Finding the Right Broker
By: Don Wellenreiter
The following is an excerpt taken from Don Wellenreiter’s Millionaire Secrets for the Average Guy
This article may bother some of my friends in the brokerage community, but investors need to be aware of certain things when looking for a broker. When you search for a broker, you must first know who you are. Are you the type of investor that needs to rely 100% on your broker, or do you call your own shots? Do you take your trades from some newsletter and just place your trade with your broker?
If you rely completely on your broker then you need to interview him. First of all, ask him what his commission to equity ratio is. What this means is how much commission is generated for the amount of equity in the account. For example, if the broker has client accounts that total $500,000 and the broker generates $50,000 per month in commissions for his firm, he has a commission to equity ratio of 10%. This is on the high end of the scale; look for brokers with ratios closer to 5% or lower. If he doesn’t know what his is or he won't tell you, move on.
Ask him how long he has been in the business? This is more important than you may think. I once worked for a firm (that shall remain nameless) and I was discussing the bond market with several brokers. A younger broker asked what I thought the maximum downside for the bonds was at the time. I said, half jokingly, with the bonds near 106.00 there should be strong support near 96.04. He looked puzzled when I said this and then said, “Do you mean bonds can actually trade below 100?” This was a broker that was trading clients’ money. This would have been funny except that he was completely serious about it.
Does the broker trade his own recommendations in his own account? If he is calling you with such a great trade, why isn’t he taking the recommendation? What is his track record? If he doesn’t have one, ask for client references. Most brokers believe they are analysts after about two days in the business, so be leery of their recommendations. If the broker stonewalls you in any way, move on to another broker. Brokers love to use the cloak of client privacy or say that there is no way to track their performance because of the variety of accounts they handle. There is some truth to that, but if they are even the least bit successful in their recommendations and trading, they would be telling the world about their success (and with audited reports not just their word). But just because a broker (or newsletter writer) continually make bad recommendations doesn’t mean he is useless. If he is wrong 9 times out of 10 you may have found a gold mine. This is where the term “fade” comes into play. If he is wrong so much just do the opposite of his recommendation and use a proper stop. Many brokers do this with certain analysts and newsletter writers they know are habitually wrong on their market calls. I must admit that I find some comfort when I have a certain view on the market’s direction and a certain nationally known analyst makes a statement that is opposite of my viewpoint. Whether this is nice or not doesn’t matter. It is about making money.
I once worked with a broker who said that he was “paper trading with his client’s money,” until he found a system that actually worked and then he would just trade it in his own account. How nice for his clients. I believe that you should also find a broker with your type of personality and experience in the market you are interested in. Before you tell him the markets you will be trading, ask him what markets he specializes in, or what markets he mainly trades in. Believe me, if you tell him what you want to trade and then ask him his specialty, he will undoubtedly repeat what you just said back to you.
Finally, check with the National Futures Association (N.F.A. 1-800-676-4632) to see if the broker and/or his firm have any disciplinary history. If they do, you should investigate further or just move on. Keep in mind that the N.F.A. only records actual complaints, so it is possible that a broker could have no complaints against him and still be unscrupulous. Conversely, a broker could have an unjustified complaint against him that will still show up on his record. Talk to him about the complaint and if you are o.k. with the answer then open your account. If he is evasive, move on. There are plenty of good, clean brokers out there. Just take the time to locate one.
Do not feel intimidated when you first talk to a broker. They need you, you don’t need them. Odds are that you are probably talking to a broker with only a little bit more experience than you have, especially if you met this broker by way of his “cold call” to you. There are plenty of other good, honest, experienced, and hard working brokers out there. So if you don’t feel comfortable in anyway with the broker, just move on. Another very important point to keep in mind; this is your money, you are in charge, don’t be pushed around.
NEGOTIATING COMMISSIONS
This is one area that most new traders and some seasoned traders don’t realize that they have control over. They think that because they are new or that their account size is small ($20,000 or less) that there is no room for discussion about their commission rate. This couldn’t be further from the truth. It amazes me that investors would passively accept paying $50 per trade. Some firms charge $100 even $200 per trade. You better be getting some inside information at those rates, and trust me you’re not. Even if you are inexperienced and have a small account, the most you should spend on commissions should be $50 per round turn. Please note, I said round turn, not $50 on the buy side plus $50 on the sell side. Call around to several commodity firms (even full service firms can offer you discounted rates) to try and get the best rate. Get a copy of Investors’ Business Daily or Futures Magazine and look at the advertisements for rates that different firms offer. Commission rates alone shouldn’t be the decisive factor in opening an account; you must also receive good executions on your orders and timely reports back to you on those fills.
If you are calling your own shots or if you have a managed account, you probably shouldn’t be paying any more than $25 per round turn. If you are at this level, your broker really is nothing more than a sales clerk to you, so you shouldn’t have to pay anything more than the $25. If you are trading five or more contracts, you should also ask about getting direct floor access instead of using your broker. Remember the commissions you pay deduct from your bottom line, so it is in your best interest to get them as low as possible.
Some brokerage firms have a habit of tacking on “transaction fees” to all trades. There are some legitimate fees that the NFA charges, but they are minor. If there are charges for a “give up fee” that is probably a legitimate charge, it just means that the broker you are using has to use another firm’s broker to execute the trade. Be sure to check your brokerage statement for all fees charged. If you are unsure as to what some of the fees are for, just ask your broker. The fees that you should be leery of are the ones that just say “transaction fees.” Make sure that the rate the broker quotes you is inclusive of all fees, so that there are no surprises on your first statement.
Another misconception by new traders is that if they receive a newsletter or take a trading course from some “guru” that they have to trade at the firms the author recommends or owns. They are told that these recommended brokers understand their trading style and are more familiar with their trades. If you really want to trade at these recommended firms, find out what the relationship is between the author and the firm. I know that several of these “gurus” own the firm that they recommend. If the obvious conflict of interest doesn’t bother you, you should still get your commission rate down to $40 per round turn, and you should still check the firm and the broker out with the N.F.A. Some newsletter writers sell their newsletter at a discount in hopes that you will open an account at their firm where they can charge you $50 or more a trade. You would most likely be much better off just paying for their letter or “hotline” and trading at a discount house. After a few trades at a discount firm you will have saved enough money in commissions to pay for your subscription.
A final point about your money. If your account has more than $10,000 in excess cash tell your broker that you want to buy a short-term Treasury bill. By the term excess cash I mean money that is just sitting in your account that will not be used for purchases of options. If you are just trading futures and you have a $10,000 account you should not buy a $10,000 T-bill, because if you have a loss you would be forced to break the bill if you cannot send in more capital. However, if you have a $25,000 account and you plan to use only 50% of your capital for margin purposes at any given time, then you should inquire into buying a T-bill. Commodity accounts do not have a money market fund available, so the only way for you to receive interest on your idle cash is to buy a T-bill. Firms generally do not tell you about this because they earn interest off of the “float” on your money. Most firms will charge you anywhere from $35 to $50 for this transaction (although if you were to buy one directly from the Treasury it was be done at no cost); anything above this should be viewed as excessive.