Market Participants and Their Roles

With the regulatory framework in place (the SEC at the top, self-regulatory organizations (SROs) enforcing rules, and the Securities Investor Protection Corporation (SIPC) backing customers), you can now understand the participants who operate within this structure.

Investor Types

Accredited investor thresholds:

• Net worth: Over $1 million (excluding primary residence), individually or jointly with a spouse or spousal equivalent
• Income: Over $200,000 individually (or $300,000 jointly with a spouse or spousal equivalent) in each of the last two years, with a reasonable expectation of the same in the current year
• Certain professional certifications (Series 7, Series 65, Series 82) also qualify an individual

Exam Tip: Gotchas

• Accredited investor net worth excludes the primary residence. Questions often include home equity in the net worth calculation to see if you subtract it.

Broker-Dealers

A firm registered as a broker-dealer can act in two distinct capacities:

• Most firms are registered as both broker and dealer
• Generally must register with the SEC under the Securities Exchange Act of 1934 and join an SRO, typically the Financial Industry Regulatory Authority (FINRA)
• Most SEC-registered broker-dealers must also belong to SIPC, subject to statutory exceptions. These memberships have different purposes: FINRA writes and enforces conduct rules; SIPC helps restore customer cash and securities when a member firm fails and assets are missing. SIPC is not an SRO. A firm can belong to both.

Exam Tip: Gotchas

• Broker = agent = commission. Dealer = principal = markup/markdown. On the SIE, watch for questions that describe the compensation type and ask you to identify the capacity. If the firm earned a commission, it acted as agent (broker). If it earned a markup, it acted as principal (dealer).

Types of Broker-Dealers

Exam Tip: Gotchas

• An introducing broker does not hold customer funds. It routes orders through a clearing broker, which handles custody and settlement.

Other Key Market Participants

Investment Advisers

• Provide investment advice for compensation
• Under the general assets under management (AUM) rule, register with the state below $100 million, may register with the SEC from $100 million to below $110 million, and must register with the SEC at $110 million or more, unless exempt
• An adviser already registered with the SEC may remain registered while its AUM is $90 million or more. This buffer avoids repeated switches as assets fluctuate. Special registration rules can apply below the usual thresholds. For example, an adviser to a registered investment company registers with the SEC at any AUM.
• The AUM figure belongs to the adviser itself: the registered firm, or an individual running their own advisory business. It is not any single employee's personal book of clients.
• Owe a fiduciary duty of care and loyalty: must act in the client's best interest throughout the advisory relationship, within the agreed scope of services

Exam Tip: Gotchas

• Both standards require acting in the client's or retail customer's best interest. An adviser's fiduciary duty applies throughout the agreed advisory relationship. A broker-dealer's Regulation Best Interest (Reg BI) obligation applies at the time of a recommendation to a retail customer; it does not create the adviser's relationship-wide fiduciary duty.
• The SEC-registration threshold is measured at the adviser level, not the representative level. An investment adviser representative working at the firm does not separately register with the SEC based on the firm's total AUM.

Issuers

• Entities (corporations, municipalities, governments) that create and sell securities to raise capital
• An issuer brings new securities to the market through an offering

Underwriters

• Investment banks that help issuers bring securities to market
• Buy securities from the issuer and resell them to the public
• Broker-dealers must disclose their participation or interest in a primary or secondary distribution
• Payments for market making are prohibited: a broker-dealer may not accept payment from an issuer, or from the issuer's affiliates or promoters, for publishing a quotation or acting as a market maker in its securities. Payment for genuine services, such as underwriting fees, is still allowed

Municipal Advisors

• Advise state and local governments on municipal bond issuances and financial products
• Regulated by the Municipal Securities Rulemaking Board (MSRB) (rulemaking) and the SEC (enforcement)

Traders and Market Makers

• Market makers are dealers that stand ready to buy and sell specific securities at all times
• They provide liquidity by maintaining a two-sided market (both a bid price and an ask price)
• Market makers profit from the spread between the bid and ask prices

Custodians and Trustees

• Custodians hold and safeguard financial assets on behalf of clients
• Trustees have a fiduciary responsibility to act in the beneficiary's interest

Transfer Agents

• Maintain records of securities ownership
• Record ownership transfers on the issuer's books after a trade
• Do not settle trades: delivering securities against payment is the job of clearing corporations such as the Depository Trust & Clearing Corporation (DTCC)
• Issue and cancel certificates
• Distribute dividends to shareholders

Market Infrastructure

Depositories and Clearing Corporations

• The DTCC was formed in 1999 as a holding company bringing the Depository Trust Company (DTC) and the National Securities Clearing Corporation (NSCC) under common ownership (both continue as subsidiaries)
• The DTCC settles the vast majority of securities transactions in the United States
• The OCC acts as a central counterparty: it stands between the buyer and seller of every options contract, guaranteeing that the contract will be fulfilled

Exam Tip: Gotchas

• The OCC guarantees options contracts, not equity trades. The DTCC handles clearing and settlement for equities, bonds, and mutual funds.
• The DTCC was formed from the merger of the DTC and NSCC. Questions may reference these predecessor organizations.

What Should You Check on Exam Day?

• Can you explain the difference between a broker acting as agent and a dealer acting as principal?
• Do you know the accredited investor net worth and income thresholds?
• Can you state what an introducing broker cannot do that a clearing broker can?
• Do you know the difference between what the DTCC and the OCC each clear?
• Can you explain why an investment adviser owes a fiduciary duty while a broker-dealer follows Regulation Best Interest?