August 5, 2022
The word brokerage gets used a lot in investing circles, but it can mean different things to different people. Young retail investors tend to think of discount brokerage firms when they use the term. When a more seasoned investor considers the idea of a brokerage, a full-service or traditional brokerage might come to mind.
But this much is certain: If you are trading stock on a market, you are buying through a brokerage. So what is a brokerage and how does it work?
It starts with a brokerage account. A brokerage account is an investment account used to buy and sell securities like stocks, bonds, mutual funds and EFTs. The account can be set up at any number of brokerage firms, from the full-service brokerage that offers a host of services for higher prices to low- or no-fee online discount brokerage companies.
There is no one type of brokerage that is better than another. It is simply a matter of experience, risk, preference, and simplicity. A brokerage is a company that acts an intermediary to purchases stock on your behalf when you execute a trade. A broker is the person who completes the trade for you.
Brokerages have dramatically changed in the last decade, driven by technology and the internet. The type of brokerage you choose depends on how personally involved you want to be in your trades.
If you feel comfortable with the market, its unique terminology and the risks, a discount brokerage might be for you. Discount brokerages include Charles Schwab (Tii:SCHW), Fidelity Investments, TD Ameritrade (owned by Charles Schwab) along with new competitors like Robinhood (Tii:HOOD) and Acorns. Competition is fierce among these brokerages, which have led most to drop fees to zero for simple stock trades. Many discount brokerages offer tiered services. The more help they provide, the more they charge the investor. Discount brokerages are popular for obvious reasons – they are an inexpensive and easy way to get into the market and have helped millions begin trading.
It is important to note that discount brokerages are not recommended for retail investors with little or no experience. Some discount brokerages have faced criticism since you are effectively on your own as an investor. They provide tools for customers to learn about the market and stocks they might be interested in, but ultimately, the customer is on her own when it comes to making investment decisions.
A full-service brokerage, on the other hand, provides personalized help to their clients. They sit down with investors and help plan goals and give them options and recommendations. They provide detailed analysis about investment options and will make trades on your behalf based on their client’s goals. Other services might include money management, estate planning, tax services and financial consultation.
Of course, customers pay for the service and knowledge they find at full-service brokerages. Costs at a traditional broker might include fees, commissions or both along with per-trade charges. Even fee structures at traditional brokerages are changing because of competition from the discount firms. Wrap-fee brokerages charge a single, all-inclusive annual fee. And even some traditional brokerages are offering a lower-cost option to stay competitive with the discounts. Full-service brokerages include Merrill Lynch Wealth Management, owned by Bank of America (Tii:BAC), Edward Jones and Morgan Stanley (Tii:MS).
Picking the right type of brokerage is the first decision you need to make as a budding investor. How do you actually set up a brokerage account? We will explain that in next week’s Insights.
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