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Difficulty: EasyBroker-Dealers, Investment Advisers, and Intermediaries

Under U.S. federal securities regulations, which of the following statements regarding the compensation and trade execution capacities of a broker-dealer are correct? (Select TWO correct answers.)

  1. When executing a transaction as an agent (broker), the firm matches buyers and sellers and charges a commission.Answer
  2. When executing a transaction as a principal (dealer), the firm trades for its own account and charges a mark-up or mark-down.Answer
  3. C
    When acting in an agency capacity, the broker-dealer assumes position risk by holding the subject securities in its proprietary inventory.
  4. D
    A broker-dealer executing customer orders in a dealer capacity charges an asset-based fee calculated as a percentage of assets under management.

Answer

The correct statements are that executing a trade as an agent involves matching buyers and sellers for a commission, and executing as a principal involves trading from inventory with a mark-up or mark-down.
Broker-dealers operate in two distinct capacities: as an agent (broker) matching trades between investors for a commission, or as a principal (dealer) buying/selling for their own account with a mark-up or mark-down.

Step-by-Step Solution

1
Analyze the definition of agency (broker) capacity
In an agency transaction, the broker-dealer functions as an intermediary (broker) connecting buyer and seller, earning a commission without holding inventory.
Broker-dealers cannot charge mark-ups or take inventory risk when acting strictly in an agency capacity.
2
Analyze the definition of principal (dealer) capacity
In a principal transaction, the broker-dealer acts as a dealer buying into or selling from its own account, earning a mark-up or mark-down.
Dealer capacity involves principal position risk and inventory management.
3
Evaluate the remaining options
Agency trades carry no inventory risk, and dealer compensation is transaction-based (mark-up/mark-down) rather than an ongoing asset-based advisory fee.
Asset-based fees distinguish Investment Advisers from Broker-Dealers performing standard trade execution.

Key Concept

Broker vs. Dealer Capacity and Compensation Structures
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Topics

Broker-Dealers, Investment Advisers, and Intermediaries

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