Choosing A Compatible Broker
"Did you hear about Chanko Wireless?"
"Yeah, I got in at $25.10."
"Well I got in at $25.05!"
"How did you get a better price than I did?"
For those of you who don't remember this dialog, it is a snippet from an old Ameritrade (a brokerage) commercial. In the ad, two men bicker because one got into a wireless company for a nickel less than the other. Do you care about a nickel? If you are like the majority of investors, you probably don't. Still, this commercial raises a good point: one of the most important investment decisions you have to make has nothing to do with choosing stocks , bonds or mutual funds. It's about choosing the right broker for your individual needs. Here we look at what to consider.
How Does Choosing a Broker Relate to the Nickel?
First off, we should make it clear that we are not making any comment about Ameritrade. The "nickel" is important to many investors (primarily traders), but it amounts to only a few dollars if you are buying less than 100 shares. If you aren't an active trader, a nickel won't even show up on the chart over the long term. So, worrying about "the nickel" when choosing a broker matters only for particular types of investors.
It's easy to see, then, that although there may be many good brokerages out there, not all of them are geared to the way you invest. Different investor personalities affect broker selection. The task of making your selection may seem overwhelming at first, but with a little study and some basic guidelines, you'll be able to make an informed decision suited to your investing personality and end up with a broker that is right for you.
The Importance of Your Investing Personality
Your investing style is one of the biggest factors to consider when selecting an online broker. To determine your style, you must define your needs. Here are some questions to help you do this:
• Do you need personal advice, or can you do your own homework with research reports?
• How long do you typically hold an investment?
• What is the size of trades you typically make?
• How important is it to have direct access to a real person?
• Is fast and efficient order execution absolutely necessary?
There are four main types of investor personalities. Try to determine what personality you resemble most and ask yourself if your broker is providing the services that match your personality.
Individual Investors
Those classified under this category are also known as "retail investors". They don't require any special assistance or advisory services. Individual investors empower themselves by doing their own research, selecting their own stocks and knowing how to place online orders efficiently. The main priorities for the independent investor are fast, consistent trade executions and low commission levels.
The fruit of such priorities and labor is the opportunity to take advantage of the lowest commission rates around. Several brokers like E*Trade and Ameritrade - known as "discount brokers" - have chosen to target independent investors because this clientele makes up such a large and diverse market.
Reliant Investors
These investors need some hand holding and assistance when selecting a prospective investment. Typically, they require a broker capable of offering individualized advice and assistance. This is especially true for new investors, who may need all the help they can get when starting out.
As you can imagine, extra services equal higher commissions, and as more and more investors become self-sufficient, brokers serving this market segment become fewer and fewer. The ones that do stay around are generally larger companies, such as Charles Schwab and Fidelity. Known as full-service brokers, they provide many of the services necessary for successful investing: that is, not only picking stock, but also tax planning, asset allocation and long-term planning . Additionally, if you are a new investor with a fairly large amount of money, but you aren't comfortable investing on your own, you may consider a wrap account. This type of account charges one flat fee, usually quarterly, which covers all administrative, commission and management expenses. The drawback is that wrap accounts usually require minimum investments of between $50,000 and $100,000. (For more on the wrap, see Wrap It Up: The Vocabulary and Benefits of Managed Money.)
Short-Term Investors (Traders)
Short-term traders are not the same as day traders. Depending on the type of security, a short-term position can range from an hour to a few months. For the most part, short-term trading is a practice used primarily by the top financial players. These are the professionals who have devoted time to understanding all aspects of trading and investment and are often trading what are called "momentum stocks" or "momo plays". Traders require access to superior research information, excellent execution skills and most likely the ability to trade in other types of securities, such as derivatives.
With such experience and knowledge, short-term traders require next to no assistance from a broker. Because these investors are attempting to profit from the relatively short-term movements in a security's price, they are more concerned about getting the best possible fill price than a longer-term investor, but not as concerned as a day trader, as we explain below. Discount online brokers supply the fast order execution, the low commissions and the trading tools that are the biggest concerns of the short-term investor.
Day Traders
These are experienced stock traders who hold positions for a very short time (from minutes to hours) and make numerous trades each day - most trades are entered and closed out intraday.
As a result, day traders value order fulfillment speed and trade execution. So, for them, selecting the right broker is crucial. Day traders are probably the only investors who should worry about whether their broker will help them secure "the nickel". Because day traders are self-sufficient and place many trades daily, they can demand exceptionally low commissions - usually no more than a couple of bucks a trade - and top-notch order fulfillment. Because the day trader needs to monitor stock prices constantly, live price quotations are essential to his or her success. The fancy tools for this come at a price, however, as commissions at brokerages with loads of tools will be higher than those at brokerages offering fewer tools. Like short-term investors/traders, day traders basically use online discount brokers to facilitate their trading. Again, speed of order execution, low cost and good tools are important to these types of investors not requiring advice from their broker.
Every successful investor needs to have the right tools for the trade. This begins with choosing the right broker. No broker is perfect for everybody, and a firm that doesn't meet your style isn't necessarily a low-quality company; it may just offer services that don't fit your investment personality. Whether you're concerned about that "nickel" or your retirement plan, there is a broker out there that is right for you.
