If you want to start trading on the retail market, opening a brokerage account is the first step. But what is a brokerage account, and how do they work?
In this article, we’ll go over everything you need to know when opening a brokerage account. We’ll cover what to look for as well as what you’re entitled to when you open one.
There are lots of traps that people fall into when opening an account with a retail broker, so stick around and you can avoid making the same mistakes. Also, if you don't know the term price action trading, we have an in depth guide here.
Brokerage Accounts, also known as securities accounts, are what traders use to trade in the online retail market. They are operated by brokers who use proprietary or third-party trading platforms to trade online.
Income made in those accounts is normally subjected to capital gains tax. Some jurisdictions, such as Singapore, do not charge capital gains tax for profits earned trading, but most countries charge tax.
If you have an active brokerage account, make sure you keep track of your earnings. Tax authorities monitor the earnings that accounts under their jurisdictions earn.
There is a wide range of different brokerage accounts to choose from. Full-service providers give account holders access to financial advisors and other services. Low fee accounts have limited financial aid but cost their owners less in fees and other charges.
Your brokerage account keeps track of all available funds as well as any stocks or options you own at the time. Users deposit and withdraw funds as they wish. Sometimes withdrawals are done directly to bank accounts, but some brokers allow you to use online transfer services like PayPal or crypto wallets.
Retail brokers have to follow certain procedures and regulations depending on where the firm is based. These regulations affect all sorts of things when you trade instruments online, such as leverage ratios and financial reporting.
Something very important to examine when you choose to open an account is whether client funds are kept in segregated accounts. This will protect your money should the broker run into financial troubles.
Segregated accounts mean that rather than keeping all client funds in one large pool that can be accessed at any time to pay people out, brokers separate each client’s money from others.
If a broker encounters financial difficulty, such as liquidation or bankruptcy, having your funds in segregated accounts will protect you from their mismanagement.
There have been instances in the past where a broker has used their users’ money to pay off debt and liabilities to protect themselves. As a result, many jurisdictions have added regulations that require brokers to segregate client funds.
Regions that insist on this include the USA’s SEC, Europe’s ESMA, Britain’s FCA, South Africa’s FSCA, and many others.
Look out for any brokers that are based in the Virgin or Marshall Islands, since their regulatory bodies do not have these requirements.
For an additional fee, some brokers offer managed accounts. These accounts come with some form of investment management. Managers can be either human advisors or ‘robo advisors’ that use AI and Big Data to guide the investor.
Robo advisors tend to be cheaper to employ than their human counterparts, and often outperform them. Recent studies looking into the efficacy of human investors have found that the majority of the time they underperform indices markets and automatic investors.
If you plan on being a hands-off investor, these kinds of accounts are best for you. You can deposit money into your account and industry experts or sophisticated algorithms can pick out the best investments for you to make.
If you’d rather trust your intuition and expertise, you can avoid these kinds of accounts. A word of warning, by and large, managed accounts perform better than others. Industry experts are the best equipped to make good decisions with your money.
But the extra costs could put some people off. There’s also the possibility that you could outperform the experts and earn more of a profit on your own.
How to Open a Brokerage Account
So you’ve decided which kind of account is best for you, now you need to open one. Every account is different, and the steps taken to open one are subject to change. But the general motions to open an account are more or less the same across the industry.
First, you need to sign up for a retail broker’s platform. To do this you will need to enter personal information such as personal identification and your address. Some brokers have a waiting period of a day or two before your account becomes active.
>> Want to compare the best brokers? Read our roundup of the best online brokers.
Then you will need to deposit money into your account. Some brokers have minimum deposit requirements to open accounts with them. Sometimes these deposits are small – around $20. Other brokers can charge much more. Some go as high as $1000.
Once you have deposited money you will need to download the trading platform. This is the application that brokers use to allow their users to trade. Most traders use the MetaTrader platform (MT4/MT5) which can be used on your web browser or your desktop.
Many trading platforms have also released mobile-friendly versions of their trading platform, but these are often pared-down versions of the whole application.
Brokerage accounts take many different forms and shapes, but they all function in more or less the same way. We’ve explained the basics of what a brokerage account is in this article, but there’s lots more to learn on your journey of becoming an expert trader.
We’ve put together lots of other useful resources that explain the ins and outs of retail trading which you can find on our website. We would encourage you to read up on all of these to equip yourself as best you can.
Knowledge is the best tool for success, and this is only the first step.