E*Trade Looks to Outgrow That Talking Baby

E*Trade Financial (ETFC) may boast some of the most popular advertisements on TV, but the company still can't make a profit. Hobbled by bad loans that blew up in the financial crisis, it's stuck at fourth place in the highly competitive online brokerage industry.

E*Trade executives are thus trying a new strategy: While not entirely abandoning their talking baby campaign, they're spending more than half of an increased ad budget on messages without the stock-trading infant. The talking baby ads, which began airing during the 2008 Super Bowl, have been a hit with TV viewers. Nielsen (NLSN) said on Feb. 9 that an ad featuring the E*Trade baby with a sneezing cat was the third most-liked commercial during the 2011 Super Bowl, watched by a record 111 million people. Because of the baby, "we have much higher brand recognition vs. the competition," says Nicholas Utton, E*Trade's chief marketing officer.

Despite the attention, the New York-based company has fallen behind rivals in assets and new customer signups. Since the end of 2007, E*Trade has boosted its number of brokerage accounts by 9.4 percent, to 2.7 million. That's solid growth, but much of the online brokerage industry has seen a heavier influx of assets. Charles Schwab (SCHW) has increased its active brokerage accounts by 13.5 percent since 2007 and TD Ameritrade (AMTD) has boosted total accounts by 24 percent in that period.

The growth lag dates back to 2007, when many potential customers were spooked by financial problems caused by bad mortgages and other loans made by E*Trade's bank. In November 2008, a Citigroup (C) analyst estimated a 15 percent chance of bankruptcy for E*Trade. Customers closed 256,000 E*Trade accounts during that quarter. From the start of 2007 through 2008, E*Trade's stock price tumbled 95 percent.

No "Near-Death Experience" for Rivals

The problems severely harmed E*Trade's brand image, says Alois Pirker, research director at the Aite Group, a financial services consulting firm in Boston. "The online brokerage market has done very well," Pirker says. "E*Trade has definitely lagged behind." E*Trade's larger rivals—which include not just direct competitors Schwab and Ameritrade, but also Fidelity Investments—"stayed very nicely out of trouble during the downturn," Pirker said. "They didn't have a near-death experience. That obviously helped them."

In response, E*Trade has shrunk its bank, reducing its loan portfolio from $25.5 billion to $16.9 billion over the last two years. Some of the damage to E*Trade's brand may be starting to heal, says BMO Capital Markets analyst Michael Vinciquerra. "The troubles they had are starting to get further in the rear-view mirror." A rising stock market may also be improving customers' moods, he says. E*Trade said on Jan. 26 that it had added 27,600 net new brokerage accounts during the last quarter, up from 7,200 in the previous quarter. Trading activity rose 19 percent over that of the previous quarter.

Still, proof that E*Trade, which reported a net loss of $24 million last quarter, gets less respect than competitors comes in the occasional rumors that it could be taken over by a larger company. As the smallest of the "big three" online brokerages, after Schwab and Ameritrade, "they are going to be constantly discussed as an acquisition target," says Joel Jeffrey, equity analyst at Keefe, Bruyette & Woods (KBW). At the end of 2010, customers had $176 billion in assets at E*Trade, while $386 billion in client assets were at Ameritrade, with $1.6 trillion at Schwab. Fidelity, a privately held company, claimed $3.3 trillion in total assets as of Sept. 30. For now, the acquisition talk appears insubstantial. "I don't sense they're in a hurry to sell," Vinciquerra says. For one thing, executives are optimistic they can boost the value of the franchise by adding brokerage customers and continuing to trim debt, he says.

There is little evidence that E*Trade's brokerage offerings, which generally get high marks, are holding it back. Corporate Insight, a firm that annually rates the offerings and usability of financial service websites, awarded four top ratings to E*Trade on Feb. 8 for, among other things, its product and service range and how it delivers account information. An investor or trader on E*Trade over the last few years wouldn't have noticed an impact from the problems at E*Trade's bank, says Corporate Insight brokerage analyst Tim Ullrich. In a competitive industry whose players are constantly adding new features to their websites, "they've never slacked off on it," Ullrich says.

Leading Capabilities and Apps

Like other online brokerages, E*Trade is adding complex tools for traders, such as options, and further materials to educate customers on how to invest and trade. E*Trade has also led most competitors with its capabilities for foreign stock purchases and its applications that run on mobile phones and Apple's (AAPL) iPad. What's holding back E*Trade may not be its offerings but its customer image, something the talking baby ad campaign isn't improving, says Robert Ellis, a principal with Fast Track Advisors, a wealth-management consulting firm. The ads are irreverent and silly. In fact, last year's Super Bowl ad featured babies discussing a "milkaholic" tot named Lindsay. In September, E*Trade settled a lawsuit with the actress Lindsay Lohan, who claimed the ad referred to her battles with substance abuse. It's an unusual strategy for a financial company. "How many people want to take advice from a baby?" Ellis asks. "One thing people don't like to joke about is their own money."

E*Trade executives defend the ads, to a point. Other financial companies emphasize safety and security in their advertising. "If we wanted to be ordinary, we would have done [that]," E*Trade's Utton says. "We don't want to be perceived as exactly like the big, boring, bulge-bracket firms." Yet Utton admits that while the talking baby ads catch the general public's attention, they aren't an effective way of telling people about E*Trade's unique offerings. "How much differentiating information can you put in a baby ad?" Utton said.

Two new ads feature a mountain biker and a runner, along with the tag line: "Investing Unleashed." Those ads will make up half of E*Trade's TV ad impressions this year, Utton says. Also, 30 percent of E*Trade's ad budget, which is being increased in 2011, will go online, where almost none of the ads will feature babies. E*Trade won't disclose how much it is boosting ad spending in 2011, but executives says higher outlays will be offset by cutting expenses elsewhere. The target of this more serious ad campaign is people who want to closely manage their own money, says Michael Curcio, president of E*Trade's securities division. "Our bulls'-eye is a self-directed investor, the ones who take control of their own finances."

E*Trade forecasts that it will post a profit in 2011 after four years of annual losses. Doing so will depend on improved market conditions, some good luck with its loan portfolio, and the company's success at convincing customers that E*Trade—still easy and fun to use—is growing up.

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