Definition
A discretionary account refers to an investment account where a broker or portfolio manager has the authority to make buy and sell decisions without requiring the client’s approval for each transaction. This is often based on an agreed investment strategy. However, the responsibility to make prudent and suitable decisions is still with the manager or broker.
Phonetic
The phonetic spelling of “Discretionary Account” is: /dɪˌskrɛʃəˈnɛri əˈkaʊnt/
Key Takeaways
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- Discretionary Account is a type of investment account in which the investment decisions are made by a professional portfolio manager or a broker on behalf of the client. The client provides the manager with specific guidelines regarding risk tolerance, investment objectives, and other relevant information, giving them full discretion to manage the account.
- While a Discretionary Account offers the benefit of having an experienced professional manage an investment portfolio, it also involves a certain degree of risk. The decisions made by the manager might not always align with the client’s expectations, and there’s also the risk of potential mismanagement or abuse. Therefore, it’s crucial for clients to establish clear communication and trust with their managers.
- Most firms require the client to sign a discretionary disclosure with the broker as documentation that the client is giving the broker permission to act on the client’s behalf. Responsibility and accountability in a Discretionary Account rest primarily with the portfolio manager or broker.
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Importance
A discretionary account in business/finance is important because it grants authority to a broker or advisor to make trades or other decisions without the consent of the account owner. This efficiency allows an expert to react quickly to market conditions and make real-time investment decisions that reflect the client’s financial objectives. Greater trust and a robust client-adviser relationship is therefore inherent to this type of arrangement. However, it also signifies a high level of risk due to the extraordinary amount of power and trust placed in a single individual’s hands, highlighting the need for regulation and oversight. Hence, understanding this term is crucial for those involved in investment planning and wealth management.
Explanation
A discretionary account serves a very significant purpose in the world of finance and business. Principally, it is an investment account that allows an authorized broker to buy and sell securities without the client’s consent for each trade. The main purpose of this type of account is to facilitate and expedite the trading process, not to have to wait for client approval, thereby enabling quick decision-making in response to changes in market conditions. In essence, the client gives ‘discretion’ or authority to the broker to act on their behalf, hence the term ‘discretionary account.’Additionally, the discretionary account is often utilized by individuals who may lack the time or expertise to manage their investment portfolios. Consequently, they depend on professionals who have an in-depth understanding of the financial markets and are better equipped to make sound investment decisions. This type of account enables more active portfolio management, with the potential for better returns since it allows brokers to act promptly on lucrative investment opportunities. However, it can also be riskier as the client places substantial trust in the broker’s ability to manage the investments effectively.
Examples
1. Investment Portfolio Management: An individual might hire a portfolio manager to handle their investments. In this case, the person may grant discretionary authority to the portfolio manager to make investment decisions on their behalf. This could involve buying/selling stocks, bonds, or other securities according to market shifts without seeking the individual’s approval for each transaction.2. Real Estate Management: Landlords who own multiple properties might hire a property manager and give them a discretionary account. The manager could use the account for expenditures related to property maintenance, repairs, or unexpected costs – such as plumbing or electrical work – without the need to get approval from the landlord for each spending.3. Business Operations: In a company, certain managers might be given discretionary accounts. For instance, a marketing manager might have a discretionary budget for organizing promotional events, launching advertisement campaigns, and other such activities. They could use these funds at their discretion, without requiring the approval of higher-ups for each event or campaign, as long as the spending is within the established budget.
Frequently Asked Questions(FAQ)
What is a Discretionary Account?
A discretionary account is an investment account where a broker or portfolio manager has the full authority to make investment decisions without the client’s explicit approval.
How does a Discretionary Account work?
In a discretionary account, the client delegates the decision-making authority, allowing the broker or portfolio manager to make purchases, sales, and other transactions on their behalf.
What are the benefits of a Discretionary Account?
The potential benefits include expert management of the account, timely decision making, and reduced demands on the client’s time.
What risks are involved in having a Discretionary Account?
The risks involve the client potentially disagreeing with the decisions made by the broker, mismanagement of funds, and potential losses due to decisions made without client’s involvement.
What factors should be considered when choosing a broker to handle a Discretionary Account?
Factors one should consider include the broker’s reputation, experience, management fees, and track record of performance.
Are there certain laws or regulations governing Discretionary Accounts?
Yes, discretionary accounts are under regulatory oversight from bodies like the SEC and FINRA in the U.S., who have guidelines to protect customers’ interests.
Can an individual take back control of a Discretionary Account?
Yes, an individual can regain control of a discretionary account by revoking the discretion given to the broker in line with the agreement between them.
How are Discretionary Accounts different from Non-Discretionary Accounts?
In a non-discretionary account, investment decisions are made by the account holder only, whereas in a discretionary account, the broker or portfolio manager makes the investment decisions.
Is it possible to switch from a Discretionary Account to a Non-Discretionary Account?
Yes, the type of account can typically be changed subject to signing a new broker-client agreement. It’s recommended to seek advice from your broker before making this decision.
Related Finance Terms
- Broker Authority: In a discretionary account, the broker has the authority to make trading decisions without the client’s consent for each trade.
- Power of Attorney: This is a document necessary to set up a discretionary account, giving the broker the right to act on behalf of the client in the account.
- Risk Tolerance: Before setting up a discretionary account, understanding the client’s risk tolerance is vital for managing the account in accordance with the client’s comfort level.
- Fiduciary Duty: This is an obligation of the broker handling a discretionary account. They must act in the best interest of the client and avoid conflicts of interest.
- Investment Policy Statement (IPS): This document outlines the client’s investment goals and strategies, risk tolerance, and allocation of assets. It provides guidance for the broker managing the discretionary account.
