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Investment custodian vs. broker/dealer (revisited)

October 17, 2014

Years ago I wrote a short Q&A format newspaper column, reproduced here, on the topic of  an investment broker/dealer vs. custodian. The topic continues to receive attention today and I presume that the underlying consumer question focuses on safety of investment holdings. Recent inquiries caused me to wonder whether there is an easier and perhaps more useful way to approach the topic from a consumer perspective. This short list is what I came up with:

  1. The basic original distinction was that a custodian firm is responsible for safekeeping client assets. A broker/dealer firm provides trade execution services and insurance.  For most retail investment accounts today, the brokerage firm also serves as custodian so this distinction is lost.
  2. Investment custodians and investment broker/dealer firms are practically indistinguishable from a consumer’s perspective. Collectively, these firms receive and hold your investment dollars, handle transactions and issue periodic reports of your holdings. Combined account services extend insurance provided by  the Securities Investor Protection Corporation (SIPC)  on client assets.
  3.  The line between commissions vs. non-commissioned services is now so blurred now that we should not even bother to list any possible distinction.
  4. It is important to distinguish between an insured firm and an uninsured entity. Almost all of the consumer rip-off cases, like the Madoff case, happened because investor funds were not held by an investment custodian firm or a broker/dealer firm. If you write a check or authorize a wire transfer to “ABC Bank, custodian”, then your assets are insured against embezzlement. If you write your check to “Bernie Madoff Investment Advisers” then you are not insured.
  5. The single most important thing an investor can do to safeguard against embezzlement if investment funds is to receive a statement directly from the investment custodian firm or broker/dealer firm. Do not rely solely on statements received through an adviser, attorney or accountant no matter how much you trust that person.
  6. This discussion has nothing to do with investment risk or market risk. If you buy an investment that later drops in value and then you sell it, you lose money no matter what firm is holding the funds.
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