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Brokerage Account Investments

Everyone needs a Brokerage Account.

Brokerage Accounts

Brokerage Accounts obtained from a financial institution are required in order to purchase stocks, mutual funds, most bond types, and other investments.  Brokerage accounts generally require an initial deposit into a Cash-Management Account of at least $1,000, or alternatively they may be linked to a regular bank checking account that has a cash balance.  Purchases are made from this account and dividends are paid into this account.  Other types of accounts are available for the more sophisticated investor including Margin Accounts, which allow an investor to buy securities with money borrowed from the broker, and Discretionary Accounts, which permit the broker to buy and sell shares for the investor without first obtaining the investor's approval.

Types of Funds

The major investment types are stocks, bonds, mutual funds and hedge funds.  Mutual Funds are collections of different stocks and bonds that are managed by professional money managers.  They are sold as shares based on market price, the same way that stocks are bought and sold.  While there is no legal definition of mutual fund, the term is most commonly applied only to those collective investment schemes that are regulated, available to the general public and open-ended in nature.  Mutual funds are classified by their principal investments.  The four largest categories of funds are money market funds, fixed income (bond) funds, equity (stock) funds and hybrid funds.  Mutual funds can be either actively managed or based on the performance of a market index (an index fund).

There are three types of U.S. mutual funds: open-end, unit investment trust, and closed-end.  The most common type, the open-end mutual fund, must be willing to buy back its shares from its investors at the end of every business day.  Investors in a mutual fund pay the fund’s expenses.  Mutual funds pass taxable income on to their investors annually in the form in which it is earned.  For example, mutual fund distributions of dividend income are reported as dividend income by the investor.  Net losses incurred by a mutual fund are not distributed or passed through to fund investors.

Mutual Funds have the following advantages compared to direct investing in individual securities:

  • Increased diversification
  • Daily liquidity
  • Professional investment management
  • Ability to participate in investments that may be available only to larger investors
  • Service and convenience
  • Government oversight
  • Ease of comparison

Mutual Funds have disadvantages as well, which include:

  • Fees
  • Less control over timing of recognition of gains
  • Less predictable income
  • No opportunity to customize

Exchange-Traded Funds (EFTs) are open-end or unit investment trust mutual funds that trade on an exchange. EFTs track an index, a commodity or a group of assets like an index fund, but trade like a stock on an exchange. ETFs experience price changes throughout the day as they are bought and sold, and unlike stocks their supply is limitless. The largest issuer of EFTs in the US and globally is iShares. IShares are a family of ETFs managed by BlackRock. Each iShares fund tracks a bond or stock market index.

Hedge Funds are an aggressively managed portfolio of investments that use advanced investment strategies such as leveraged, long, short and derivative positions in both domestic and international markets with the goal of generating high returns. While they are another type of commingled investment scheme, they are not considered a type of mutual fund, are not governed by the Investment Company Act of 1940, and are not required to register with the Securities and Exchange Commission. Legally, hedge funds are most often set up as private investment partnerships that are open to a limited number of investors and require a very large initial minimum investment. Investments in hedge funds are illiquid as they often require investors keep their money in the fund for at least one year.

Self-Managed Investment Accounts

Depending upon your personal situation you can elect to manage your investments yourself or work with a professional investment broker.  If you have basic knowledge of the tools and techniques of investing, have the time and ability to manage your own diversified portfolio, and are able to stick to a sound investment strategy, then you may decide to do your own investing.  To quote Warren Buffett “To invest successfully over a lifetime does not require a stratospheric IQ, unusual business insights, or inside information.  What’s needed is a sound intellectual framework for making decisions and the ability to keep emotions from corroding that framework”.  If you are new to investing, you may wish to start with reading the “bible” on investing titled “The Intelligent Investor”, written by Benjamin Graham in 1950 and first read by Warren Buffett when he was nineteen.

Intelligent Investing:  Jason Zweig, who edited the revised edition of Benjamin Graham’s book, commented that Graham’s core principles on investing (summarized below) are as valid today as they were during his lifetime:

  • A stock is not just a ticker symbol or an electronic blip; it is an ownership interest in an actual business, with an underlying value that does not depend on its share price.
  • The market is a pendulum that forever swings between unsustainable optimism (which makes stocks too expensive) and unjustified pessimism (which makes them too cheap).  The intelligent investor is a realist who sells to optimists and buys from pessimists.
  • The future value of every investment is a function of its present price.  The higher the price you pay, the lower your return will be.
  • No matter how careful you are, the one risk no investor can ever eliminate is the risk of being wrong.  Only by insisting on what Graham called the “margin of safety” – a never overpaying, no matter how exciting an investment seems to be – can you minimize your odds of error.
  • The secret to your financial success is yourself.  If you become a critical thinker who takes no Wall Street “fact” on faith, and you invest with patient confidence, you can take steady advantage of even the worst bear markets.  By developing your discipline and courage, you can refuse to let other people’s mood swings govern your financial destiny.  In the end, how your investments behave is much less important than how you behave.

Securities Trading

As mentioned earlier, securities (stocks, mutual funds, etc.) are purchased and sold through a brokerage account.  In order to initiate a trade, you must specify the 1) type of trade, 2) price and 3) terms.

1.  Type of Trade.  The trade can be a Buy, Sell, Sell Short or Buy to Cover.  A Sell Short is used to sell a security that you don't own -- you are agreeing to borrow shares and sell them, thereby obliging yourself to purchasing and repaying the borrowed shares at a later date.  You purchase these pay-back shares via a Buy to Cover.  A Sell Short is used when the price of a security is expected to decrease.  It generally costs more and is risky in that it commits you to a future trade that could cause you to lose money.

  2.  Price.  You can buy or sell a security at Market Price (the best price available at the time that the order is executed) or specify limits on the unit price that you're willing to pay or receive for the security.  A Limit Order is an order to buy a security at a price less than current market or sell at a price higher than current market.  Other, more complex orders can be placed including a Stop Loss Order which is placed below the current trading price to limit losses on holdings if the price declines.  Finally, you can place a Trailing Stop Order, which is similar to the Stop Loss Order, but protects a profit, as opposed to protecting against a loss.

3.  Terms.  The order can be a Day Order, Good Until Canceled (GTC) or All or None (AON).  A Day Order automatically expires if it is not executed during the day's trading session.  A GTC order is an order to buy or sell which remains in effect until it is either executed or canceled.  A AON order prevents a broker from filling a large order in smaller blocks and at significantly different prices.

Qualified and Non-Qualified Accounts

Qualified Investment Accounts qualify for special tax treatment meaning that their income and growth are not taxed until money is withdrawn (generally in retirement).  Qualified Accounts consist of pre-tax dollars invested in traditional IRAs, 401(k)s, etc.  Because of this tax treatment, you may wish to keep investment products that produce and report income (e.g. mutual funds) inside qualified accounts.  This way you are not taxed on the “reported” (real or otherwise) income until you begin withdrawing funds at some future date.  By the same logic, it is advantageous to invest in individual stocks in your non-qualified (after-tax) brokerage account.  These stock ownership investments produce regular predictable real income that is taxed at the capital gains rate.

Professionally Managed Investment Accounts

A Professionally-Managed Investment Account is managed by a professional money manager and is tailored to the individual investor based on his short and long term objectives and risk tolerance.  Generally the money manager starts with a review of the investor’s assets, liabilities, income and expenses.  From this information and the investor’s age, marital status, family obligations (home, education, etc.) and retirement goals, the money manager can determine the best strategy for meeting the investor’s goals.

Money managers invest in diversified portfolios of stocks, bonds and other instruments.  The two major investment strategies of money managers are to 1) invest directly in stock comprising the various asset classes or to 2) invest in mutual funds that target the asset classes.  I personally believe that the second strategy is a safer and better way of achieving long term growth.  By selecting a combination of highly rated actively managed mutual funds and index funds, this strategy brings together the collective experience of many highly-rated mutual fund managers combined with the low-cost market tracking performance of index funds.  This approach allows under-performing funds and fund managers to be replaced as needed to assure the investor of maximum growth and safety.

Traditional or Discount Brokerage Firms

For self-managed accounts, you may wish to consider a discount brokerage firm.  A discount firm will enable you to buy and sell investments on your own through their website and provide you analytical tools to make informed decisions.  They charge reduced fees for their services.

With a traditional firm you may be required to interact directly with a broker who will provide investment advice and execute your buy/sell orders.  In this traditional full-service account, you can pay a broker to manage your investments.  For this service they will charge a percentage (typically 1% to 3% annually) of your total investment portfolio, with the percentage charged decreasing as the total value of your managed assets increases.  Some investment firms offer you the choice of either traditional or discounted services.

Brokerage firms can differ in terms of:

  • Website quality/functionality,
  • Analysis tools,
  • Scope of tradable assets,
  • Order execution speed,
  • Optional features/services,
  • Relationship account linkage/fees,
  • The extent to which investors can trade on margin, and
  • Fees.

Fees can be charged for buy/sell orders, account management, inactive accounts, closing accounts, and for incidental items.  Consequently, the brokerage firm that's right for you is the one that best meets your needs and provides a quality service at the best price.  Don't lose sight of the fact that your only purpose of a having a brokerage account is to make the most money safely and quickly.

Asset Allocation

To maximize portfolio safety and performance, your investment assets should be spread across various classes of investment products.  In the broadest sense these include cash, equities (stocks), fixed income (bonds), and other.  Equities generally include large cap, mid-cap, small cap and international stocks.  The fixed income class generally includes government bonds, corporate bonds, international bonds, emerging market bonds and mortgage-backed bonds.  “Other” typically includes real estate, commodities (e.g. oil), precious metals (e.g. gold) and futures.

The percentage of your total portfolio invested in each asset class depends on the amount of risk versus growth that you’re willing to take.  An aggressive portfolio is weighted more heavily towards stocks, and a conservative portfolio is more heavily weighted towards bonds.  As you get closer to retirement, you have fewer years to recover from a possible down market, and therefore should begin pursuing a more conservative portfolio.  Following is a possible approach for your asset allocation:

Years to Retirement
Asset Class 40 35 30 25 20 15 10 5
U.S. Stocks (%) 65 60 55 50 45 40 35 30
Non-U.S. Stocks (%) 27 26 25 23 21 19 17 15
Bonds (%) 5 10 15 21 27 30 36 42
Cash (%) 2 3 4 5 6 10 11 12
Other (%) 1 1 1 1 1 1 1 1

Asset Mix

Stock funds (mutual or index) or Bond funds that you purchase combine assets into various categories as follows:


  • Large-cap – Owns shares of firms with stock market values, or market capitalizations, of $10 billion or more.
  • Small & Mid-cap – Owns smaller companies.
  • Foreign – Owns shares of non-US companies.
  • Specialty – Owns assets that don’t move in sync with the broad stock or bond market.
  • Target date – Provides exposure to a mix of stocks and bonds appropriate for your age.
  • Balanced – Offers exposure to a fixed mix of stocks and bonds.
  • Value – Owns stocks that are selling at bargain prices.
  • Growth – Focuses on companies with fast-growing earnings.
  • Blend – Owns both growth and value-oriented stocks.


  • Short-term – Owns bonds that mature in about two years or less.
  • Intermediate-term – Owns bonds that mature in 2 to 10 years.
  • Multi sector – Owns a variety of different types of bonds, foreign or domestic.
  • Inflation protected – Owns bonds whose value at least keeps pace with the consumer price index.

Dividend Income

No brokerage account discussion is complete without mentioning the advantage of holding stocks of quality profitable companies that have a track-record of generating dividends and increase their dividend yield annually.  This is a great hedge against inflation, particularly in retirement when much of your other income (pensions, annuities, etc.) is fixed. With dividend stocks you're likely to see annual increases of both the stock price and dividend yield.

All Stock Portfolio

For the more adventurist investor who wants complete personal control, an all-stock portfolio may provide a good investment option. However, this should only be considered in conjunction with other more-conventional investment portfolios containing mutual and/or indexed funds.  The purchase and accumulation of individual stocks from high-quality companies provides both tax-free growth and regular income.

Here's my personal rules for building and managing an all-stock portfolio:

  1. Pick stocks that pay out dividends over 2% (most of mine pay over 3% and several over 8%).
  2. Obtain a brokerage account with no commission on stock purchases.
  3. Purchase stocks in larger, well-known companies, particularly ones with consistent income and dividend growth.
  4. Buy at or near the bottom of the stock's 52-week price range.
  5. Purchase in blocks of 50 shares (if over $100/share) or 100 shares.
  6. If the stock price decreases soon after purchase, buy more shares to improve your average price paid and increase the likelihood of future gains.
  7. Try to own at least 100 but less than 500 shares of each company in your portfolio.
  8. If the stock price or dividend decreases significantly over time, sell the stock and reinvest the proceeds into a better performing stock.
  9. Diversify across business types: technology, finance, food services, health care, manufacturing, real estate, etc.
  10. Build a portfolio of at least 25 company stocks and no more than 50. (Over 50 becomes too burdensome to manage.)
  11. Have dividends post automatically to your checking account.
  12. Use software (e.g., Quicken) to automatically update your financial brokerage records and account balances from your bank's data.