Opening Accounts

You have heard their names on TV or seen them in magazine ads: Charles Schwab, TD Ameritrade, E-trade, Goldman Sachs, Fidelity, etc. Maybe you've seen branch offices for such firms at the mall, or on one of the floors at your office building. What is happening inside these offices?
Customers are investing in the stocks, bonds, mutual funds, and options we have looked at earlier. Maybe the customer was pulled in by an advertisement on TV or the car radio. Maybe she was recommended by a friend. Maybe she received a form letter from one of the agents at the firm.
Whatever pulled her toward the front door, an agent's job is to sign her up for a new account.

New Account Form
Typically, a registered representative fills out the new account form, often over the telephone. Often, customers complain the forms through the member firm's website. Either way, member firms should obtain from the new customer:
  • Full name and address
  • Home and work phone numbers
  • Social security or Tax ID number
  • Employer, occupation, employer's address Net worth
  • Investment objectives (speculation, growth, income, growth & income, preservation)
  • Estimated annual income
  • Bank/brokerage firm reference
  • Whether employed by a bank or broker-dealer Third-party trading authorization (if any) Citizenship (doesn't must be an American)
  • Whether the customer is of legal age (not a minor child)
  • How account was obtained (referring broker-dealer, investment adviser)
  • Whether customer is an officer, director, or 100/0 shareholder of a publicly traded company
A registered representative for a broker-dealer is supervised by principals. A principal has sign-off power over important matters, and one thing a principal must always sign off on is a new account. So, the registered representative is listed on the new account form, but it's the principal/branch manager who must sign it to accept the new account. Surprisingly, there is no rule that says the customer must sign it. And, of course, that statement is always true except when it isn't. What we mean is that the customer can open a cash account without signing the new account form, but if she's opening a margin account or wants to trade options, she must sign it.

And, even though the customer is not required to sign the new account form for a pay-as-you-go cash account, she does need to verify that the information recorded is accurate, and she must sign that acknowledgment. The firm is required to send the customer a copy of the new account form within 30 days of opening the account and within 30 days of any major change in the information. Every 36 months the firm must verify the customer's information, too. Why? Making suitable recommendations to customers is your main job. If you're looking at customer information that is no longer accurate, your recommendations will most likely be unsuitable.

For example, one of your customers used to trade speculative penny stocks and call options. That made sense when she was single, but in the past few years she got married and had twins. So, if you're still recommending high-risk strategies, you're probably making unsuitable recommendations. It might be time to set up a tax-advantaged education plan for the kids and tone down the aggressive posture of her existing account.

Unsuitable recommendations frequently lead to fines and suspensions from FINRA, and customers have been known to recover the money they lost by filing an arbitration claim. So, as the NYSE has been saying for centuries, the first rule for the registered representative is to "know thy customer." Since customers' situations change frequently, you and your firm need to keep up with the changes.
Even though a firm can send correspondence to the customer's PO Box, they still need to get a street address from the customer.

What if the customer refuses to provide a social security or other tax ID number?
The account can still be opened, but the firm must notify him that the IRS is going to demand that a certain percentage of any interest, dividends, or capital gains must be withheld by the broker-dealer, known as a backup withholding. If the customer sells 100 shares of ABC for a profit, he won't be able to pull all of it out in cash at this time. Rather, a percentage will go to the IRS.

Surprisingly, even in today's climate, customers can open numbered accounts. This does not mean the customer remains anonymous. Rather, it means the customer does not want people at the firm talking about his or her financial business. The customer would need to sign a written statement acknowledging she owns the account identified only with a number or symbol, and your firm must keep that on file.

Whether an account is identified by a name, number or symbol, remember that account information is considered confidential. This is the customer's personal business, and you know how touchy some people get over financial matters. So, the information you obtain on a customer can only be released with the customer's written permission, or if there is a legal requirement to turn it over the SEC, FINRA, a divorce or probate court, or your state regulator, for example, has subpoenaed the information. But, if somebody calls up claiming to be the customer's fiancee and just wants to know how much dividend income she should expect this month, do not release any information to him.

Unfortunately, sometimes customers end up losing money by following the recommendations of their registered representatives. Sometimes, the customer assumes the rep was not at fault. Other times, this being America, the customer demands her money back. FINRA has a system in place to handle such disputes, called arbitration. Members of the securities industry are automatically required to use arbitration to handle disputes between firms or between registered representatives and their employing broker-dealers. But a customer only must use arbitration if she has signed a pre-dispute arbitration agreement. If your firm failed to get her signature on that agreement, the customer would be free to sue you and your firm in civil court, where her attorneys could keep filing appeal after appeal until you cry uncle.

 To avoid the lengthy and expensive process of civil court, broker-dealers use arbitration. The pre-dispute clause must make it clear that the customer generally gets only one attempt at arbitration no appeals and that the arbitrators are not required to explain their decisions, and that many of them come from the industry.

So, if she loses, say, $100,000 following her registered representative's recommendations, the arbitrators could decide a range of outcomes. Maybe she gets $100,000, maybe she shares half the blame and gets $50,000. Maybe she gets nothing at all, and the arbitrators won't even explain why they decided against her. You can probably see why this arbitration thing needs to be clearly explained before the firm tries to hold the customer to the process by signing on the dotted line.

Finally, if the test asks about the customer's educational background, that it is not relevant. Educated people frequently do the dumbest things with their money, and less educated people have been known to make money in the market even as all the MBAs, CFAs, and CFPs consistently lose their shirts. So, we won't ask for the customer's educational level or record it on the new account form.

Options Account
Here are the steps for opening an options account:
1.    Registered rep discusses suitability issues with the customer: net worth, experience with options, types of options trades anticipated.
2.    Registered rep sends OCC Disclosure Brochure either now or at the time the Options Principal approves the account. Registered rep also indicates when the OCC Disclosure Brochure called "Characteristics and Risks of Standardized Options" was sent/delivered to customer.
3.    As soon as the Options Principal approves account, first options trade may occur.
4.    Customer has 15 days to return a signed options agreement. If not, only closing transactions would be allowed—no new positions.


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