What is a Broker? What They Do and How to Choose One

Ever felt lost in the world of stock exchanges and investments, wishing for some help and guidance? If you're confused, you're in the right place. Let's dive into what a broker is and clear things up to improve your understanding of college finances and student loan management

Key takeaways

• A broker acts as an intermediary between investors and security exchanges
• Brokers can be individuals or firms and must register with regulatory bodies
• Brokers earn through commissions, fees, or other compensation methods

What is a broker?

A broker is a person or firm that acts as the bridge between an investor and a securities exchange. They ensure smooth sailing by executing trades on behalf of clients, all while dealing with commissions and fees.

Why do you need a broker?

Have you ever heard of a securities exchange like the New York Stock Exchange or the Nasdaq? They’re the cool clubs everyone wants to get into.

But here's the catch: you can't just waltz in and start trading. That's where brokers swing into the picture.

They're the gatekeepers, the bouncers, the keymasters of this club. Brokers aren’t necessarily people; they can be technology firms, or even banks.

TuitionHero Tip

If you're thinking, "Hey, I've heard of real estate brokers too!"—you're on the right track. They play a similar game but in the world of properties. Whether you're selling a penthouse or hunting for a cozy studio, they're the ones connecting buyers and sellers.

How do brokers work?

Brokers, whether persons or firms, serve as the trusty mediators—or "intermediaries"—between an investor like you and a securities exchange. They're the wizards who can wave their magic wand (or click their magic mouse) and get your orders rolling. Whether you're dreaming of those Tesla shares or just mulling over which tech giant to back, they're the ones making it happen.

How do brokers make money?

Brokers can make money in a few different ways:

• Commissions: Think of this as their service charge. It's like the tip you'd give to a great waiter, except it's mandatory, and there's no free dessert. If you’re trying to buy or sell a LOT of stocks, this is worth it, because it’s not always easy to find a buyer or seller, and the price might be low relative to the amount you’re trading.
• Fees: Ah, yes, the inevitable fees. Sometimes it's for special services, and other times, it's just the cost of doing business.
• Getting paid by the exchange: Sometimes, the house (in this case, the exchange) pays the broker to bring them business.

Additionally, brokers might earn through spreads or markups, especially in forex trading, where the broker adds a small amount to the price.

Discount vs. full-service: Which broker's for you?

Imagine choosing between a buffet and a five-course meal. Both have their perks, right? Let's dish out the details:

Discount brokers

• They'll execute trades for you but don't expect a chit-chat about market trends over coffee.
• They're the fast food of the broker world: quick, efficient, and cheaper. Often charging between $5 to $15 per trade.
• Some discount brokers are purely digital (like Robinhood or Webull), and charge $0 fees! That’s right, it can be free. But you’ll have to DIY your trading here.
• They're a solid choice if you're feeling brave and want to take control of your investments.

Full-service brokers

• These are your financial gourmet chefs. They'll whip up a financial plan, sprinkle some market research, and serve it with a side of investment advice.
• They'll cost you a bit more. Think of it as paying for the ambiance, the expertise, and the tailored advice. Brokers who give you financial advice sometimes charge AuM (assets under management) fees or a percentage of your assets per month - this way, they’re incentivized based on account growth vs just selling you trades.
• And yes, they'll definitely remember how you like your stocks – medium-risk with a hint of dividends.
• Full-service brokers do have some level of fiduciary responsibility, meaning, if they try to sell you a stock that doesn’t make sense for your risk level or profile at all, they could be in trouble.

Online brokers

• With the rise of technology, online brokers have become popular. They offer low fees and user-friendly platforms, making it easy for beginners to start investing.
• They often provide educational resources, tools, and real-time data to help you make informed decisions.
• Ideal for tech-savvy individuals comfortable managing their own portfolios.

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Are brokers playing it safe?

Brokers have their own set of rules and playbooks. They register with the Financial Industry Regulatory Authority (FINRA), which is like the referee ensuring fair play. They're held to a "suitability rule", which is just a fancy way of saying they've got to have a good reason for recommending an investment to you.

And if you've ever felt like they're trying to get to know you a bit too well? That's the "know your customer" or KYC regulation in action. They're just making sure they're tailoring their advice to your dreams, goals, and vacation plans to Bora Bora.

Broker regulation and licensing

It's not like a cereal box where you find a surprise license inside. Nope, these brokers work for it. Here's the lowdown:

1. Registration with FINRA: This is the big league, people. Brokers register with the Financial Industry Regulatory Authority, ensuring they stick to the playbook and don't go rogue.
2. The SEC: Brokers also have to register with the Securities and Exchange Commission, who enforce securities laws that the government sets out.
3. Series exams: Most states require that stock brokers take and pass the SIE and Series 7 exams. These exams test their knowledge of financials, trading, and ethics. Depending on their job, they may need to take other exams as well.
4. Real estate brokers: Shifting gears a bit, if you're diving into the property pool, these brokers get licensed by each state by passing a test. It's a bit like getting your driver's license, but for selling homes and penthouses.

Differences between brokers and financial advisors

Hold up! You're probably thinking, "Aren't brokers and financial advisors the same thing?" Well, not quite. Here's the twist:

• Brokers: Think of them as the deal executors. They're the ones making sure your trade orders get processed smoothly. Some of them give you advice.
• Financial advisors: They're your investment therapists. They dive deep, understand your financial goals, dreams, fears, and give you a game plan. And they deal with budgeting, insurance, and estate planning as well. They're in it for the long haul, guiding you through your financial journey.

The main difference between brokers and advisors, however, is how they get paid. Financial advisors usually get paid as a percentage of your assets or an hourly fee, and can dive into broader financial and estate planning, things even full-service brokers don’t really do.

Brokers may also get paid a percentage of assets, but can also earn commissions from selling you products. As a result, a financial advisor will have a fiduciary duty and a much higher standard to reach - so long as they’re designated as a Registered Investment Advisor!

TuitionHero Tip

Watch out for brokers who call themselves advisors but aren’t RIAs, as they don't have a fiduciary duty.

How to choose the right broker for you

Choosing a broker can feel overwhelming, but considering the following factors can help:

• Determine your investment goals: Are you saving for retirement, college, or building wealth? Your goals can influence the type of broker you need.
• Assess your trading style: If you prefer hands-on management, a discount or online broker might be suitable. If you want personalized advice, consider a full-service broker.
• Compare fees and commissions: Look at the costs associated with trading, account maintenance, and other services.
• Check the broker's reputation: Research the broker's history, customer reviews, and any regulatory actions against them.
• Evaluate the platform and tools: Ensure the broker provides a user-friendly platform with the tools and resources you need.

Questions to ask potential brokers:

• What are your fees and commissions?
• What investment products do you offer?
• What level of customer service and support is available?
• Are you a fiduciary, and do you have any conflicts of interest?
• How secure is your platform?

Why trust TuitionHero

Enter TuitionHero. Just as you trust a broker with the stock market, trust TuitionHero to navigate student finances. We offer services like Private Student Loans, Loan Refinancing, Scholarships, FAFSA Assistance, and Credit Card Offers. We're your bridge to a future free of financial troubles, providing the expertise and resources to make informed choices.

Frequently asked questions (FAQ)

Can I invest without using a broker?

Yes, you can invest without a traditional broker by using direct stock purchase plans (DSPPs), investing in mutual funds directly from providers, or using robo-advisors. These methods allow you to bypass brokers, but they may offer less flexibility and limited investment options compared to brokerage services.

What is the difference between a broker and a dealer?

A broker acts as an intermediary between buyers and sellers, facilitating transactions on behalf of clients. A dealer, on the other hand, buys and sells securities for their own account, profiting from the spread between the buying and selling prices. Some firms operate as both brokers and dealers, known as broker-dealers.

How can I verify a broker's credentials and reputation?

You can check a broker's credentials by using regulatory resources like FINRA's BrokerCheck tool, which provides information on their registration, licenses, and any disciplinary actions. Additionally, reading client reviews and checking for any complaints filed with the SEC can help assess their reputation.

Are my investments safe if my brokerage firm goes out of business?

If your brokerage firm closes, your investments are typically protected by the Securities Investor Protection Corporation (SIPC) up to certain limits. The SIPC helps recover assets held by the brokerage firm, and your account may be transferred to another firm to ensure continued access to your investments.

What is a margin account, and how does it work?

A margin account allows you to borrow money from your broker to purchase securities, using your existing investments as collateral. This can increase your buying power but also amplifies risk, as losses are magnified and you may face margin calls if the value of your investments decreases significantly.

Do brokers have a fiduciary duty to their clients?

Not all brokers have a fiduciary duty. Registered Investment Advisors (RIAs) are legally obligated to act in their clients' best interests. Brokers are generally held to a "suitability standard," meaning they must recommend investments appropriate for the client's situation but not necessarily the best option available.

Final thoughts

So, while you're thinking about the ins and outs of brokers, remember there's a world where you or your loved ones might need a guiding hand with student finances. And when that time comes, just remember, we're here, ready to lead the way. Let's make smart financial moves together!

Sources

• FINRA - Registered Financial Professionals
• Brokers | Investor.gov
• 947. Fiduciary Duty | United States Department of Justice