When starting your investing journey, you are automatically presented with a choice. It’s a choice that many new investors may not even know is there when deciding on their broker for ETFs or direct shares.
The choice is: “Do I choose a CHESS sponsored broker or a broker under the custodian model?”
If neither of those terms mean nothing to you, no problem. This article will address each type of ownership model for your ETFs and shares. Each method has its own benefits and drawbacks, which can impact how you manage and control your investments.
CHESS Sponsorship
CHESS (Clearing House Electronic Subregister System) is an electronic system operated by the Australian Securities Exchange (ASX) that facilitates the clearing, settlement, and registration of shareholdings. When you buy shares (or ETFs) through a CHESS-sponsored broker, the shares are registered against your name via a Holder Identification Number (HIN) on the company’s share register.
Essentially this means that your shareholding is completely independent from the broker you chose to buy them through.
Pros of CHESS Sponsorship:
Direct Ownership: Shares are held in your name, giving you full legal ownership, direct voting rights, and dividends.
Security: As your shares are separate from the broker, you would not be adversely impacted if such a broker were to close or become insolvent.
Ease of Transfer: Transferring shares between brokers is straightforward under CHESS. This is because your HIN transfers along with you.
Transparency: You can view your shareholding in a centralised registry independent of your broker. This would be via services such as Computershare or Link Market Services.
Cons of CHESS Sponsorship:
Broker Restrictions: Not all brokers offer CHESS sponsorship, particularly low-cost or international brokers.
Fees: Brokers that offer CHESS sponsorship tend to have higher transaction and brokerage costs.
Administrative Burden: As a direct shareholder, you may receive frequent communications from companies. This may be ideal for you, depending on your investment style.
Only available for assets listed on ASX: The CHESS system is unique to Australia; therefore, it cannot be used for overseas shares listed on other exchanges like the NASDAQ or NYSE.
It can’t be denied that the CHESS form of ownership is the gold standard for investing. The protection and flexibility that it offers cannot be understated. The question is, how much are you willing to pay in brokerage fees to access it?
CHESS ownership is offered via brokers such as Commsec, Stake, Pearler and others. Each of these platforms has their own applicable brokerage fees that can be found on their respective websites.
Custodian Model
Under the custodian model, your shares are held in the name of a custodian on your behalf. This is the prevailing structure in most other countries. Australia is unique in its use of CHESS.
The custodian, often a third-party institution, is responsible for holding and managing the shares. This model is common among brokers offering international trading or low-cost services.
Shares (or ETFs) purchased via a broker using this model are legally owned by that custodian whilst you hold the beneficial ownership. This means that you are entitled to the benefits of these shares such as dividends. Although this may seem risky, such assets cannot legally be accessed or transferred by others.
Pros of the Custodian Model:
Lower Costs: Brokers may offer lower fees due to the bulk management of holdings. Brokers using the custodian model operate under a single HIN, which reduces the cost associated with trading. Some custodian-based brokers may even offer free trading.
Global Market Access: Allows for investment in international shares.
Simplicity: The custodian handles administrative tasks like receiving dividends. The platform for trading itself may also be easier to use.
Fractional Ownership: Some brokers allow fractional ownership, making higher priced stocks more accessible.
Cons of the Custodian Model:
Lack of Direct Ownership: You do not have legal ownership; the custodian holds the shares. This could cause issues in the event of a broker collapse, where it may take an extended amount of time to gain access to your shares again. This can be seen in the case of BBY Limited.
Limited Voting Rights: Voting rights and participation in corporate actions may be limited or managed by the custodian.
Transfer Complexity: Transferring shares can be considerably more complex and time-consuming.
Investing platforms like Superhero and Vanguard Personal Investor are based on the custodian model. This can be seen in their lower trading costs than most brokers offering CHESS based ownership.
So, which one should I choose?
Well, it depends on your own personal situation. Trading fees for CHESS based platforms have been steadily decreasing recently making the cost argument between the two options less relevant.
On the other hand, the custodian model is not as risky as some CHESS brokers may make them out to be. You are still legally entitled to your assets even in the unlikely event of a broker collapse, it just might take an extended period of time.
The primary factor in choosing either option comes down to the amounts you are considering investing, and how often you intend to do it. For example:
- A person planning to invest $50 per week would not be well served by the average CHESS broker. A trading fee of only $3 would amount to over 5% lost immediately. Such a person may wish to choose a broker that offers no fee trading to minimise the impact of fees.
- Conversely, a person wishing to invest $1,000 per month with the same trading fee of $3 would only see 0.30% of their investment lost to fees. Perhaps the benefits of CHESS ownership may outweigh this relatively low cost.
If you would like to receive direct guidance on investing, including which broker best suits your goals, schedule a no-obligation meeting with a financial adviser.
