Registered Investment Advisors vs. Broker-Dealers: Who Should You Work With?

Registered Investment Advisors (RIAs) vs. Broker-Dealers (B-Ds): An Overview

The services of a registered investment advisor or a broker-dealer should be considered if you are seeking to establish a separately managed account for your institutional cash investments. RIAs that are regulated by the U.S. Securities and Exchange Commission (SEC) have a legal obligation to act as a fiduciary for their clients and must put their clients’ interests in front of their own. In dealing with institutional investors¹, B-Ds must meet a suitability standard set by the Financial Industry Regulatory Authority (FINRA) which is less stringent than the fiduciary standard required of RIAs. Continue reading to learn more about the differences between RIAs and B-Ds, and factors you should consider when deciding who to work with.

Key Takeaways

• Registered Investment Advisors are regulated by the SEC and are legally required to act as fiduciaries for their clients and always prioritize their clients’ interests over their own.
• Broker-Dealers, when providing services to institutional clients, must meet a suitability standard set by FINRA that is less stringent than the fiduciary standard required of RIAs.
• When setting up a separately managed account for your institutional cash investments, understanding the benefits and risks of working with an RIA or a B-D is important for making an informed decision.
• There are many areas to consider when choosing an RIA or B-D, such as where your assets will be held and how they will be registered, what fees you will incur, and how your portfolio will be managed.

Registered Investment Advisors (RIAs)

RIAs like Capital Advisors Group are regulated by the U.S. Securities and Exchange Commission (SEC) and have a legal obligation to act as a fiduciary for their clients and put client interests in front of their own. Three important factors to keep in mind about RIAs include:

1. Assets: RIAs are subject to strict rules regarding the safeguarding and custody of client assets.  Capital Advisors Group never takes possession of client assets, instead, our clients maintain a segregated bank custody account to hold their assets in their own name. Assets held by a bank in a custodial account are not part of the bank’s assets or balance sheet. Regardless of whether a bank fails or is bought, custody assets remain the property of the beneficial owner and are not subject to the claims of the bank’s creditors.
2. Fees: RIAs have a transparent fee structure and can charge fees based on a percentage of assets under management (AUM), a flat fee for providing investment advice and/or services, or performance-based fees. These fees may include the cost of custody and other services, so it is important to understand what is included in the fee when comparing offerings.  It is also important to note that RIAs have a fiduciary obligation to provide investment advice and/or services that are always in the best interests of the client, regardless of the level or type of fees that they charge.
3. Portfolio Management: RIA’s can help create and follow a client’s existing Investment Policy Statement (IPS) to ensure all investment advice and services are aligned with the client’s goals and objectives. RIAs have a fiduciary obligation to provide unbiased investment advice to clients on their portfolio and all purchases and sales of individual securities and other investment vehicles. When purchasing or selling securities, RIAs have a duty to seek “best execution” on their clients’ behalf, often requiring them to seek multiple bids and offers in the market.  

Broker-Dealers (B-Ds)

In dealing with institutional clients, B-Ds, on the other hand, must meet a suitability standard set by the Financial Industry Regulatory Authority (FINRA) which is less stringent than the fiduciary standard required of RIAs. Three important factors to keep in mind about B-Ds include:

1. Assets: B-Ds may hold assets on their balance sheet in “street name,” meaning that although the client retains beneficial ownership, the assets are registered in the name of the B-D. In the event of the default of the B-D, client assets may be subject to claims from their creditors.  B-Ds may also commingle client assets on their own balance sheet which may add to a lack of transparency for the client. B-Ds may offer clients “brokerage custodial services,” but this may be in the form of assets being held on the B-Ds balance sheet in “street name” rather than a in a segregated bank custody account. While the naming convention of custody sounds the same, cash investors should be aware of these important distinctions.
2. Fees: B-Ds often earn a fee from a client by executing transactions on their behalf. This is often accomplished by receiving a transaction-based fee, also known as a “spread” or “commission” for buying and/or selling securities, or by receiving a percentage of total sales fee, a flat fee, or a blend of these fee structures. It is important to note that, in the context of institutional clients, B-Ds do not have a fiduciary obligation to their clients that would require them to put their clients’ interests in front of their own.  Lastly, while many B-Ds tout their services as a “no fee” offering, this is simply not true.  While their fees may not be transparent, they are often making money on the transactions of investments in their clients’ accounts. Additionally, if assets are held on their balance sheet, they may also be earning additional revenue by lending clients’ securities to others in the market in a structure called “securities lending.”
3. Portfolio Management: B-Ds, in dealing with institutional clients, do not have a fiduciary obligation to their clients; therefore, while they may purchase investments that meet the suitability standard and are allowed by their clients’ IPSs, they may not be truly in the client’s best interest. In this context, B-Ds also do not have a specific duty to seek best execution and may sell clients securities from their own inventory. Additionally, B-Ds may not have access to credit research teams and other departments that are focused explicitly on cash management that may help create a more well-rounded investment experience.

Questions to Consider Asking a Broker-Dealer:

Before deciding to work with a broker-dealer, it’s important to gather insight to make an informed decision. These are some clarifying questions you should consider asking a broker-dealer:

• What is the structure of my investment account?
• Are my assets commingled with your other client assets?
• Are my assets held in a third-party “street name,” or will they be held in a segregated bank custody account in my company’s name?
• Are my assets held on your balance sheet and subject to claims from your creditors?
• How much are you getting paid to manage my company’s assets?
• Are you collecting a spread or commission on assets you buy and sell?
• If you earn commissions and spreads on trades, can you account for those costs on a per-security basis?
• Will I know if my fees change?
• Do you sell from your own inventory of securities or solicit competitive bids in the open market?
• How many broker-dealers do you work with to source securities?
• Do you have a conflict of interest that incentivizes you to purchase or sell securities that allow you to take a bigger spread or commission rather than purchase or sell securities more aligned with my investment strategy?
• Do you have a dedicated credit team focused on cash investments? Do you have a dedicated portfolio manager?

The Bottom Line

When working with an RIA or B-D, every cash investor should analyze the benefits and risks of each as it relates to their particular investment objectives, financial situation, and particular investment needs and requirements. Remember to ask important questions to ensure you feel comfortable and confident in your choice, gathering all necessary information for your cash investments is key to a successful partnership with your RIA or B-D. For more information, please use the Contact Us form.