Avoid Dumb Advice When Choosing a Bond Broker

There is currently very little information out there for bond investors.  When looking for information as simple as how to choose a broker, you see statements like:

“Start by asking people you know and respect for referrals. Make calls. Asks lots of questions about a broker’s background, including academic and professional history. Ask for client recommendations.”

Source: Bond Investing for Dummies

That is kind of like buying a book on finding good hiking trails, and having the book tell you to go ask someone else.  In addition to being unhelpful, this advice is also problematic.

Buying bonds is not like buying stocks where everyone gets executed at the same price.

When buying bonds the broker you work with, and the firm that they work for, play a huge role in the bonds you have the ability to purchase, and the price you pay to do so.  By asking your friend, you may end up with a nice and knowledgeable broker that is over charging you by a substantial amount.

Bond Investing For Dummies is not alone in providing useless advice on picking a broker. There is an otherwise excellent book, The Bond Book by Annette Thau, which provides the following advice:

“First you want to avoid the rip-off artists. . . BrokerCheck functions as a kind of Better Business Bureau that enables you to obtain background information both for individual brokers and for brokerage firms.”

On the face of it, its good advice and you can reach FINRA’s BrokerCheck services here.  The problem however is that this adds a lot of additional confusion to a process that is already confusing.

FMS is a bond broker that specializes in municipal bonds, and after searching FMS we were  able to quickly confirm that FMS was a registered as a broker-dealer. However, researching the regulatory history of the company was far more complicated. After clicking the “Get Detailed Report” link we had to scroll through several pages of non-relevant information to find out that the firm had 9 “Arbitration Awards, Disciplinary, Financial, and Regulatory Events”.

As a consequence of these events,  the firm received everything from a verbal spanking to a $100,000 fine.  The problem is that we do not know if 9 events is a high or low number. For large firms with tens of thousands of clients, 9 events may be a low number. On the other hand, 9 events could be a huge number for a small firm.

So what is the bond investor to do?  Step 1 is to understand the differences between buying bonds and buying stocks.

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