Series 55

By Jeff Van Blarcom AAA

Commissions And Trade Complaints - FINRA 5% Markup Policy

FINRA has set a guideline to ensure that the prices investors pay and receive for securities are reasonably related to the market for the securities. As a general rule, FINRA considers a charge of 5% to be reasonable. The 5% policy is a guideline, not a rule. Factors that go towards what is considered reasonable are:

  • The price of the security
  • The value of the transaction
  • The type of security
  • The value of the members’ services
  • Execution expenses

When a customer is executing an order for a low priced or low total dollar amount, a firm’s minimum commission may be greater than 5% of the transaction.

Example:

A customer wants to purchase 1000 shares of XYZ at $1. If the firm’s minimum commission is $100 that would be 10% of the trade. But in this case it would be ok.

Stocks generally carry a higher degree of risk than bonds and, as a result, stocks justify a higher commission or profit to the dealer. Full service firms may be able to justify a larger commission simply based on the value of the services they provide.

Mark Ups / Mark Downs When Acting as a Principal

A firm that executes customer orders on a principal basis is entitled to a profit on those transactions. If the firm is selling the security to the customer, they will charge the customer a mark up. In the case of the firm buying the securities from the customer, they will charge the customer a mark down. The amount of the markup or markdown that a firm charges the customer is based on the inside market for the security.

Example:

Let’s assume that the brokerage firm is a market maker in ABCD. In the morning, the firm purchased shares of ABCD for its own account at 9.50. The stock has been trading higher all day and is now quoted as follows:

Bid Ask

10.00 10.05

If a customer wants to purchase 100 shares ABCD from the dealer in the above example, the customer’s markup would be based on the current offering price of 10.05. As a result, the maximum amount the firm could charge the customer for the stock would be 10.552 per share or $1,055.20 for the entire order, which would include a 5% markup. Notice that the markup to the customer did not take into consideration the firm’s actual cost.

If a customer wanted to sell 100 shares of ABCD using the above quote, the minimum proceeds to the customer would be 9.50 per share or $950 for entire order, which would include a 5% markdown.

To determine the maximum or minimum prices for a customer use the following:

  • 105% of the offer price for customers who are purchasing the security
  • 95% of the bid price for customers who are selling the security

When determining the amount of the mark up or mark down the following are excluded:

  • The firm’s Actual cost
  • The firm’s quote if they are a market maker in the security
Transactions

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