Without a doubt, the most common reader questions we get here at the Penny Sleuth are about brokers. That’s really no surprise – for a new investor the broker business is one of the most complex parts of the investing process. But that’s only because, all too often, new investors don’t understand these “Broker Basics.”

Here’s a look at what you need to know about the brokerage world to make profitable investment choices…

Imagine sitting in front of your computer as a new investor with a phenomenal investment idea – a stock with a groundbreaking product that’s about to take off, no debt, and an undervalued share price. It’s an investment that could easily double this year.

But actually parlaying your money into your dream pick isn’t necessarily so simple — the brokerage business is mired in complicated terminology, intimidating risks, and bureaucratic red tape, after all. That’s about to change for you…

A Look at the Brokerage Business

There’s no question that all brokers aren’t created equal. In fact, picking one broker over another could end up saving you – or costing you – a serious chunk of your investment gains. But that said, their jobs are all essentially the same.

Brokers are middlemen who execute orders for stocks, bonds, ETFs, and other securities for their clients. In their simplest form, brokers make their living by charging a commission for every trade they put through for you. Keep that fact in mind – most brokers have a vested interest in seeing you churn your portfolio and pay-up big commissions in the process.

Picking a reputable broker usually isn’t something you have to worry about. Brokers are regulated by the Securities and Exchange Commission (SEC), which keeps a public directory of brokers, as well as any complaints against them.

The Securities Investor Protection Corporation (SIPC) protects brokerage accounts of up to $500,000, just as the FDIC insures your checking account. And while that doesn’t mean that you can’t lose money when a stock price falls, it does mean that your portfolio is protected from being looted by your broker.

That’s not to say that dishonest brokers are common – even the brokerage arm of Bernie Madoff’s firm was a legitimate business, one that was recently sold off to another broker-dealer to scrounge up more funds for Madoff’s investment advisory victims.

The bottom line is this: by ensuring that your stock broker is registered with the SEC and is a member of the SIPC, you all but eliminate the risk of being scammed by your broker.

If you want to find the best bargain in brokerage, take a look at the Penny Sleuth’s 2009 Broker Guide.

The Tricks to Trading Penny Stocks

In this day in age, there’s very little reason to pick up the phone to call your broker anymore. That’s because in the last two decades, online trading has emerged as an inexpensive, reliable, and efficient way to execute stock trades. Every major brokerage firm offers online trades – if yours doesn’t, consider that a major red flag.

Talking to a broker in person may be a good way to assuage your pre-trade anxiety, but it’s also a great way to smash your investing profits from the start. Phone orders can typically cost 400% more than online orders for a service that provides almost no benefits over online trades.

Many investors are concerned that they won’t be able to trade penny stocks without consulting their brokers by phone. But that’s simply not the case.

Online brokerage platforms give investors the opportunity to pick up shares in major listed stocks, as well as penny stocks that trade on the pink sheets or over the counter. If you’re having trouble finding a particular penny stock, feel free to call your broker for assistance, but by all means, execute the trade online and avoid the huge phone commissions.

Final Thoughts

Some of the most exciting small-cap opportunities right now are in foreign stocks. And as with penny stocks, you can buy or sell shares of foreign companies completely online through your broker.

If you live in a country other than the United States, however attempting to open a U.S. brokerage account could entail quite a lot of paperwork. The Patriot Act severely tightened banking and investing laws, and as a result financial institutions are required to know exactly who their clients are as well as where their money is coming from in order to curtail money laundering. That said, brokers in nearly every other country have access to U.S. exchanges, though their regulation may not be as stringent as it is here.

For the vast majority of investors, selecting the right broker is merely a matter of personal preference. As long as your broker is kept in check by the SEC and insured by the SIPC, you don’t need to worry much about the safety of your money. But your money can evaporate pretty quickly if you’re handing over outlandish commissions every time your place a trade.

Don’t be tricked into thinking that you can’t execute complicated orders for obscure stocks online – you can. And it’ll save you a fortune in trading fees.

Cheers,
Jonas Elmerraji

August 27, 2009

Make Profitable Investments by Understanding “Broker Basics” was originally featured in the Penny Sleuth.

To: PennySleuth@agorafinancial.com
Subject: Brokerage

Do you have a particular brokerage firm you use to buy penny stocks? I have a Sharebuilder account and cannot buy the stocks you guys like because they do not sell them… Please let me know who would be a good broker.

Thanks,
T.

Singling out any particular broker is a tall order for us.

That’s because each investor has a unique set of circumstances and requirements, as well as a different trading philosophy. That said, we can help to break down which brokers make the most sense…

It’s true that some brokers (like Sharebuilder) won’t allow you to trade low-volume OTC stocks. Others charge extra fees if you want to buy or sell shares of small-caps. That’s why we’ve compiled this look at some of the most popular brokers out there – with a focus on how to maximize your investing profits and minimize commissions…

In this report, we’re taking a look at how some of the biggest brokers in the business treat small-cap investors. For our purposes, we’re assuming that your brokerage account will contain less than $25,000 and you’ll be making less than 30 trades each quarter.

We’ll also lay out how much it would cost in commissions to make a sample trade, buying 1000 shares of a fictitious NASDAQ listed small-cap that trades at $1.00.

E*Trade (1-800-387-2331)

The original online broker continues to be one of the most popular discount brokerage options today. The company also features mobile account access for iPhone and Blackberry users, and a number of free research tools on their website and trading platform.

Scottrade (1-800-619-7283)

Scottrade is a solid brokerage choice for smaller investors who want low fees and a small minimum opening balance. If you want to invest in stocks that trade under $1.00, keep in mind that Scottrade charges 0.5% of the principal value in addition to regular commissions.

That means that buying 1000 shares of a $0.90 stock will end up costing you $11.50 in commissions.

ShareBuilder (1-800-747-2537)

While ShareBuilder is a good brokerage choice for new investors with limited capital and experience, its available stocks are limited to those on the ShareBuilder Stocks List, which doesn’t include many penny stocks – especially those traded OTC.

thinkorswim (1-866-839-1100)

thinkorswim offers its clients with advanced trading tools – like their terrific trading platform – at no charge, which is definitely a big benefit for more experienced investors. Their relatively high minimum opening balance may be a stumbling block for investors with limited capital.

Interactive Brokers (1-877-442-2757)

Aimed primarily at highly experienced and professional investors, Interactive Brokers offers an impressive amount of buying power and the use of highly customizable trading platforms. If you don’t have investing experience under your belt, stay away from IB.

Charles Schwab (1-866-232-9890)

Schwab is one of the largest discount brokerages in the world, but prides itself on providing full-service features to its clients.

Zecco (1-877-700-7862)

While Zecco is a relative newcomer to the brokerage game, their low prices have been quickly attracting investors. If you maintain an account balance above $25,000 or more than 25 trades per month, your first 10 buy trades are free each month.

TradeKing (1-877-495-5464)

Unlike other brokers, TradeKing’s $4.95 commissions include broker-assisted trades, which often cost near $50. If you’re new to the investing game, and want a broker to help guide you through your trading decisions, TradeKing is a smart choice.

Don’t Let Your Broker Make You Broker

Picking the right broker is incredibly important…it could mean the difference between making profits and missing an opportunity. While our list of brokers doesn’t cover every firm out there, it should at least help you differentiate among the more popular options out there.

Stay tuned to the Penny Sleuth over the next couple of weeks – we’ll continue to answer your reader questions…

Cheers,
Jonas Elmerraji

June 23, 2009

Penny Sleuth’s 2009 Discount Broker Guide was originally featured in the Penny Sleuth.