value trap
I don’t think Hargreaves Lansdown is going bankrupt or anything of the sort – for one thing, the company’s balance sheet is much too strong. But the falling share price looks like a trap to me.
But I don’t think it’s a good investment at today’s prices, either. If the US is anything to go by, the future of retail investing doesn’t have a place for the kind of fees that make up most of HL’s revenue.
