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Brokerage accounts

Lesson in Course: Investing basics (beginner, 3min)

What is a brokerage account and why do we need one to start investing?

Eureka!

What it's about: Brokerages are the middlemen that connect investors to a market.

Why it's important: We need to open a brokerage account to buy/sell many different types of investments.

Key takeaway: Some brokerages give us full control over our investments while others do the work for us. 

About 80% of people give up on their New Year's Resolution. Forming a new habit or changing a routine is difficult, especially if we haven't done it before. Scientists blame this issue on inertia, a tendency to do nothing or resist change. Inertia is why it takes more effort to get started than it takes to keep it going. The same is true with investing for the first time, but here is a dead-simple plan to get started. 

Being able to buy assets

We have to open an account at a brokerage before we can start investing.

Brokerage accounts allow us to buy stocks and other assets on the market

Most brokerages offer traditional brokerage accounts and retirement accounts. If we already have our retirement accounts set up, we should consider opening a brokerage account to invest our after-tax money. 

What is Brokerage?

In addition to holding our investments, they are a middleman that connects us with other investors in the market to buy and sell assets

There are two main types of brokerage accounts:

What is Cash account?

A type of brokerage account that allows us to make purchases with only the money we have in the account

Cash accounts are simple and will not require us to borrow or owe anyone money.

Cash accounts charge no interest

Some cash accounts also come with free checking and debit services linked to the brokerage account.

What is Margin account?

A type of brokerage account that allows us to make investments with borrowed money from the brokerage.

The value of the investments in our margin account determines how much we can borrow. While investing with more money sounds enticing, trading on margin can be dangerous for beginners. Brokerages make it easy to trade with borrowed money. However, if our investments start losing value, the brokerages come looking for more collateral. The effect of borrowing money to invest is called leverage, which amplifies our gains as well as losses.

When we sign up for brokerage accounts, brokers will often recommend margin accounts or open these for us by default. 

We don't always need a margin account

These accounts generate more revenue for them since we owe the brokerage interest on the money we borrowed.

 

Managed vs Unmanaged

Different brokerage accounts are better suited for how much control we want to have over our investments.

We can pay professionals or products to manage our investments

Knowing how much time we have to manage our investments helps determine whether we should start with a managed or unmanaged brokerage account. These accounts are not mutually exclusive, and many investors often end up having both at one point. 

I am willing to pay for help

If we're super busy and prefer to be hands-off, we should look for managed accounts. 

What is Managed Account?

Brokerage or retirement accounts that we pay a small fee for someone, a human advisor or an algorithm (a robo-advisor), to manage our investments for us.

Typically, human advisors charge more in fees than automated software services. The difference is that advisors often prescribe custom strategies, while a Robo-advisor saves money by matching our needs to a few pre-set strategies.

I want to be more hands-on 

If we're more of a DIY-type, many brokerages have made it easier for us to call the shots with unmanaged accounts.

More people are choosing to manage their own money and future 
What is Unmanaged Account?

Brokerage or retirement accounts that require us to take full control to pick and execute which investments we want to make.

With an unmanaged account, we save on advisor fees and maintain control over which assets and companies we want to invest in by doing things ourselves. However, we are also on the hook to learn and understand what we are doing. This doesn't mean they're a lot of work. We can still use basic passive investing strategies that are simple and quick for beginners.

 

 

Actionable ideas

If we're just getting started, a cash account will keep things simple until we're ready for a margin account. As beginners, we need to keep our eyes peeled since brokerages often advertise margin accounts. Margin accounts are reserved for more advanced investors who understand the amount of risk they are holding at all times. If we find that we've signed up for a margin account, we should be careful not to invest with more money than we have. 

Then, decide whether a managed or unmanaged account fits your lifestyle and preferences. You could even try both out to see what works best for you.

 

Supplementary materials

Check out this short video for more brokerage account basics 
https://youtu.be/ka2TZM94EtM

Glossary

What is Brokerage?

In addition to holding our investments, they are a middleman that connects us with other investors in the market to buy and sell assets

What is Cash account?

A type of brokerage account that allows us to make purchases with only the money we have in the account

What is Margin account?

A type of brokerage account that allows us to make investments with borrowed money from the brokerage.

What is Unmanaged Account?

Brokerage or retirement accounts that require us to take full control to pick and execute which investments we want to make.

What is Managed Account?

Brokerage or retirement accounts that we pay a small fee for someone, a human advisor or an algorithm (a robo-advisor), to manage our investments for us.