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Finding A Fit

How to choose a clearing firm.

When a rep signs up with a wirehouse, there's not much he or she can do about clearing. Brokers get whatever the company provides. And, usually, it's not much of an issue.

But clearing becomes a top priority when a financial advisor decides to go independent. There are many variables that go into building a successful independent practice, but few can affect the quality of life and customer service the way good (or bad) clearing can.

The first thing to understand is that converting from one clearing firm to another can be a nightmare — so choose carefully. “Look for a clearing house that can handle all of the business you do today as well as what you think you may expand into,” says Rich Lindsay, head of Global Clearing Services at Bear Stearns. “It costs money to switch. All your people have to be retrained. New software has to be installed. Every client account has to be repapered, so you have to go to all of your accounts and ask them to transfer to the new firm.”

Andrew Barnett, president of estate strategies at the Holmes Group, seconds the cautionary words. His broker/dealer, Horner, Townsend & Kent in Horsham, Penn., outsources its clearing to Pershing. “The amount of disclosure and paperwork on each client is just overwhelming,” he says. “A guy with 500 accounts who has to touch each account during the transition to tell them they're changing clearing firms or broker/dealers could end up spending so much time servicing the transition that he wouldn't be able to do anything else.”

The next step is narrowing down your choices to a group of firms that are likely to be around for a while. The consolidation of the clearing industry makes this difficult, but by looking at the firm's size, scope, and stability, you can get a decent idea of its prospects for survival. (The top three correspondent clearing firms are Pershing/Bank of New York, Bear Stearns, and FleetBoston's U.S. Clearing.) Examine the financials, paying particular attention to technological investments and the amount of available capital. “Everyone wants to avoid conversions that they don't plan,” says Bob Berriault, president of Fiserv's securities and Trust Group in Denver. “If you're with a clearing firm that's susceptible to being acquired, it could slow you down.”

But size and stability aren't everything. Schwab, Fidelity, and TD Waterhouse each have huge networks of RIAs using their services for clearing and custody, but there's a drawback to using them for clearing: These firms also compete with brokers — they sell directly to clients and increasingly offer investment advisory services. “If Fidelity were our clearing firm, clients could go directly to them for a particular mutual fund,” says Barnett. “That's why we would stay away from Charles Schwab, too. They're soliciting the client directly.”

Other reps echo that sentiment. Craig Martin, a fee-only advisor in San Jose, Calif., clears through Schwab (via his investment management firm Assante) but he hopes to switch when Assante adds other clearing choices, such as Pershing. He resents that ongoing fees he pays to Schwab contribute to their system of building captive in-house financial planners dedicated to selling Schwab products. He says that despite the effort involved in switching, he would much rather use Pershing. “It's more desirable to me than Schwab, because I won't be funding my own competition,” he says.

But some RIAs are satisfied with Schwab and Fidelity, both of which offer platforms that work well for fee-based planners. “The average person going into a Schwab office isn't my client anyway,” says Michael McCabe, vice-president of Kohlhepp Investment Advisors in West Chester, Penn. “Our clients aren't self-directed investors. They want us to take care of it.” Still, he says, it pays to work with more than one custody/clearing firm. When Fidelity made him an offer that Schwab wouldn't match, he was able to save his clients 15 basis points a year by switching over a chunk of assets. “It's smart business to have more than one,” he says. It took a few months to switch the assets and required contacting all the relevant clients, “but it was worth it,” he says. “In the short term it costs money, but in the long term, it creates additional good will with the clients.”

Many reps work with more than one clearing firm. Joanne Woiteshek, founder of OrganizAmerica in Chicago, uses three different clearing firms for different purposes, for example. She uses Pershing through her broker/dealer, PMG, for transactional business. Secondly, she uses First Clearing through Lockwood (now part of Bank of New York) for its asset management advice. Finally, she uses First Trust's Datalynx programs for advisory accounts and reporting. She doesn't find juggling three clearing firms a problem as long as she knows what she is paying for each. “You have to look at cost because clearing is just another fee the client has to pay,” she says. “Realistically, they all do the same thing, and if I can get a product or service for less, I've already made money for my clients.” She points out that it's often difficult for the rep to understand the different layers of pricing involved — especially for back-office services that you don't hear about until something goes wrong. “Many reps aren't really analyzing what all the costs are,” she says. “Lockwood and Datalynx break out exactly what all my clients' costs are, and that helps me to do a better job. If I can get their costs down, I can save them one percent. That's a big difference.”

Costs are important, but so are services, and reps want to strike the right balance when they cut a deal with a clearing firm. “From a managed account standpoint, it's a cost center, and expenses are theoretically controllable,” says Mark Gelbach, a principal at True North Advisors in Dallas. “So you look for breadth of services and good prices.” Since clearing firms charge extra for special services, such as front-office support systems, a rep has to look for the deal that best suits his clients' needs and his business model. “Match the products your firm offers its clients with the support and technical abilities of the clearing firm,” says David Weiss, a senior consultant at Jeremiah Associates in New York. For example, a retail firm that carries margin accounts needs a firm that can help service that function, but a firm that trades only with other broker/dealers doesn't necessarily need that. For brokers who want highly technical front-end services, training and support are critical.

“Anyone can take your trade and process them,” says Weiss. “If I'm an option trading firm, I want to choose a clearing firm that offers me as much technical and human support in the options market as I could want.”

The next piece of research is reconnaissance. “Ask existing clients about how satisfied they are with the level of service and support,” says Joe Anastasio, chairman of consulting firm Capco. Ask these questions, says Anastasio: “Does the company report on time and how much real-time information do they provide? On busy days, do they answer your inquiries? How reliable is their Internet service?”

Finally, there is another important factor in choosing a clearing company: vetting its exit policies. Even as you enter an agreement, you need to know how much it will cost to leave and how a separation will proceed.

The Clearing Process at a Glance

To open a new account, rep gathers relevant personal information about the client and creates a new account.

Placing an order

A client requests a trade. The rep sends the request to the order room, where a copy of the request is made and routed to the appropriate market. The floor broker goes to a specialist on the floor, and they agree on a price, execute the trade and relay the information back to the order room. There it is reconciled with the original trade order for accuracy. Matched orders would be reported back to the broker and the client. Unmatched orders go back to the trader to clear up the discrepancy.

Purchases and sales (P&S)

The trade is coded with a CUSIP number and unique ID indicating where, when and how it was executed. In a process called figuration, the P&S calculates the amount of money, accrued interest on debt, commissions and fees involved in that transaction. Details of the trade are then compared between the buying and selling brokers. Confirmations of successfully compared trades are sent to the broker and the client, and the trade is recorded in the firm's books.


The cashier expedites all payments, receives all deliveries and keeps track of who owns what. He can borrow securities from other firms and money from the bank to make up shortfalls in securities owed and to make margin loans. He ensures that stocks resulting from mergers are doled out appropriately to the right owners. The cashier reconciles the firm's records against DTC's closing balances at the end of the day. Bank loans, stock loans, reorganizations and securities are also reconciled.


The margin department approves margin loans and ensures that clients who buy and sell on margin have enough money in their accounts to meet SEC and brokerage requirements. If not, it sends out call alerts and, if necessary, shuts down accounts.

Stock Record

Records all the movements of all the stocks coming into and leaving the firm.


Keeps track of all the cash movements in and out of the firm.


Calculates and credits dividend payments, adjusts for stock splits and credits debt interest.


Relays information from corporations such as proxy statements to customers.

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