Registered Investment Advisors (RIAs) and stock brokers: Are you a stock broker? Normally the question arises in a slightly different way. When someone asks me what I do (put clients in the right mutual fund at the right time so they can reach their financial goals), they usual say something like "so you are a stock broker." I explain that I am not, but am a Registered Investment Advisor, but just about everyone at the point either fails to grasp that there is a difference or loses interest and changes the subject.
That raises the question of what is the difference and why is it important. The primary distinctions are in essential functions. An article in the December 29 Wall Street Journal "When Advice Can’t Be Brokered" reports that according to the vice president of investor education for the NASD "stockbrokers are sales agents whose main duty is to buy and sell securities" and "investment advisers’s (sic) main duty is to provide clients with advice about investing and securities." By law, brokers are supposedly limited to providing advice that is "incidental" to the role as a buyer and seller of securities. However, there are no real guidelines as to what incidental means, so as a practical matter, brokers can and often do provide a wide range of investment services.
Two other important differences can be how brokers and RIAs are compensated and regulated. Although some brokers will charge an annual fee that is a percentage of the account size rather than commissions for each transaction, the stock broker who gives advice (as opposed to those who just take orders at some discount brokers who have a fixed salary) is quite likely to be compensated based on the volume of the transactions or for having clients buy certain securities. RIAs can have various compensation methods, but most work as I do and have fees that are percent of assets under management. I think that is the way that is best for clients because there is no potential conflict of interest that could result from my being rewarded just because I put a certain mutual fund or other security in client accounts.
Current regulations (although the SEC is considering changes) affect what clients know about potential conflicts of interest. The WSJ article says "if a broker receives a free flight for selling a certain product, for example, the broker could keep this fact private. A registered investment adviser getting the same reward would have to disclose it to the client." I have never been in a position to receive any compensation from any source other than my clients. In the very unlikely event that I was due some reward or fee from a brokerage firm, mutual fund company, or other financial institution, I would pass it on to the clients whose accounts generated it, so that there would be no potential conflict of interest.
All that does not mean that "account executives" for typical full-service brokerage firms can’t and won’t serve their clients well and won’t put the clients’ interests ahead of their own. Many do and those are usually the most successful over the long term. Unfortunately, that is not true in many cases. I came to that conclusion many years before I became an investment advisor and started using only discount brokers who made no attempt to provide "advice" whether I wanted it or not. When I decided to manage accounts for other people, I had zero interest in doing it as a broker because I wanted my interests and those of my clients to be the same, namely helping them increase the value of their securities holdings so that they can reach their financial goals.