Brokers and Dealers
Brokers trade on behalf of their clients and profit by charging clients a commission. Brokers arrange trades their clients want to make by finding other traders who will trade with their clients. On an electronic order driven market this research is easy thanks to the availability of the order flow. Brokers have to find the best trading venue able to satisfy their clients’ needs in terms of liquidity and quantity.
A broker can act as an agent, in its own name, on the client’s account. As a consequence, the broker is responsible for delivering either cash or securities if a customer fails to do so: these intermediaries must stand behind their customers ----> Brokers bear the risks involved in order routing (e.g. IT glitch that could result in an order to be lost or misdirected) and post trade clearance and settlement.
Dealers trade on proper/principal account and profit when they buy low and sell high.
Broker Dealers firms act in dual capacity, both as a broker (agency or customer account) and as a dealer (proper, principal or own account). Under the same firm, these two roles must be strictly separated because the customer risk and the firm’s own risk must be duly separated to prevent a broker-dealer firm from shifting risk, either by intent or inadvertently, to its customers.
Broker-dealers fulfill several important functions in the financial industry; these include providing investment advice to customers, supplying liquidity through market-making activities, facilitating trading activities, publishing investment research and raising capital for companies. Broker-dealers may range in size from small independent boutiques to large subsidiaries of giant commercial and investment banks.