Series 66: 9.2.2 Commissions, Markups, And Markdowns

9.2.2  Commissions, Markups, and Markdowns

Unlike investment advisers, broker-dealers and agents are not paid based on a percentage of assets under management. Instead, they make money through commissions, markups, markdowns, and spreads. When a firm acts as a broker, it is paid through commissions. When the firm acts as a dealer, it is putting its own money at risk, buying or selling securities out of its own inventory. It profits by the spread between what it bought the security for (bid) and what it sells it for (ask). A firm also makes money off of markups on securities that it sells and markdowns on securities that it buys.

Each of these modes of compensation must be reasonable and justifiable compared to the services performed and the market value of the securities. That means that a firm cannot charge commission fees that are substantially different from the industry’s going rate. For the dealer side of the broker-dealer equation, the firm must keep its prices in line with the most recent market transactions. For example, if a dealer is selling a bond from the firm’s inventory that sold the prior day for $850, it cannot charge a price of $900. That would be an unreasonable price for the security based on the market rate. Similarly, a firm could not expect to purchase the same bond from a customer for a markdown price of $800. That would consti