Discretionary Account 

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Discretionary Account

Adiscretionary account is a brokerage account in which the broker is permitted to buy and sell securities on behalf of the investor. If you have this type of account, you agree to allow your brokerage firm to decide which securities to buy and sell, as well as the amount and price to be paid and received. For an unethical broker, a discretionary account is the answer to all prayers! Table 7-5
Margin Maintenance

Determine whether a margin call takes place in the following situation: The margin requirement set by the Federal Reserve is 50 percent, and the brokerage firm’s maintenance margin requirement is 40 percent. The investor buys 100 shares of Cisco at $15 per share. The share price drops to $13 per share. Commissions are ignored in this example.
Purchase price 100 shares Cisco $15 per share $1,500
Investor’s equity (50% * $1,500) 750
Borrowing in margin account 750
Value of Cisco at $13 per share 1,300
Less borrowed amount (750)
Investor’s equity $550
Investor’s equity percentage (550/1,300) 42.3%
Because this percentage exceeds the maintenance margin requirement of 40 percent, no margin call is placed.

You should monitor the activity in your discretionary account monthly to determine whether your broker has engaged in any excessive trading for the sole purpose of earning more commissions. In this process, called churning, stocks are turned over frequently even though they have only moved up or down a few points. Unless you know the broker and trust him or her implicitly, be careful with a discretionary account.

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