Once you have a few successful trades under your belt, you might find that family or friends ask if you can make some money by trading securities for them.
Whether joking or not, the question may still lurk in your mind: “Could I trade stocks for someone else?”
This is an important question to get right, so I’ve decided to provide a well-researched answer to keep you safe.
The Short Answer
While the gears in your head are spinning, let me state the answer in its simplest form:
You cannot trade securities for others without becoming licensed as an investment professional. Investment professionals must be registered with the Securities and Exchange Commission or have a federal license. There are few exceptions to this rule.
Of course, if you’re willing to jump through the necessary licensing hoops, it’s possible. We’ll cover that today and some pros and cons to consider before committing to that path.
To be clear, there are both legal and practical reasons why you shouldn’t trade for friends and family without getting certain licensing and registration first. Let’s look at those reasons and what the path might look like for those who want to trade for others legally.
Setting aside the legal issues, let’s think about the practical problems that might arise if you trade on behalf of family and friends.
Even if you were able to get a return on your family members’ money, there are many details of the arrangement that you would need to iron out. It’s no secret that working through money or business issues with family can strain relationships. This alone is a significant reason to think twice.
Do you want to have to field questions about portfolio performance at your Christmas Eve party?
And what happens if you lose your family or friends’ money? Talk about uncomfortable Christmas Eve parties, assuming you’re even invited! Money conflicts are one of the top sources of conflict in human relationships, so you should think long and hard before making it more of a factor in your closest relationships.
A research firm named Dalbar studies what results the average investor gets in the market and compares that to the market index. For decades, they have found that, due to poor timing choices, the average investor (even with investment advice) has significantly underperformed the markets over all the typical research time periods: 1 year, 5 years, 10 years, 20 years, and 30 years.
The most recently published annual data (for 2018) shows that the average stock investor not only lost money but lost an average of 5% more than the S&P 500 lost during that year! So you really need to think realistically about the potential that you might actually lose money that your family and friends give you. As the investing community says repeatedly, “Past performance does not guarantee future results.” Even if you’re the next investing genius, that truth applies to you, no matter whose money you’re investing.
So, you can see why you might want to politely decline requests from family or friends to invest for them. But if that’s not enough, to protect unsuspecting investors, the Federal Government (specifically the SEC, or Securities and Exchange Commission) and the states have created significant legal hoops you must jump through to trade for others.
Let’s say that you’ve thought through the practical risks, and you still want to invest for others legally. How can you do that?
We’ll take a look at the two most common options, including an overview of the career path, as well as some pros and cons:
- Getting a job at an investment firm (and then taking friends and family on as clients).
- Becoming an independent Registered Investment Advisor (and then taking friends and family on as clients).
This first path is the employment path, where you work for (or at least under the umbrella of) a financial advisory firm, wirehouse, or broker-dealer as an investment representative or analyst. Even for independent investment advisors who create their own Registered Investment Advisor (RIA), this is how most professionals in the industry got their start.
With this option, you would apply to Financial Representative positions with companies like Fidelity Investments, Edward Jones, or TD Ameritrade. You might also apply to join the teams of Registered Investment Advisory Firms.
This path usually has a significant sales component, but you can also get a base salary. So it’s a great way to get your start in the financial industry.
Once you were hired by one of these companies, they would train you and sponsor you to take the required exams. According to state and federal laws, you need to take and pass certain exams before you can give investment advice for compensation.
Here’s a table with the pros and cons of this option:
- This is a legal path to investing for others! And you’ll get training from the company’s compliance department, so you stay clear of trouble.
- You get paid training and experience and the support of the employing company’s resources and established systems.
- You can have a base salary, while commissions or performance-based incentives provide significant earning potential.
- You are supported by the employing company’s resources and established systems, so you can focus on learning how to be a good investment advisor.
- Your employer pays for your exams.
- You’ll have to fit yourself into the existing systems and be limited by the firm’s policies. This means even more rules than those that state and federal regulations create. For the entrepreneurial sort, this can be frustrating.
- Especially early in your career, you will have to give up a significant portion of the revenue you generate to the firm based on your “production grid”.
- You’ll likely have production minimums to keep up with to keep your position.
Next, we’ll consider another financial advisor career path that appeals more to the entrepreneurial personality.
There is no legal requirement to work as a representative of another financial firm before starting your own firm. As long as you pass the appropriate exams and learn the skills you’ll need, you can become a Registered Investment Advisor and begin helping family and friends with their investing needs!
If you choose this path, you’ll need to do more work upfront to set up your own business, find custodians to hold your accounts, and complete the compliance requirements. But you’ll have more flexibility and the potential for greater financial rewards down the road.
If you want to start your own advisory, here is a list of essential steps. Many consulting companies specialize in helping people go through this process:
- Choose your business type, Register, and obtain Tax IDs for your business. An LLC is the most common, but you should check with a lawyer.
- Take and pass the FINRA Series 65 exam.
- Register with the Investment Adviser Registration Depository (IARD) as well as your state. Complete and submit Form ADV to the IARD.
- Set up your compliance processes and systems, contracts, and legal policies with the help of a consulting firm and/or lawyer.
- Make sure you’ve got a good bookkeeper and accounting system set up.
- Hang out your ‘shingle’ and begin talking to prospects.
That’s a lot of work. But the positives below make it worthwhile for many:
- You’re independent.
- You have more freedom in time, compensation and fees, marketing, and branding.
- You also get to keep more of what you earn.
- You won’t have a salary. So it may be more difficult getting to the point where you can live off the business.
- You’re the only one responsible for everything, from marketing to compliance (this can be alleviated by getting help from an RIA Compliance and Registration firm).
- You will have to seek out learning and development opportunities for yourself rather than relying on an employer to direct you in that area.
Since we’re being thorough, let’s look at a couple of exceptions to the licensing requirements.
(While exceptions exist, I recommend you use them with caution. I’m not a lawyer, and this information is provided for educational purposes only; it’s not legal advice. If any of these options interests you, you can dig deeper on the SEC and FINRA websites.)
Most states allow you to give free advice to a limited number of family or friends, as long as you have no contractual relationship or compensation and don’t present yourself as an investment advisor. Check into your state law.
Another exception is children’s accounts. You’re allowed to set up and trade in a UTMA account for your minor children. But it is their account and gets legally turned over to them as soon as they reach the age of majority designated by your state.
As long as you’re not making recommendations to specific people, you can provide general investment education. This basically falls under free speech and is why you don’t need a license to start an investment newsletter. But make it clear that you’re making general recommendations that are not customized to the individual.
You don’t need a license to start investing as part of an investment club. But there are specific rules about when a club qualifies as a club and when it crosses over into financial advising. It’s only an investment club if everyone votes on every investment decision – so you’re not “trading for others” with this option.
If you’ve made it to the bottom, I hope you have more clarity about the question: “Can You Trade Stocks for Someone Else?” Please get in touch with me if you have any questions or suggestions.