Brokerage Accounts Definition
There are many ways in which an individual or organization can invest money for growth and profit. The varieties of accounts include FDIC insured accounts , real estate holdings or brokerage accounts. Brokerage accounts are not FDIC insured but may hold federally insured instruments within them such as market available time certificates. Brokerage accounts are designed for the purchase, holding and sale of securities. There are three basic types of brokerage accounts: cash, margin or discretionary.
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Definition
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Brokerage accounts are accounts that hold investors money at brokerage firms. The person who manages the account is a registered representative as licensed by FINRA (Financial Industry Regulatory Authority). Within the brokerage account, the investor is able to buy or sell securities traded on public exchanges. The account has fees that are either based on the transaction or a percentage on the annual balance of the account. Brokerage accounts are not FDIC insured and are considered to have risk based on the securities risk held within it.
Cash Account
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Brokerage accounts that work on a cash basis require that any investment bought have enough cash to settle the transaction. The money must be there for the transaction to be executed otherwise the securities will not be purchased and the investor may lose the window of opportunity for the price they wanted to pay. Accounts are executed and settled three days later (referred to as "T+3").
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Margin Account
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Customers with good credit and a strong history of trading can apply for a margin account. This is a type of brokerage account where customers buy securities based on a loan from the brokerage firm. The securities purchased are used as collateral for the loan but if the price drops, there will be a "margin call" meaning money is required to be deposited into the account to cover the margin difference. If more cash is not deposited, the security will be liquidated. While it can be attractive to invest on loaned money, losses can destroy an investor when the margin is called as they will still be required to pay the difference loaned to them beyond what the sale of the security yielded.
Discretionary Account
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A discretionary account is a brokerage account where the broker has discretionary authority on what to buy and sell. They are not required to obtain approval on transactions as long as they fall within the guidelines of the needs and objectives of the account holder. This type of account is often used with trusts or other types of funds where the owner of the account trusts the broker to follow their guidelines and do not wish to be bothered with daily account management decisions.
Fiduciary Responsibility
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Brokers assigned to a brokerage account have a fiduciary responsibility to their clients to understand the client's needs and objectives. While they will not make fiduciary decisions without the client's consent unless the account is discretionary, they are required by regulations to review the accounts regularly, notify clients of significant changes or news that could result in significant changes and advise clients on investments that may fall out of their financial goals.
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