What do stockbrokers do?
Stockbrokers provide a range of services for both investors and listed companies including:
Occasionally, they will also act on their own behalf:
Buying and selling securities
Only authorised firms and individuals are able to buy and sell securities via a stock exchange. This work used to take place on the ‘trading floor’ of the stock exchange, but the Stock Exchange Automated Trading System (SEATS) was introduced in 1987 and took over all trading when the floor of the ASX closed in 1990.
SEATS is accessed through dedicated terminals by stockbrokers who have passed the exams required to hold a SEATS licence.
Once a stockbroker executes a trade, a ‘contract note’ is sent to the client containing the details of the transaction that has taken place including:
- The name of the person/entity buying or selling the shares
- The name of the company in which the trade took place
- The number of shares traded
- The price/s at which the shares were traded
- The total value of the trade
- Any commissions and charges payable
- The net amount owing to the client in the case of a sale, or payable by the client in the case of a purchase
After the trade takes place, the process of settlement and clearing begins i.e. the transfer of money from Party A to Party B (settlement), in exchange for the transfer of shares from Party B to Party A (clearing). The transaction is officially settled and cleared two days after the trade takes place. This is known as T+2. It is expected that some time soon technology will enable stockbrokers and exchanges to transact, settle and clear trades on the same day i.e. T+0.
Advising on investments
A key differentiator between Full Service Stockbrokers and Online Stockbrokers is the personalised investment advice provided by Full Service Stockbrokers. Through enquiry into factors including the client’s financial position, objectives and risk tolerance, a Full Service Stockbroker will recommend a portfolio suited to the requirements of that specific client. There are two major elements to the provision of personalised advice:
Stock selection
This involves advising the client which stocks they should hold in order to fulfill their objectives. This advice takes into account their current financial position, risk tolerance, and the stockbroker’s beliefs as to the stocks most likely to deliver the desired outcome for the client. This last component is based on fundamental analysis performed by Research analysts.
Portfolio construction
This advice details the amount of the portfolio that should be invested in each stock once again bearing in mind the client’s current financial position, risk tolerance and objectives.
The delivery of personalised financial advice in Australia must be in the form of a Statement of Advice (SOA). An SOA is a written document provided to the client detailing the stockbroker’s advice and must include:
the name of the firm providing the advice the factors supporting the advice provided information relating to any payments or other benefits the stockbroker will receive if the advice is followed
Increasingly many Full Service Stockbrokers are expanding their services to include other asset classes and Asset Allocation advice i.e. advice regarding the percentage allocations to each asset class in the client’s portfolio. They are often also now referred to as Wealth Managers or Financial Advisers. Many now charge a percentage of ‘assets under advice’, to more appropriately reflect the ongoing advisory services they provide, rather than transaction-based fees.
Research
Stockbroking firms employ research analysts to conduct fundamental analysis on companies listed on the stock exchange. The aim of this work is to determine which companies clients should invest in and which they should avoid.
Fundamental analysis is the process of assessing the intrinsic value of the shares of a company. It involves the building of financial models and the use of valuation techniques such as Comparative Ratio analysis e.g. price/earnings (P/E) and Discounted Cashflow analysis (DCF), to help the analyst assess the current value of the company and its shares.
By comparing the valuation arrived at through use of these methods to the current share price, Research Analysts are able to present ‘Buy’, ‘Hold’ and ‘Sell’ recommendations for each of the companies they analyse.
Capital raising for companies
One of the major functions of a stockbroking firm is raising money for listed companies - or ‘capital raising’ as its most commonly known. While capital may take the form of debt or equity (or a combination), stockbrokers focus on raising equity capital i.e. where money is invested in the newly issued shares of a company.
There are two main types of equity capital raising:
Primary capital raising
A ‘primary’ capital raising involves the listing of the shares of a company for trade on a stock exchange for the first time. The process is often referred to as an Initial Public Offering (IPO) as shares are offered to the broader investment community for the first time, before their listing for trade on the stock exchange. Companies conduct primary capital raisings to:
- Raise money for growth
- Provide liquidity for existing investors i.e. the ability to realise some or all of their earlier investment in the company by selling their shares
- Enhance the credibility of the business through public listing
- Create the ability to incentivise staff through ownership of publicly-traded shares in the company they work for
Secondary capital raising
A ‘secondary’ capital raising involves a company that is already listed on a stock exchange raising additional capital. The secondary capital raising process is significantly simpler than that of an IPO (as the company has already fulfilled the requirements of listing). There are a range of methods available to companies for raising additional equity capital involving differing timetables and rights for existing investors.
A capital raising, either Primary or Secondary, may also include an Underwriting agreement. This agreement binds the Stockbroking firm and/or third parties (the ‘Underwriters’) to purchase any new shares that are not bought by investors through the capital raising process. The effect of this agreement is to guarantee the company will receive the amount of capital it is seeking to raise. In exchange for this guarantee, the company pays an agreed fee to the Underwriters.
Acting as Principal
While stockbroking firms usually act as the agent of one or more third parties, on occasion they will also act on their own behalf i.e. as Principal.
In this case a firm will buy or sell securities for itself. It might do this for a number of reasons including:
- To buy and sell shares resulting from an Underwriting agreement
- To buy some or all of a large block of shares, or a portfolio of shares, directly from a client in order to facilitate that client’s exit from that shareholding or portfolio (Facilitation)
- To profit from rising or falling share prices
To continue the process of finding the right stockbroker, read Are there different types of stockbrokers?
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