Making an Investment
The New Account Agreement
Rule One: Be completely honest when filling out the new account form. Your account representative cannot properly recommend a suitable investment to you unless he or she understands your financial picture and the level of risk that you are willing to accept.
Rule Two: Do not sign the new account form until it is completed, the information is accurate, you understand it, and you are willing to accept the terms and conditions it imposes on you. Take your time and ask questions. Read the fine print.
Rule Three: Take a copy of your new account form when you leave. It is the basis for determining what is a suitable or appropriate investment for you.
If your investment strategy, level of income, or net worth changes over the years, be sure to update your account form and keep copies of each update.
Types of Accounts
If you are like most investors, you will open a cash account. A cash account simply refers to an arrangement requiring you pay in full for each purchase of securities.
Alternatively, opening a margin account will allow you to borrow money from the brokerage firm to buy securities and will require that you pay interest on that loan. If you buy securities on margin, remember that you are liable for the full outstanding balance of the loan, even if the value of the securities drops. In a fluctuating marketplace, this is a real possibility.
When you sign a margin agreement, the broker is authorized to immediately sell any securities in your account, without notice to you, to cover any short-fall resulting from a decline in the value of your securities.
Making the Right Decisions: Discretionary Authority
You will have to make a very important decision at this point, such as who will make the investment decision for your account. Ordinarily, you will make your own investment decisions unless you give your broker discretionary authority to make the decision for you. Discretionary authority allows your broker to make investment decisions based on his or her determination of what will best meet your investment objectives. Your broker will then do so without consulting you about the price or type of security or when to buy or sell.
If you decide to give the broker discretionary authority for your account, you should do so in writing. If you give discretionary authority, it is even more important that you review and understand your monthly statements, so that you know what you have purchased and how frequently investments are being made. Discretionary authority may be withdrawn at any time, and must be done in writing.
Do not make the decision to authorize discretionary authority until you have given the matter careful consideration. When you give up control of your account, you can be opening yourself up to serious problems. Discretionary authority should only be given in very special situations.
How Your Stock Certificates are Handled.
You usually have several choices on how your stock certificates will be handled:
- Receive a certificate made out in your name showing the number of shares purchased. This same certificate must be endorsed and returned to the broker when you sell the stock.
- Have the stock certificate held in your name at the brokerage firms. Although in the certificate must still be endorsed before selling, this option eliminates storage concerns.
- Have your broker hold the stock certificate in street name. This term refers to the brokerage firm being listed as the shareholder of record of the corporation you purchased stock in, although you, the customer, are the actual owner. All mailings by the corporation, such as annual reports and proxy materials, must then be forwarded to you by the broker, which may delay them; however, when you sell the stock, the transfer process is much simpler.
- Do not make your investment check payable to the salesperson.
- Do not make an investment decision on a product or a brokerage firm based solely on a telephone solicitation or sales promotion.
- Do not file or throw away your account statements or transaction confirmations without first reading them thoroughly and verifying them for accuracy.
- Do not invest based on "inside information," "a stunning new development," or "a dynamic new product" without investigating for yourself.
- Do not abandon your common sense. If you are promised, spectacular returns, such as "your money will double in a year or less," be skeptical and ask questions.
Monitoring Your Account
Making a Record
From the very beginning of your investing program, keep accurate and complete records. Start a file where you keep your new account form, all correspondence, account statements, and other materials that pertain to your accounts. It's also a good idea to keep a diary of all conversations with your investment professional, especially phone calls. Note the date, place, and subject of the meeting or phone call. If you ever have a dispute with your investment professional, you will have a complete set of records documenting your side of the story.
The Investor Notepad (at https://www.nasaa.org/wp-content/uploads/2011/08/Investor-Notepad.pdf) was developed as a tool for investors to keep track of transactions with their brokers. By filling out the Notepad when speaking with a broker over the phone or in person, investors have a guide to the kids of questions they should ask before investing. It can also increase their chance of prevailing if any disputes with their brokers should arise.
The Notepad prompts investors to record information such as the, date of the conversation, the broker's name and Central Registration Depository (CRD) number, the nature of the investment, how it was described, cost per share, etc. Each page should become part of the investor's permanent record.]
Your account statements are an important key to controlling your investments. Check your account statements over carefully as soon as you receive them. Familiarize yourself with the format, terms, and codes used by your investment professional. Review the account activity section to confirm that it contains only those transactions you have authorized. Check the section of your statement that reflects any change or fees debited to the account. If there is ever any information in your account statement you don't understand or agree with, contact your investment professional immediately and get an explanation. If your investment professional can't or won't explain it to your satisfaction, contact the branch office manager.
Follow up when you get a letter from your brokerage firm.
These may be letters from the brokerage firm asking if you have any concerns about your account. The letter may even vaguely indicate that certain circumstances led the firm to write to you. For example, the letter may note that you have an unusually high number of trades over a short period of time. Firms send out these letters when they detect unusual (and possibly troublesome) activity in an account. Follow up by contacting the firm's compliance officer and ask him or her to explain any problems indicated in the letter.
The Rules Your Broker Must follow
While the vast majority of investment professionals are never accused of fraud or abuse, there are some who engage in misconduct. Here are some major considerations to be aware of when reviewing the transactions you have with your investment professional.
- Brokers must follow what is called the "know your customer" rule. It requires them to make certain that the investments they recommend to you "match" your financial goals and the amount of risk appropriate for you. Your broker cannot recommend an investment that is unsuitable for you.
- Brokers are required by law to get your permission prior to trading in your account. Unless you've given them discretion over your account, trades carried out without your permission are unauthorized. Unauthorized trading is illegal and should not be tolerated.
- Your broker is obligated to be truthful and complete in presenting investment opportunities to you. An example of what regulators refer to as a misrepresentation is if your broker tells you that investing in a new issue of stock is as "safe as a CD."
- The vast majority of investment professional earn commissions when they buy and sell investments on behalf of their clients. If your broker trades excessively in your account for personal benefit, rather than on your behalf, you could have a valid claim against that broker for churning.
- Although rare, the most potentially devastating situation an investor can experience is actual
by a broker or financial professional.
Commissions and churning
Most securities salespeople are paid on a commission basis, which is not a fraudulent practice. The potential for fraud exists, however, when a broker's livelihood is based on selling investments to clients. If a broker's earnings are based on sales commissions, the more buying and selling a broker does for each customer, the higher his or her income.
Salespeople's pay isn't based on their ability to earn profit for clients; it's based on their ability to sell. Watch out for end-of-the-month selling, which may indicate the broker is trying to pad his or her own monthly income at the expense of your goals.
For example, if a mutual fund was recommended to you in April, and in July your broker recommends another fund to replace the original one, this might be considered churning unless some drastic change in the market justified the transfer. Mutual funds are considered long-term investments and should not need to be "replaced" within a matter of months.
If you feel uncomfortable with your brokerage firm or salesperson, or have reason to feel that you're being pressured in any way, switch your account to another salesperson or firm. Remember, it is your financial future that's at stake -- not theirs.
When you invest, you have the right to:
- Ask for information about the person handling your account and the firm itself.
- Complete information about the risks, obligations, and costs of any investment.
- Recommendations consistent with your financial needs and investment objectives.
- Copies of all completed account forms and agreements.
- Account statements that are accurate and understandable.
- Understand the terms and conditions of transactions you undertake.
- Gain access to your funds in a timely manner and receive information about any restrictions or limitations on access.
- Discuss account problems with the branch manager or compliance department of the firm and receive prompt attention to, and consideration of, your concerns.
- Complete information about commission, sales charges, penalties, maintenance or service charges, and transactions or redemption fees.
- Make a Freedom of Information Law request to the Office of the New York State Attorney General using the online FOIL Form to verify the employment and disciplinary history of a securities salesperson and the salesperson's firm; and to find out if the investment is permitted to be sold.
- Submit a Complaint