Brokerage Accounts Defined
A brokerage account is the traditional means individuals use to purchase stocks, bonds and other securities. Some companies now allow people to buy common stock directly through direct stock purchase plans. However, for most stocks and all other securities you still must open a brokerage account. Before you start shopping for a broker, it's helpful to know how a brokerage account is defined and what the various types and options are so you can make the best choice for your investment needs.
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Identification
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A brokerage account is an account you use to buy and sell securities. Types of securities include stocks, bonds, mutual funds and more exotic securities such as options, stock warrants and commodities (futures) contracts. When you sell, the proceeds are placed in the account. Brokerage houses require that you have sufficient funds in the account to cover any purchase orders and commissions or that you deposit sufficient funds within 3 days (called settling the transaction).
Types
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Brokerage accounts come in all shapes and sizes, but there are three basic kinds. A cash management account is used for buying and selling securities such as stocks, government or corporate bonds and mutual funds. A margin account allows you to borrow funds from the brokerage firm to purchase stocks on margin, short sell stocks and carry out other leveraged transactions. For stocks, the margin requirement (the amount of money you must put up) is set by the Federal Reserve. Brokers may require more than 50 percent if they consider a transaction particularly risky. A discretionary account is one in which you grant the broker the power to execute trades on your behalf without getting prior approval from you.
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Function
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Opening a brokerage account works much like opening a checking account at your bank. You must provide personal information and proof of identity (a valid driver's license or state-issued ID, military ID or passport.). Brokerage firms require some added information, including your employer, annual income and net worth. Typically, a minimum initial deposit of $1,000 is required.
Features
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You can open a brokerage account through your bank with a full-service broker, or with a discount broker. An account through a bank has moderate fees but may be limited in the flexibility allowed. Full-service brokers are the most expensive. However, they provide investment advice, research tools, information and other services. Experienced investors who research their own stocks and other securities investments often use a discount broker. The discount broker does little but execute transactions, although charging lower commissions.
Options
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Brokerage firms offer investment programs for customers that are managed by financial professionals. This is a good option for an inexperienced investor or someone who does not have the time to do in-depth research. A brokerage account can be set up as a traditional or Roth Individual Retirement Account (IRA) or as a Coverdell Education Savings Account (formerly called an Educational IRA). Each provides some tax advantages that you should consider. However, bear in mind that no securities transaction is guaranteed or insured. While many are very safe, any securities investment carries some risk. Thoroughly research any investment before you put your money into it.
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