Can a good stockbroker make a difference to your investment returns?
Yes he or she can!
In spite of what I said in my article, Incentives – Can they make you a better investor?, if you find the right broker they can definitely make a substantial difference to your investment returns.
Even though a lot of what I say in this article will be old news for a lot of readers I have also included the best things I have learned from my brokers over the more than 20 years I have been investing.
So keep reading.
Finding the right broker is especially important when you are new to investing.
But you must do a bit of homework to find the right broker.
You are unlikely to find the right broker by clicking on a pop-up ad on your favourite website or through an advertisement showing an attractive lady in a glossy magazine.
How to find a good broker
So how do you find a good broker?
The first thing you need to do is write down exactly what you need from your broker. Don’t worry if you are unsure what to put down as the rest of the article will guide you.
For example, if you have never traded you will need someone to answer questions about order placement, portfolio composition and selling strategies.
After considering what it is that you want from your broker, you can begin the search for the one who suits you best.
A great place to begin your search for a broker is among friends, family and colleagues. Look out for someone that you know has in interest in investing and has had some success.
By talking with people you know and trust you are likely to be recommended to someone they have found valuable. Let’s face it, brokers will impress you on paper but only by speaking to someone that has invested with them in the past will you really know if they will be able to help you.
When you have a list of a few candidates go to the Internet and see what other clients have to say about this broker. Just type “stock broker review” in Google.
Once you start looking at individual brokers, here is a very important point to consider: You have to make sure that the securities in your account are completely separate from that of your broker.
This means that should your broker run into financial difficulties you can at any time transfer all the security in your account to a new broker.
This should be clearly stated in the small print of the brokerage agreement you will be requested to sign. If not, be sure to ask for clarification.
This is especially important to clarify if you want to buy securities on credit, if you want to short securities and want to write options. In these instances the broker may require you to pledge all securities in your account as security against any margin requirements.
Should the brokerage require this, it may be possible to negotiate for a separate account where only the securities in this account are pledged. This margin account will then be the only account pledged to your broker and thus not immediately accessible to you in case of your broker’s liquidation.
Now on to the different types of brokers.
Brokers can mainly be classified as full service brokers and discount brokers.
Under the headings below I will discuss what to look out for.
THE FULL-SERVICE BROKERS
Even though I recommend that you should use a discount broker if you know what you are doing.
I still want to tell you about full service brokers as that is how I learned a lot about investing.
As there were no discount brokers when I started investing I did not have much of a choice.
A full service broker provides a variety of brokerage and financial services to clients, including offering advice on investment decisions.
Generally full-service brokers charge higher commissions than discount brokers who only execute transactions.
This is the type of broker you want to consider if you are new to investing and would like someone that can answer questions and explain things to you.
Or if you do not want to manage your own portfolio, the broker can make decisions on your behalf – attractive if you are travelling a lot and not always available.
As they have their own analysts for research you can benefit from their professional expertise.
But what makes a good broker?
Someone with trading experience
The most important function of a broker is to get your order executed.
Ask about your potential broker’s experience. Does he have experience in other functions, not as a trader? Brokers with trading experience will be able to teach you the art of trading.
Here is a great trading tip I learned from a great broker I had in South Africa. (Vaughan I am talking about you).
If you are invested in a company that trades seldom and where the bid and offer prices are wide apart do the following:
If you are buying buy a few shares at the inflated offer price for a small amount. This will immediately let the company show up on the top movers of the day and get other sellers into the market giving you higher volume and a lower price to get your transaction done.
The same it you want to sell. Sell a few shares at the low bid price. The substantial drop in the share price will catch the interest of other buyers that will lead to higher volumes and a better price.
Someone you can trust
This is a very important point.
To find a broker you can trust, over a few months, listen to their investment ideas and tell them what you want to invest in.
The point of opening your brokerage account is so you can invest in your ideas and have your broker assist and help you.
If you find that your broker is always trying to talk you into something else, or larger transactions, it is a sign that they are after the commission only. If this is your experience ask if you can change to another broker in the firm or look for someone else.
Good broker know about money management and risk and long term customer relationships, others know only about commissions.
Know the incentives
Brokers make money when they execute transactions. Their incentive is thus to make as many trades as they can.
Always keep this in mind.
They do not share in your investment profit so the only thing they can make money on is the volume of transactions.
That said, a good broker knows that that it is in their best interests not to push too hard for transactions or they may lose you as a client.
Someone who wants to help you learn
If you are new to investing, even if you have read a lot, there is a lot more you have to learn when you start investing actual money.
Having a good broker is like having a mentor looking over your shoulder, he can give advice if things go wrong and even help you limit losses and take profits.
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As said a discount broker only executes buy and sell orders at lower commission rates than those charged by a full-service broker.
They do not give investment advice. This is the type of broker to consider if you are comfortable about making your own investment decisions.
Even though there may be discount brokers that still trade using the telephone, for this type of broker I will discuss internet-based brokers.
The main advantage of a discount or internet broker is lower transaction costs. That however does not mean that cheaper is always better
Consider the following points when choosing a broker:
Look at the company’s website at different times throughout the day, especially during peak trading hours. Watch how fast it loads and check some of the links to ensure there are no technical difficulties.
Also ask them what backup plans they have for times of extreme market volatility.
Do they have alternatives?
You may not always have access to the internet to place an order.
Check what other options the broker offers for doing transactions. Alternatives may include a telephone menu system, fax ordering, or by telephone.
Even though these services may be more expensive it’s really nice to have if you have to do a transaction and do not have access to the internet.
Price is not everything
As in everything else in life you get what you pay for.
Don’t just open an account with an online broker because they offer the transaction costs. Rather first think of the services you need and then to search for a broker that provides them at a fair price.
What Product do they offer
Make sure all the products you want to invest in are offered by the broker. Many brokerages also offer other financial services, such as checking accounts and credit cards.
I use a broker in Germany called Comdirect that provides checking and credit cards as well as brokerage.
There is nothing more irritating than holding for 20 minutes to have a simple question answered.
Before you open your account, call the broker’s help desk with a question to test how long it takes to get a response.
What do they pay for your cash?
You are likely to always have cash in your brokerage account so finding out what rates they offer is a good idea.
Make sure that the rate they offer is not just a special introductory rate to attract new clients. That may be a good question to test their customer service with.
A broker is an essential service you need if you want to invest. Choosing the one right for you is important whether you are beginner or an experienced investor.
I use discount brokers with good online services exclusively.
Something you may also want to consider – I have accounts with two brokers just in case there is a problem with one of them.
I also opened the account with the second broker because with my main broker I had to call them for all orders outside or the USA and Germany.