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The Difference Between an Investment Adviser and a Broker-Dealer

By Kenneth Baker on November 15, 2018

 

When deciding to invest your money, the first step should be figuring out if you are going to do it yourself, or if someone else is going to help you along the way.  That person would likely come in the form of an investment advisor or a broker. The two terms sound similar, but they operate in two different ways. It is important to know the differences in order to get the right financial advice you are looking for.

Investment Adviser
An investment adviser is someone who is hired to make investment recommendations that are consistent with your investment objectives.  Investment advisers typically have discretion over your account which means they are allowed to make “buy” and “sell” decisions on your behalf.  Additionally, Investment advisers are paid a fee. This fee is a percentage of your total assets that are under their control. Practically, this means if your portfolio is worth $100,000 and your broker earns a fee of 3%, you would pay your broker $3,000 to “manage” your portfolio.  However, they could be making thousands of trades a year, which will not have any affect on their fee.

Investment advisers are ideal for investors who do not want to have an active role in the management of their portfolio.  The investment adviser will make trades and decisions that are in the best interest of their clients and are bound by a fiduciary duty.  This fiduciary duty means that they are required to only make decisions that are consistent with your investment objectives. Additionally, the adviser must put their client’s interests above their own.  Advisers are incentivized to make trades that generate larger returns because the fee structure provides that the more money they generate in the portfolio, the more money they make – as a percentage of the total amount of assets.

Some investors may not wish to get an investment adviser because there is a lack of oversight on individual trades that are made.  Investors who are active in their portfolio will not receive recommendations prior to the sale or purchase of specific investments.  Rather, the investor will receive account statements that show what trades were made, when they were made, and how much money was allocated.   

Another downside is that an adviser could be prone to make trades that are riskier because the upside on the risky investment

Broker-Dealer
A broker-dealer is a person or firm in the business of buying and selling on behalf of its customers, and is regulated by the Financial Industry Regulatory Authority (FINRA).  Broker-dealers typically do not have discretion over your account, which means they must get consent or approval prior to making any trades on your behalf.  Additionally, broker-dealers are paid a commission. This commission is paid every trade they make on behalf of your account. Let’s say that your broker calls you and recommends you buy 100 shares of ABC Corp.  ABC Corp is currently trading at $100 on the New York Stock Exchange and she thinks it will go up to $150 in the next year. She would call you and give you the pitch. This idea sounds good, so you tell her to go for it.  She would make the purchase of the 100 shares of ABC Corp. on your behalf. Later, on your account statement, it would show the purchase of the shares as well as a commission you would be paying her for buying the shares.

Brokers can be advantageous if you are looking for someone to have a financial relationship with and you enjoy knowing what is going on with every trade.  It can be more hands on, and some investors like to know the specific trades that are happening. This allows the investor veto power in the event he doesn’t agree with the broker’s recommendation.

Some negatives associated with broker-dealers are that it incentivizes the broker to make more trades than might be necessary, just to get a commission.  

Another negative is that the broker does not have an incentive to recommend good investments because they will receive their commission whether or not the investment pans out or not.  

Do you have questions about your investments or what is right for you?  Kenneth Baker is an attorney at Halling and Cayo, a full service law firm in Milwaukee, WI and part of its Securities Litigation team.  His practice is focused on securities litigation.  Contact him at (-414-755-5021 or via e-mail at KJB@hallingcayo.com to see if he can help further educate you or recover lost funds.

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320 E Buffalo St
Ste 611
Milwaukee, WI 53202

Open Today 8:00am - 5:00pm

Open Saturday and Sunday for calls and emails.

More Info Directions (414) 755-5020