"A broker is a true parasite. He is the most overpaid individual in the world. He doesn't produce anything. He doesn't make shoelaces, he doesn't tell you the law, he doesn't make the traffic move. He just takes orders, like a clerk, and for this -- do you see the size of those commissions? Fantastic! When trading gets light, brokers scream, they want to raise the commissions. But when the trading goes from five to ten million shares a day, do we hear that commissions are being reduced? We do not. The brokers just sit there piling up money." -- Adam Smith in The Money Game.
One of my colleagues (let us call him Vikas) recently refused to move to a new place in office because the new place did not have a television directly in view. Hence, he wouldn't be able to watch CNBC and so he would not be able to keep track of the stock market and his investments.
For Vikas, investing in the stock market is a game that needs to be played day in and day out. Some buying and selling has to happen everyday, otherwise there is no point in investing, he feels.
Till the markets are functioning (i.e. till 3.30 p.m. everyday), he is constantly on the phone talking to his broker and belting out instructions to buy this and sell that. Vikas is the kind of client that stock brokers love to have.
As Adam Smith writes his book, The Money Game, ". . . the investors who really follow the market, the ones who call up all the time, 90 percent of them really don't care whether they make money or not. . . If they make a little money, they're happy, if they lose a little money, they're not too unhappy. What they want to do is to call you up. They want to say, 'How's my stock? Is it up? Is it down? What about the earnings? What about the merger? What's going on? And they want to do this every day, they want a friend, they want someone on the telephone, they want to be a part of what's going on."
Investing in the stock market gives meaning to Vikas's life and commissions to his broker. Well, no broker would have ever made money, if investors had decided to just hold on to their investments.
When an investor decides to sell a stock, the broker makes a commission. When the investor decides to buy a stock, the broker makes a commission. As Arthur Levitt writes in Take on the Street - How to Fight for Your Financial Future, "Warren Buffett, the chairman and CEO of Berkshire Hathaway Inc and one of the smartest investors I've ever met, knows all about broker conflicts. He likes to point that any broker who recommended buying and holding Berkshire Hathaway stock from 1965 to now would have made his clients fabulously wealthy. A single share of Berkshire Hathaway purchased for $12 in 1965 would be worth $71,000 as of April 2002. But any broker who did that would have starved to death."
Given this it is in the broker's interest that his clients keep trading all the time.
As Smith writes: "They could put you in some stock that would go up ten times, but then they would starve to death, they only get commissions when you buy and sell. So they keep you moving."
The same point is made by Levitt: "Brokers may seem like clever financial experts, but they are first and foremost salespeople. Many brokers are paid a commission, or a service fee, on every transaction in accounts they manage. They want you to buy stocks you don't own and sell the ones you do., because that's how they make money for themselves and their firms. They earn commissions even when you lose money."
The moral of the story: Investing should help the investor make money, not his broker.
