Tread carefully when trading online
Tim Bennett Jul 02, 2010
When opening a share-dealing account with a broker, the main thing on most investors' minds is deciding what shares they will be buying and how much it will cost. The administration of their account is probably the last thing they consider. But this is a mistake – the way a broker chooses to record your shares can affect your subsequent benefits and could cost you money should things go wrong.
How shares are recorded
Prior to the mid-1990s the way to prove that you owned UK shares was to produce a share certificate with your name on it. But with the expansion of the internet and online trading, paper share certificates are a rarity. Now, under UK law, anyone who wants to prove categorically that they own a "registered asset" such as shares (and also UK property) has to be named on the relevant share register. There is one for every UK company with changes managed electronically by registrars such as Capita or Equinit.
What does this have to do with your broker? Well, unless you request otherwise, most brokers save themselves time and administrative hassle by recording any shares bought for you in a "nominee" account. The cheapest and most common is the "pooled" account where your share holdings are lumped together with those of numerous other clients and the name that appears on the company's share register is your broker's, not yours.
Most investors lose no sleep over the use of nominees because although they are not technically the "legal" owner of the shares held in the nominee account, they still enjoy what are known as "beneficial" rights – receiving dividends and being able to instruct their broker to sell shares held on their behalf at a later date, hopefully for a profit. Wealthy individuals sometimes also like the anonymity that nominee holdings bring. But be warned – words matter, and sometimes a little detail, like not being named the "legal" owner on a share register, can cause trouble.
Legal ownership – boring, but important
The first problem with the nominee system is that by agreeing to it – you may not realise you have until you scour your broker's terms and conditions – you give up the automatic right to certain shareholder perks like attending, and voting at, company meetings and even the little extras offered by some companies like discounts on their products and services. Also any communication regarding your shareholding from the company, or anyone else, will go direct to your broker, rather than you, unless you decide to "opt in" to receive these. The risk under the nominee system is that you may miss out on valuable commentary, perhaps even warnings, from third parties about the management of the company in which you are a shareholder.
More importantly, if your broker gets into trouble, it may take some time to prove that you own your shares at all, especially with a "pooled nominee" holding. Ask frustrated investors who bought shares through broker Pacific Continental Securities (PCS), a firm that specialised in promoting Aim-listed stocks and is now in liquidation. Many shareholders had their holdings frozen while the liquidator reconciles individual customer claims to large pooled holdings on countless Aim-listed company share registers. Meanwhile, anxious investors who bought shares via PCS were unable to do anything with them.
As a rule, as long as shares are quickly and accurately recorded in a nominee account by your broker you will always eventually receive your shares, even in the event of the broker going bankrupt. But while the liquidation is being sorted out, the stock market may be heading down while you are powerless to sell up. Were your shares to go missing entirely, due perhaps to fraud or incompetence on the part of a broker, the Financial Services Compensation Scheme would pay out up to £48,000 of any losses, although as you can imagine the claims process could involve considerable time and hassle. Also it only works if the broker was FSA authorised to start with. Luckily there is a better alternative.
Solving the problem
The best way to eliminate these headaches is to ensure that any shares you buy are registered in your name, not your broker's. There are two ways of doing this. You can request share certificates – however, these cause extra paperwork and add unnecessary time and expense to your share trades. A better option is to ask for "personal Crest membership" when setting up your account. This gets your name onto the register with full shareholder entitlements but without the need for costly certificates. This option is now offered by an increasing number of brokers for no extra cost. There is one hitch – government regulations specify that shares held within an Isa or PEP wrapper still have to be held within a pooled nominee account. However, for all other UK shares, personal membership of Crest is a good option.