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A broker-dealer is a person or a company buying and selling securities for their account or their customers. In US securities regulation parlance, broker-dealers are known as stockbrokers since a majority of them act as agents and also principals. They act as brokers or agents by carrying out orders on behalf of the client and serve as dealers or principals by trading for their account.
A Little More on What is a Broker-Dealer
The broker-dealers have various essential functions in the finance industry which are:
- Supplying liquidity through market making activities
- Raising capital for companies
- Providing customers with sound investment advice
- Facilitating trading activities
- Publishing investment research
Broker-dealers come in different sizes ranging from large commercial and investment banks to small independent boutiques. They buy and sell securities as well as distribute other investment products. Their dealer function involves initiating transactions on behalf brokerage firms while their broker function entails handling transactions arising from trading securities on behalf of their clients
The broker-dealers ensure a free flow of securities in the open market while still trading the securities in their accounts to create a securities market for their clients. This means that they are essential in the market. They also earn a significant amount because they are paid a fee on both sides of a securities transaction.
The Broker-dealers who are involved in the underwriting of securities offerings are the one directly tied to investment banking operations. Broker-dealers can act as agents of securities companies by either being the principal underwriters of stock or bond offerings or being members of the underwriting syndicate.
When broker-dealers act as agents, they enter into a contractual agreement with the issuer by serving on a firm’s commitment. This commitment obligates them to distribute a specific amount of the securities offered to the public in exchange for an underwriting fee. They may acquire a portion of the securities offering for their accounts and may be required to do so in a situation where they are not able to sell all the securities.
After the completion of the underwriting process and the issue of all the securities, the broker-dealers become distributors, and their efforts are targeted at their clients. The financial advisors of the firms start acting as brokers to convince their clients and recommend the purchase of the security for their accounts. This means that the broker-dealers facilitate the interests of the issuer, their clients, and themselves even though their contractual obligation is only to the issuer
References for Broker-Dealer
Academic Research on Broker-Dealers
- Broker–dealer risk appetite and commodity returns, Etula, E. (2013). Journal of Financial Econometrics, 11(3), 486-521. This paper shows the importance of the risk-bearing capacity of the broker-dealers of US securities in determining the risk premia in commodity derivatives where they serve consumers and producers’ counterparties in seeking to hedge the commodity price risk
- Broker-Dealer Regulation, Lipton, D. A. (1988). Clark Boardman Callaghan. This is an article which attempts to provide a detailed description of the process of broker-dealer registration.
- The SEC and the Broker-Dealer, Loss, L. (1947). Vand. L. Rev., 1, 516. This paper examines the various regulations that the SEC has imposed in regards to broker-dealers.
- A Primer on Broker-Dealer Registration, Lipton, D. A. (1986). Cath. UL Rev., 36, 899. This paper attempts to find out who is a broker-dealer and who is required to register as a broker-dealer and follow the regulatory structure.
- Dynamic trading policies with price impact, He, H., & Mamaysky, H. (2005). Journal of Economic Dynamics and Control, 29(5), 891-930. This is an analysis of the optimal policy of for a risk-averse agent who requires to sell a large block of shares which has risky security in the presence of price impact and transaction costs.
- The growth of finance, Greenwood, R., & Scharfstein, D. (2013). Journal of Economic Perspectives, 27(2), 3-28. This paper explains the reasons behind the growth of the US financial services industry from 4.9% of the GDP in 1980 to 7.9% of the GDP in 2007
- The Finder’s Exception From Federal Broker-Dealer Registration, Polanin Jr, J. (1990). Cath. UL Rev., 40, 787. This article investigates the federal broker-dealer registration requirements which are consistent with the purposes of the exchange act.
- The impact of the broker-dealer fiduciary standard on financial advice, Finke, M., & Langdon, T. (2012). This study is carried out to determine if the consumers who rely on the financial advice of experts are at an information disadvantage which can be exploited by the advisers not required to make recommendations that are in the customer’s best interest.
- Broker–Dealer Bankruptcies, Guttman, E. (1973). NYUL Rev., 48, 887. This paper investigates the impacts arising from the bankruptcy of broker-dealers.
- The Ex‐Dividend Day Behavior of Stock Prices; A Re‐Examination of the Clientele Effect: A Reply, Kalay, A. (1984). The Journal of Finance, 39(2), 557-561. This study shows that marginal taxes cannot be inferred from the phenomenon explained in past studies, and they are therefore not necessarily the results of a tax-induced clientele effect.
- Expanding Requirement for Registration As Broker–Dealer under the Securities Exchange Act of 1934, Rice, D. T. (1974). Notre Dame Law., 50, 201. This article discusses the shifting boundaries of broker-dealer activity and outlines the limited situations in which one can obtain exemptions.
- Broker! Dealer Leverage and the Cross! Section of Stock Returns, Adrian, T., Etula, E., & Muir, T. (2011). Federal Reserve Bank of New York Staff Reports, 464. This study presents documentation showing that their covariance can mostly explain the average stock returns with the aggregate leverage of the broker-dealers of securities.