Buying stock gives you ownership in the issuing company. Stock ownership is a common way for investors to build wealth, but it is not without risks. You can lose your entire investment in the stock if the company files for bankruptcy and there are not enough assets to pay off the company's liabilities. A less likely, but still possible, risk occurs when your brokerage firm files for bankruptcy. If your brokerage firm failed to follow established protocols, shares of your stock that were held by the firm might come up missing. In such an instance, the Securities Investor Protection Corporation estimates there is a 1 percent chance that you might lose some of your shares.
When you buy stock, you usually have three options for holding your stock certificate. You can take possession of the stock certificate, have the issuing company register the stock directly in your name, or your brokerage firm can hold your stock in street name and maintain your name as owner in book-entry form. If you take possession of your stock certificates, or if the issuing company maintains your stock through direct registration, you have no risk of losing your shares in the event your broker files for bankruptcy. The only time you risk losing shares is if your stock is held in street name by your broker.
Securities Investor Protection Corporation
The Securities Investor Protection Corporation was created by an act of Congress in 1970 to cover investors against the loss of cash and securities held by member brokerage firms that become insolvent. The SIPC does not function like the Federal Deposit Insurance Corporation. It does not cover you against losses in the value of your investments due to changes in market conditions. It only covers you against the loss of your investments due to the failure of your brokerage firm.
Federal regulations require brokerage firms to hold their clients' securities in separate accounts. These regulations were put in place specifically to protect investors in the event of a brokerage firm failure. That way, even if the brokerage firm fails, your shares are maintained in a separate account, and they are not lost and can be returned to you. On occasion cash or securities turn up missing during a brokerage company failure. This is when the Securities Investor Protection Corporation steps in.
The SIPC covers individual investors against the loss of up to $500,000 in securities, which can include up to $100,000 in cash. While there is no guarantee that you will be made completely whole after a brokerage firm failure, the SIPC has a track record of returning investments to 99 percent of eligible investors. It is the SIPC's policy to return all covered securities that are already registered, or are in the process of being registered, in the investor's name. Additional funds might be available to investors on a pro rata basis once the bankrupt brokerage company's assets are liquidated by a court-appointed trustee.
- Comstock/Comstock/Getty Images