Can a broker sell your investments without your permission? In the first months of 2021, similar searches hit an all-time high during the meme stock frenzy. Many investors believed they saw some of their investments frozen or sold without consent. Questions of legality were mentioned. Brokers have various powers depending on which type of brokerage account is operated. It is all mentioned in the fine print that none of us ever read upon opening our brokerage accounts. Better late than never to demystify this question and make new and seasoned investors more aware of their account specifics. This information will be useful, especially for investors with margin accounts. In the final section, we will also answer whether Robinhood acted legally or not when the company froze certain stock purchases and sold some investors’ positions.
Table of Contents
- Discretionary vs. Non-Discretionary Accounts
- Can a Broker Sell Your Investments Without Your Permission with Margin Accounts?
Discretionary vs. Non-Discretionary Accounts
In 2021, Robinhood and other major brokers were accused of selling their clients’ positions without permission. As a result, many investors did something they never did before. They read the documents given to them during their account openings. What do they say? There are two types of cash accounts, and each has different rules. Let’s take a look at them.
Can a Broker Sell Your Investments Without Your Permission with Discretionary Accounts?
Discretionary accounts, also known as managed accounts, give the broker the right to make trades on behalf of the customer without their permission. Brokerages use their discretion to make these trades. However, clients are informed by law and know their broker can make trades on their behalf.
Can a broker sell your investments without your permission? Often, there are limitations regarding the types of trades allowed.
An Investment Policy Statement (IPS) is implemented to prevent unlawful trades. Most brokerage accounts belong in the next section.
Non-discretionary or self-directed accounts give all the power to the clients. Brokers aren’t allowed to make any transactions on behalf of their clients. If the broker wishes to make a transaction, they must contact their client and get their permission.
If you notice a broker-initiated transaction, you must contact them directly and demand explanations. Then, they can be sanctioned for their actions.
What about margin accounts?
Can a Broker Sell Your Investments Without Your Permission with Margin Accounts?
Can a broker sell your investments without your permission? Margin accounts follow different rules. Investors with margin accounts borrow money from the broker for more buying power. Wealthier investors have access to more leverage, up to 20:1. Brokers can sell their clients’ position when margin requirements aren’t met. Let’s take a fictional example.
An investor has $10,000 in their margin account. Their broker gives them a 2:1 leverage. What does this mean? The investor can now access $20,000 but with an interest rate. We are all aware that trades can be profitable and unprofitable. In the former case, the investor and the broker are happy when stocks go up. However, in the latter case, the investor can find themselves in some trouble.
Let’s say that $20,000 is used to buy a stock trading for $50. After a few days, it drops to $25. In a cash account, it is a 50% loss, but in a margin account, it is a 100% loss. Remember that $10,000 the broker lent to the investor? That is all that remains in the account. The broker will pull the plug on the trade unless the investor sells the position or adds more funds into the account. Now, the investor lost all their capital and owed interest on top of that.
Under which terms can a broker liquidate your position when they are owed money? These terms are outlined in the initial agreement. If there isn’t a good cash position in the account, brokers can liquidate other positions to recoup the money they are owed.
Pro tip, don’t wait for that to happen. Instead, meet the margin requirements (funds borrowed + interest) ASAP and keep your broker happy.
Is there a method for picking positions to liquidate? Unfortunately, it can be done randomly, in alphabetical order, or any other order. All this without consulting the investor. Are they allowed to do this? According to the margin agreement, yes, they are.
Best Brokers for Margin Accounts
Every broker sets its interest rates for margin trading. Below is a list of major financial institutions that offer margin trading. Rates are based on account sizes between $100-250k. Therefore, lower account balances may be subject to higher rates. Interactive Brokers Plus, M1, and Robinhood, offer a flat rate regardless of the account balance.
Since the beginning of the year, many brokers have increased their rates due to interest rate increases by the FOMC. As a result, cheaper brokers may not offer the best services. Sometimes, paying more for a better platform and service can be advantageous. We have an article outlining the best platforms for each type of investor.
Interactive Brokers Pro: 2.58%
Interactive Brokers Lite: 4.08%
M1 Plus: 2.00%
M1 Finance: 3.50%
Robinhood: 4.25% (Take a look at our RH reviews here and here)
TastyWorks: 6.50% (We have a good article about the platform here)
TD Ameritrade: 9.25% (ThinkorSwim has an amazing platform reviewed here)
Did Robinhood Sell Investors Stock Without Permission?
What type of brokerage does Robinhood operate as? It is a non-discretionary or self-directed broker. By definition, Robinhood can’t perform any transactions on cash accounts without the consent of its customers. However, Robinhood can sell stocks in a margin account when its clients don’t meet requirements.
Many investors using Robinhood’s platform argued that their shares were illegally liquidated. An investigation was launched, concluding that Robinhood did everything legally. Some margin accounts were indeed liquidated, but all were within legality.
Robinhood did, however, freeze the purchase of many meme stocks during the early months of 2021. However, that is a different story. These actions may have been illegal and broken many free market aspects, but they are unrelated to liquidating positions.
A Broker Can’t Sell Your Investments Without Your Permission, Unless…
Brokers cannot liquidate a client’s position unless it is a margin or discretionary cash account. Most clients do not own a discretionary account. They operate non-discretionary (self-directed accounts). If your broker sold your position without your consent, contact them and demand the reason why. However, brokers can liquidate margin accounts when the requirements aren’t met. They can randomly choose which position to sell. Margin account holders must familiarize themselves with these conditions to avoid unpleasant surprises.