Questions and Answers
What does a discretionary account require?
Written power of attorney
What is a discretionary account?
A type of account where the customer gives the brokerage firm trading authorization.
When performing a trade for a customer, what are the four principal items chosen?
When is a trade considered discretionary?
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What can Market-Not Held Orders be accepted without?
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What is a Not Held Order?
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Market-not-held orders must be executed the same day or a written power of attorney is required.
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What is churning?
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How can churning be stopped?
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What practices are prohibited if the principal finds certain conditions in discretionary accounts?
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Study Notes
Discretionary Accounts Overview
- A discretionary account requires a written power of attorney from the customer.
- Customers grant brokerage firms trading authorization, allowing brokers to make investment decisions on their behalf.
- Customers must sign a trading authorization before discretionary trades can begin.
Trade Execution Details
- Four principal elements are chosen when executing a trade:
- Size of the Trade (e.g., 100 shares)
- Security (e.g., IBM common stock)
- Price of Execution (e.g., $100 per share)
- Time of Execution (e.g., "At the opening")
Discretionary Trade Characteristics
- A trade is deemed discretionary if the broker selects the size and/or security.
- An example includes a customer instructing a broker to buy shares of a computer stock at a good price, allowing the broker to decide on the security and trade specifics.
Market-Not Held Orders
- Market-not held orders do not require written power of attorney and are manually executed by a floor broker.
- The broker determines the best execution price and time, but must complete the order within the same trading day.
- Instructing a broker to buy shares "whenever you think the time is right" is not a discretionary trade.
Churning and Regulation
- Churning refers to excessive trading in an account solely for generating commissions, which is prohibited.
- To prevent churning, every discretionary order ticket must be promptly signed by a principal, ensuring trades are reviewed at the end of each trading day.
Monitoring and Enforcement
- The principal can enforce rules against unsuitable trades or excessive frequency and size in discretionary accounts.
- Trades deemed unsuitable or excessive are reversed and moved to a "house" account, with any resulting losses typically charged to the responsible representative.
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Test your understanding of discretionary accounts with these flashcards. Learn key definitions and concepts related to power of attorney and trading authorization within brokerage accounts. Perfect for finance students and professionals!
