What type of brokerage account is right for you?
A broker, also known as a brokerage, is a company that connects buyers and sellers of investment vehicles such as stocks and bonds. A brokerage account is often where an investor keeps assets. In general, there are three types to choose from. The type you choose depends on your needs and preferences.
Key points to remember
- A brokerage account is an investor’s financial account with a licensed brokerage firm to buy and sell securities.
- Different companies appeal to different investors based on experience, desire for support, and asset levels.
- Both traditional and online self-directed programs are popular with a variety of investors, especially those who are comfortable researching and interacting with an interface rather than a person.
- Human advisors are a better option for those who prefer to interact more directly with a financial professional.
- A robo-advisor automates investments and uses technology to manage your portfolio.
Quick history of brokerages
Prior to the mid-20th century, access to stock and bond markets was limited to those who had enough money to invest and use the services of a human broker.
In the 1970s and 1980s, “discount” brokerage firms such as Vanguard and Charles Schwab emerged. They were willing to go after a less affluent clientele because their business models were designed around investor volume.
Online brokers such as E*TRADE, FOREX.com and Ameritrade (now TD Ameritrade, under Charles Schwab) thrived by seizing the opportunity created by the Internet at the turn of the century. New technology has reduced costs and allowed them to expand the discount brokerage model by reducing commissions and minimum balances.
Brokerage houses exist to provide public access to exchanges. Without brokers, investing as it is today would not exist.
The rise of self-directed investing
Online brokerage accounts brought in the self-directed investor. This investor researches investments and chooses which stocks and bonds to buy for their portfolio.
Additionally, a new development in recent years has been the advent of the robo-advisor. These automated software platforms, often available as mobile apps, support almost all of your investment decisions at reduced costs.
Arguably the first robo-advisor – and the first to offer cryptocurrency wallets – Betterment was launched in 2010 after the Great Recession. Since then, robo-advising has seen exponential growth in adoption and a wave of startups and existing brokers adding a robo-advisor arm.
A wide range of traditional, discount and online self-directed brokerage platforms are available, each with advantages and disadvantages.
Human brokers and financial advisors
Some people prefer to entrust their finances to a human. If that’s you, then a traditional advisor may be a better fit than a robo-advisor. Human brokers and financial advisors have been around since the beginning of modern stock markets, and they have carved out a place for themselves in today’s competitive landscape by catering to investors with higher net worth or those who prefer the human interaction.
Good financial advisors build and monitor investment portfolios and offer advice on many aspects of their clients’ financial lives. They also provide ancillary services such as insurance, estate planning, accounting services and lines of credit.
Clients of these brokers can expect to pay 1% or more of their assets under management to the advisor; sometimes they can pay up to $50 per trade for individual trades. Many advisors say these fees are well worth the additional value they provide, such as stock picking for their clients’ portfolios, access to unique products and offers, or building comprehensive financial plans.
Many advisors are available by phone or email and are quite responsive. They can also meet their clients in person when needed.
When comparing brokers, pay attention to what the advisor is telling you. The brokerage may require them to push pre-packaged investments, funds, or financial plans; if so, be sure to educate yourself on developing a plan that meets your needs.
Also pay attention to fees. If they charge more than 1%, ask why and judge for yourself if the extra cost is worth it. Professional certifications such as the CFP (Certified Financial Planner) or CFA (Certified Financial Analyst) designation show that your broker has been trained and has passed a series of rigorous examinations related to financial markets and planning.
You can also use FINRA’s BrokerCheck tool to see if their broker has had any regulatory complaints or ethics violations.
Online self-directed brokerage accounts
Online self-managed platforms include E*TRADE, TD Ameritrade, Robinhood and many more. Be sure to check with your bank – you may already have access to a self-directed online brokerage account.
For the most part, these platforms leave it up to you to determine which investments are best, but they usually offer a suite of research and analysis tools. Many provide expert recommendations and insights to help you make informed decisions. You are then on your own to execute the trades to build your portfolio through their website or mobile app.
Human advisors charge higher fees than robo-advisors or platforms that facilitate self-directed investing – platforms tend to charge fees per trade.
These platforms charge a commission per trade per stock trade and a surcharge per options contract. Plus, they allow you to trade on margin and create options strategies. You can also invest in mutual funds, individual stocks, currencies (forex) and exchange-traded funds (ETFs).
Online brokers are best for the self-directed investor who knows the markets or does research to choose a portfolio best suited to their goals. If you only trade a few times a year, you might want to pay a little more per trade to get access to better research and analytics. If you’re a day trader, you’ll probably want to consider a site that offers its most active users free trades.
Robo-advisors automate investments and use technology to manage your portfolio. Since the launch of Betterment in 2010, there has been a proliferation of startups and existing financial firms offering this algorithmic trading service.
Unlike the trading algorithms that power the high-frequency trading desks (HFTs) of hedge funds and banks, robo-advisors are likely to grow your money using low-cost index-linked ETFs. In fact, the convergence of ultra-low-fee ETFs with low-cost technology solutions available on mobile platforms makes robo-advising possible.
You can now invest as little as $1 on select platforms for 0.15% per year in fees. Many sites do not charge consulting fees, but they do charge for optional add-on services.
Before robo-advisors, if you only had a few hundred or thousand dollars to invest, you had to go online to a self-managed platform. Now you can invest $200 or $2,000 without having to do investment research, choose individual stocks, or worry about rebalancing your portfolio.
Algorithm-based robo-advisors aim to place you in an efficient and diversified passive portfolio. Many of these platforms will even tax-optimize your portfolios through tax-loss harvesting, a process by which an investor sells losing positions to offset the capital gains generated by winning positions. The algorithms themselves are a proprietary trade secret of the robo-advisors.
Robo-advisors are ideal for new or young investors who don’t have much to invest. These platforms are also suitable for people who follow passive investment strategies because your robo-advisor develops a portfolio of index ETFs for you.
Robo-advisors also shine for long-term investors who lack the time or desire to research and find the ETFs that suit their investment needs and strategy.
If you are a more sophisticated investor or trader who needs margin, options trading, and technical charting, a robo-advisor may not meet your needs.
But robo-advisors are definitely not for everyone. Many brokerages are adapting their robo-advisors to allow for greater customization in their portfolio choices. However, this defeats the purpose of these products: to build and maintain a growing portfolio.
If you choose a robo-advisor, the main factors to consider are cost, reputation, and added services. Be sure to keep an eye on the cost of additional services: some are free, but others may incur additional charges.