If you’re new to investing, you might be wondering, what does a broker do? And do I really need one?
For the most part, brokers are essential to buying and selling stocks and other securities. If you are interested in using a stockbroker, it’s important to know what type of broker is best for you and to understand the types of services brokers provide.
Read on to understand how to define broker so you can choose the best broker for your investments.
What Is a Stockbroker?
A financial broker is an intermediary that is authorized to sell and purchase securities and stocks on behalf of buyers and sellers. Brokers provide various investment services on behalf of their clients, usually on commission. Different brokers charge different fees for brokerage services, but they are usually dependent upon the concept of price per trade.
How to Become a Broker
In order to become stockbrokers, individuals must pass the General Securities Representative Examination, also called the “Series 7 Exam.” They will then be authorized to trade stock on the stock exchange.
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Types of Stockbrokers
If you are a beginning investor, the first step to building your investment portfolio will be choosing a broker and opening a brokerage account. Of the types of services stockbrokers offer, they generally fall into one of the following three categories:
- Execution-only, in which the broker only executes the buyer’s instructions to buy or sell.
- Advisory dealing, in which the broker advises the client on what the best trades are, but leaves the decision up to the investor.
- Discretionary dealing, in which the investor empowers the stockbroker to make deals at the broker’s own discretion, with an understanding of the investor’s ultimate investment objectives.
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Execution-only stockbrokers do not provide clients with advice about the pros or risks of a certain investment; they merely act as an intermediary to buy and sell at the client’s request. These type of stockbrokers typically offer their services over the phone. They are best suited for people who have enough knowledge of the stock market to make decisions without needing outside counseling.
Execution-only stockbrokers typically have low fees, which is an advantage to using this type of stockbroker.
Advisory Dealing Stockbrokers
With an advisory broker, there is an open dialogue between the client and the broker. The client can ask the broker for advice when deciding whether or not to buy or sell a stock, and the broker can contact the client as well to suggest they consider buying or selling a certain stock.
Advisory dealing stockbrokers are a good choice for people who want to be hands-on about their investment choices.
Discretionary Dealing Stockbrokers
For those who favor a more hands-off approach to investing, a discretionary dealing stockbroker could be the better choice. With a discretionary dealing broker, a client will discuss their investing goals, overall portfolio, risk tolerance and other parameters with the broker upfront. Then, it’s up to the broker to decide when to buy and sell to conform to the expectations the client has set. This type of arrangement requires a lot of trust in the broker you select.
Traditional vs. Discount Broker Definition
Traditional brokers generally engage in advisory dealing or in some cases, discretionary dealing on behalf of their clients. These types of brokers tend to have a one-on-one relationship with their clients.
Discount brokers, or online brokers, tend to be execution-only. Many investors today use discount brokers to do their investment transactions.
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One of the biggest differences between traditional and discount brokers are the fees. Because traditional brokers offer one-on-one services, the fees are much higher than with discount brokers, which tend to have low fees.
With a traditional broker, trading can only be done during stock market hours, although some brokers do offer extended hours for additional fees. With discount brokers, trading can be done online 24/7.
Traditional brokers typically provide assistance and advice for clients, but discount brokers usually do not. People who would like a personal relationship with their broker, or who could benefit from their expert input, should opt for a traditional broker.
How to Choose a Broker
Before you commit to opening an account with one broker or another, you should do your research and compare the options available to you. You should also ask yourself what sort of benefits and services you are going to use and how you are planning to invest. Choosing the right broker might be the best investment you could make.
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Shahin contributed to the reporting for this article.