A discretionary account is an investment account where the portfolio manager or advisor has authority to make buy and sell decisions without prior client approval for each transaction.
A discretionary account is a type of investment account where the account holder grants authority to a portfolio manager or financial advisor to make investment decisions on their behalf without needing to obtain consent for every trade or transaction. This arrangement allows the manager to act swiftly on market opportunities, managing the account based on the client’s established investment goals and risk tolerance. The discretion granted typically extends to selecting securities, timing transactions, and asset allocation within the parameters set by the client. In the context of wealth management, discretionary accounts enable professionals to proactively manage portfolios, adapting quickly to changing market conditions. They contrast with non-discretionary accounts, where the advisor can only make recommendations and must obtain client approval before executing trades. Discretionary authority is formalized through a signed agreement, specifying the scope and limits of the decision-making powers bestowed to the manager.
In investment strategy, discretionary accounts provide the flexibility to implement timely adjustments that align with the client’s objectives and risk profile, crucial for dynamic market environments. This flexibility can enhance portfolio performance by allowing managers to capitalize on short-term opportunities or avoid risks without delays caused by seeking approval. For wealth managers and family offices, discretionary accounts streamline operations and reduce administrative burdens while maintaining adherence to the investment policy. From a reporting and governance perspective, discretionary accounts necessitate clear documentation and oversight to ensure that all investment activities comply with the agreed mandates and regulatory requirements. Tax planning can also be more efficient, as managers can harvest tax losses or realize gains strategically. However, granting discretionary authority requires trust and a robust fiduciary framework to safeguard client interests and meet compliance standards.
For example, a family office opens a discretionary account with an investment advisor to manage $10 million in diversified assets. The agreement allows the advisor to make trades within a risk tolerance framework without needing to get permission for each trade. If the advisor sees a market downturn risk, they can quickly shift 20% of the portfolio from equities to bonds to mitigate loss, executing trades without delay. This ability can preserve capital and maintain portfolio alignment with long-term goals.
Non-Discretionary Account
A non-discretionary account requires the investment advisor to obtain the client’s consent before executing any transactions, limiting the advisor’s ability to act independently. Unlike discretionary accounts where managers have full trading authority, non-discretionary accounts ensure the investor retains control over each investment decision, which can slow responsiveness but provides direct oversight. This distinction is key when aligning management style with client preferences and regulatory considerations.
What control does the client retain in a discretionary account?
Clients retain control over the overall investment objectives and risk parameters, which they define in the agreement. While the advisor has trading authority, they must operate within these guidelines and report regularly to the client.
Are discretionary accounts riskier than non-discretionary accounts?
Discretionary accounts can potentially expose clients to risks if the manager makes poor decisions; however, the inherent risks depend on the manager’s expertise and the controls set in the agreement. Proper oversight and fiduciary duty help mitigate risks.
Can discretionary authority be revoked?
Yes, clients can revoke discretionary authority at any time, transitioning the account back to non-discretionary status or closing it entirely, depending on the terms of the management agreement.
