Morning, everyone. Welcome to Schwab's 2018 Fall Business Update. This is Jennifer Como, Vice President of Investor Relations for Schwab, coming to you from a somewhat foggy San Francisco. Also here with me in the studio today are Walt Bettinger, our President and CEO, Peter Crawford, our CFO, and Rich Fowler, our Head of Investor Relations. In our agenda today, we will spend a focused hour sharing our perspectives on Schwab. Walt's going to start us off with a strategic picture, Peter will take a look at our recent financial performance and current outlook. Rich will then facilitate the Q&A until it's time to wrap up. While we're on the topic of Q&A, let's review the process. As usual, we'll do so via the webcast console as well as the dial-in.
To help us get to as many folks as possible, we very much appreciate you sticking to our question guideline, which is one question plus a follow-up. Before we start, let's spend a minute on the ever important forward-looking statement page, the main point of which is to remind everyone that outcomes can differ from expectations. Please keep an eye on our disclosures. Last, for those of you looking for the slides, we plan to post them on the IR site following the prepared remarks. With that, I think we're ready to begin. Walt?
Thanks, Jen. Good morning, everyone. Normally at this time of year, I make some kind of comment about my beloved Baltimore Orioles. After a 115-loss season, I think I'll just move right on to talking about the third quarter, which by the way, I've been incredibly excited for our webcast this morning because it was just such an extraordinary quarter and a continuation of our strong organic growth. Let's start off and talk a little bit about our operating model. It's very simple and straightforward. As you all know, for years, we have referred to it as the virtuous cycle, and it's working again in 2018 just as it should. Begins with challenging the status quo of our industry on behalf of investors.
They in turn reward us by investing their hard-earned money at Schwab, that grows our base of client dollars, contributing to strong revenue growth and financial results. The results of this lead to more earnings, enhance our returns for our owners, then we turn around and we reinvest. We reinvest a part of those results back in the business to be able to better serve and reward our clients and prospects, of course, then the cycle starts all over again. Maybe what we'll do right now is go a little bit deeper into a couple of the components of the virtuous cycle. Let's start off with prospect and client response to some of our efforts to challenge the status quo. You can see extraordinary results again here in the third quarter.
New accounts continue to grow rapid rate, up about 13% year-over-year and 80% over the course of the last decade. At the same time, our clients are very engaged with us, and you can see that reflected in our Daily Average Trades, up about 20% year-over-year and about 80% again over the course of the last decade. One thing that's very interesting in the trades is to see that in the details, it reflects the changing way that investors are choosing to invest with us. With relatively significant growth there in the asset-based trade side, as well as trades that are processed as part of some form of a typically fee-based advisory solution. Strong core net new assets. Net new assets brought to the firm here in the first three quarters of the year are over $170 billion. Again, that's core.
Well ahead of the same time frame from last year, which of course, was a record-breaking year and puts us on pace to exceed 2017. Another interesting factor is that they're higher through September of this year than any full year in our firm's history, with the exception of 2017. The asset gathering machine that sometimes Schwab is referred to as seems to be continuing to play out. As clients trust us with more and more of their assets, put that together, of course, with a favorable macro environment we've been operating in this year, it leads to record financial results. Year-to-date, we're just shy of 45% from a pre-tax margin standpoint. That continues a very consistent rate of expansion that you can see on this page since the depths of the crisis in 2010.
We achieved this margin even as we made very substantial investments in the business. We achieved this margin maybe a little bit earlier in the cycle than we'd anticipated because rates have risen a bit faster than we thought, and of course, that has driven revenue growth at a rate a little faster than we anticipated also. As a result, we've been outperforming the baseline scenarios that we've shared with you on a pretty regular basis. Of course, this is something that we'll watch very carefully as we do our planning for next year and, of course, for 2020. Put those margins together and you get very strong return on equity. Year-to-date here, 19%. I think in the third quarter, we may have hit the two handle, hit the 20% in terms of our return on equity.
Of course, this is the 13th quarter in a row that we've had record pre-tax earnings. You can see why I was so excited to have this webcast today. What a great quarter. I think what's very important also, though, is that in addition to delivering these record financial results, we've been investing aggressively in our business to strive to continue to drive this type of organic growth. We know that our business operates in cycles. There are going to be cycles that are better and worse, and we're trying to take advantage of this positive time in the cycle to invest in our franchise, invest in our clients. Of course, this is reflected in higher spending at this point in time, whether it's staffing, technology, marketing, all areas that we're putting a concentrated effort around. A quick wrap-up on the virtuous cycle part.
It's working as intended. We expect to continue to execute on the operating model. Maybe what we'll do right now is go a little bit deeper into a couple of competitive and financial issues here before I turn it over to Peter. As you know, our strategic approach to serving clients involves what we call the no trade-offs. This is a deliberate effort on our part based on the belief that when you have a focused strategy, when you have a consistent strategy around serving investors, as well as the advisors who work with them, that we can deliver for them world-class value, world-class service and world-class guidance. That it's not an or in any part of that sentence. We really believe that in today's economy, that old paradigm that you quote, sort of get what you pay for, that's been shattered.
That's just not the way that the environment works today and certainly not the way we think successful firms and investment services will operate as we move forward. Really today with our combination of scale, people, technology, as well as we shouldn't forget the courage to be disruptive, we can keep delivering for clients in a way that we think few, if any, of our competitors are able to do so. It really continues to show up in one of our simplest, most direct metrics. If you look at our TOA or transfer of assets or accounts, we continue to win more than $2 from competitors for every $1 they win from us. That's a metric that we've not seen, documented at least in any kind of publicly reviewed forum, or achieved by any competitor.
Of course, one of our key structural advantages is our scale and our operating efficiency. Our cost structure is about half, in some cases, a little less than half of a number of our online competitors, and less than a third that of the wire house firms. Now, if you go back and review our guiding principles, you know that we believe that price matters. In an industry where price matters, this is a very important competitive tool. It enables us to offer unbeatable pricing in the areas that matter most to clients. Of course, just as importantly, it helps our clients keep more of their hard-earned money in their pocket where it belongs. As we always remind ourselves, after all, it was their money to begin with.
I think these numbers are based here as of maybe the end of 2017, but it shows that we only have about 7% market share here domestically. We're confident that we have a long runway in front of us to be able to continue to drive organic growth. The investments that we're making today, whether it be in the areas of digital delivery or the rebuild of our core brokerage systems, automation of operational processes, all those things are going to improve our ability to keep delivering this no trade-offs proposition for our clients and for prospects considering Schwab. That sort of takes us to, in some ways, what is a new chapter or at least a chapter we haven't seen at Schwab for quite a number of years in terms of our ability to reward our owners.
Right now, we're right on the cusp of being in a position to begin returning capital to our stockholders in a quite meaningful way. All of you know that our operating objective has been somewhere between 6.75% and 7% from a Tier 1 leverage ratio, and our capital levels have been fairly far above that in recent years, to some extent due to the operating environment, improving rates, but also we were quite mindful of crossing the $250 billion level last year in 2017. In addition, we've been using a fair amount of our capital that we've created in recent years to fund the growth of our balance sheet, but those needs are starting to wane.
Our board is right now deep in the process of analyzing options for the most effective way for us to leverage this excess capital we're creating and should create, in quite meaningful levels, as we move forward. We're going to have more information for you on that development very soon. Let me just wrap up here. Virtuous cycle operating. Our operating model is working exactly as it's intended. Our client-oriented, no trade-offs, competitive position never been stronger, as you can see in our asset flows as well as in our net TOA ratios. The opportunity in front of us domestically is quite large. 7% market share means that there's a lot of assets, a lot of clients, a lot of prospects out there looking at Schwab, that we believe can become Schwab clients over time.
We're on the cusp of expanding the role of capital returns in our financial model, to benefit our stockholders. At the same time we look at that, we continue to deliver top-line revenue growth. Now you're looking at a company that is combining both top-line growth as well as robust capital returns to owners of Schwab stock. Again, we're quite excited and pleased to be able to share with you this information from Q3. Peter, I think you're going to have even more information from a financial standpoint. Let me turn it over to you.
All right. Well, thank you, Walt, and good morning, everyone. Walt talked about what we call the virtuous cycle and how well it worked in Q3 and over the course of 2018. In my time today, I'll dive deeper into the financial performance note of the wheel, sharing how our record business momentum that Walt talked about in the third quarter, combined with a generally helpful macro environment, led to record financial results as well. I'll also talk more about the balance sheet and capital management, a story which, as Walt mentioned, we are evolving as we near the end of sweep transfers. Finally, I'll share our thoughts on the fourth quarter and some very high-level thinking on 2019, recognizing, of course, that we're still working on our plans for the year. 2018 has definitely been a tumultuous year for investors, but on the whole, a positive one.
At our winter business update, we communicated two different financial scenarios given the range of possible interest rate paths. With a strength in the equity markets and the increase in both short-term and longer-term rates, conditions have, on the whole, been even better than our three-hike scenario. With the equity market a bit ahead of our scenario, at least until recently, three rate hikes now behind us and prospects looking good for a fourth in December, longer-term rates finally rising and trading much stronger than we'd anticipated. While the macroenvironment has generally provided some much-appreciated tailwinds, our financial results would not have been possible without our continued success in driving strong organic growth. I'll talk about our record core net new assets, enabled in part by robust transfers from our competitors.
We're seeing momentum in both our Investor Services and Advisor Services businesses, with both existing clients as well as prospects. You can see here a 24% increase in new-to-retail households, with a majority under the age of 40. We enjoyed healthy growth in advised assets, which of course includes both our Advisor Services business and our retail advisory assets, and an 18% increase year-over-year in end-of-period interest-earning assets. You've all had a chance to read the earnings release we shared on Monday. It was, as Walt mentioned, another remarkable quarter from a financial standpoint. We produced a 19% increase in revenue year-over-year, our 13th consecutive quarterly record. Revenue was boosted by both net interest revenue and trading, which more than offset a decline in asset management and admin fees, due mostly to declines in sweep money fund balances we transferred over to bank sweep.
Expenses were up 11% year-over-year, a function of hiring we've done to support our growing client base and investments we made to drive growth in the years ahead. With that 19% increase in revenue and 11% increase in expenses, our pre-tax profit increased 29% year-over-year, and our pre-tax profit margin jumped nearly four points from the third quarter of last year. Our return on equity hit 20%, the highest level in nine years. Turning our attention to the balance sheet, we ended the quarter with $272 billion in assets, thanks in part to $23 billion in transfers from sweep money funds to bank sweep in the third quarter, bringing the total year-to-date transfers to $68 billion. We have another $33 billion remaining in sweep money funds, and we'd expect a majority of that to be moved by the first half of 2019.
With that balance sheet growth, our Tier 1 leverage ratio ticked down a tenth of a point, remaining above our operating objective of 675 to 7%. One of the questions we are frequently asked is about the increasing proportion of our revenue that comes from net interest revenue and whether this is good or bad. From our perspective, there is no doubt that this trend has been a positive one. That's because cash has always been an important contributor to our revenue mix. We much prefer the relative stability and recurring nature of both asset management fees and net interest revenue versus the volatility of commission revenue.
Utilizing our balance sheet to monetize our clients' uninvested cash has allowed us to establish that no trade-offs position that Walt referenced, enabling us to invest in a better experience for our clients, even as we take steps to lower prices for investors. It also creates a sort of internal hedge, since client cash allocations tend to rise with volatility or equity market weakness, meaning net interest revenue often grows more quickly as asset management falls and vice versa. This focus on utilizing our balance sheet has enabled us to grow faster organically while avoiding the credit risk that other banks may take on and allowing us to produce returns on equity that are both 2x our cost of capital and the ROEs of other large cap financials. Another question we are often asked is about our deposit betas.
As we said previously, we expect betas to generally be low and to edge up over time as interest rates increase. As you can see, deposit rates have been lower this cycle than in the last tightening cycle in 2004 through 2006. We have no reason to believe betas will be higher this time around, though again, we do expect it will increase a bit over time as rates rise. While our betas have been lower than some of the traditional banks, that seems a function of our retail versus institutional or commercial client base and of our segmented approach to meeting the needs of our clients. Meaning that by offering the option of purchased money funds, which essentially have a 100% beta, the client cash that remains on our balance sheet is less yield sensitive and therefore can have a lower beta.
If you combine those two products, our weighted average beta and client cash is probably around 60% ±, with some at 100% and some in the 20s and low 30s. A few thoughts as we look to the future. We continue to believe full-year NIM will be in the high 220s and revenue growth in the mid to upper teens. On the expense side, in addition to the typical fourth-quarter seasonality, we have made the decision to move forward on two one-time expenditures, an emphasis on one time. First is to invest more in our marketing to capitalize on the strong momentum we have and the effectiveness of our no trade-offs positioning. Second is our recent announcement to give all non-officers $2,000 in stock to reward them for our outstanding year and help them become owners and investors as well.
Even with this roughly $60 million in added spending in the fourth quarter, we still expect to deliver 400-600 basis points of operating leverage for the year. For 2019, it's still early and there is a lot in flux, including expectations for interest rates, client activity, what happens in the equity markets, et cetera, all of which we'll take into account as we develop our plan. Our current thinking is to prioritize investments that build on the cost advantage that Walt talked about, which is so important to our success. As we do, it seems likely that the rate of spending growth will moderate from the level of the last few years, even as we continue driving strong business growth. Turning our attention to capital in the balance sheet, we expect the balance sheet to grow by roughly 15% for the year.
As Walt mentioned, we'll be soon discussing with the board, and already have been discussing with the board, some options around enhanced capital returns. Stay tuned for that. Let me quickly summarize what you hopefully heard from both Walt and me today. First, strong business momentum combined with a helpful environment have produced record financial results even as we invested in growing the company and building on our cost advantage. Second, as we near the end of sweep transfers, capital return will likely become a more important piece of our financial equation and something we'll be discussing in more detail soon. Third, though we made the decision to green-light some incremental Q4 spending, we still expect to achieve the 400 to 600 basis points of operating leverage that we outlined at the July business update.
Fourth and finally, our priorities as we move forward should look pretty familiar, focusing on clients, focusing on what has made us successful, and never settling. With that, let me turn it back to Rich for some Q&A.
All right. Thank you, gentlemen. Well done once again. Let's plunge right in. We're going to follow the same practice as always. Star one or use the webcast console. Operator, you want to start us off?
Certainly. Participants over the phone, if you'd like to ask a question, just please press star followed by the number 1 and kindly record your first and last name after the prompt. Your name is required to introduce your question. To cancel, you may press star followed by the number 2.
Shall we take our first caller?
Our first question comes from the line of Mike Carrier from Bank of America, Merrill Lynch.
All right, thanks, guys. Hey, Walt, maybe first one for you. You mentioned the net new assets, the transfer of assets. Everything continues to be very strong at Schwab. The competitive dynamics, it seems like it's starting to pick up again through the summer. Just wanted to get your thoughts on how you view Schwab's competitiveness in the industry and if you feel like there's any hurdles for bringing in the customers given some of the competitive moves by some of your peers.
Thanks, Mike. I think our view is really the same, that we like our pricing position right now. At the same time, as I've indicated in the past, we are committed to the idea that we will not have core competitors who go underneath us from a pricing standpoint in important areas. We're pleased with our position right now. I don't believe that pricing is a barrier to clients or prospects coming to Schwab. I think the metrics bear that out. At the same time, as you would expect, we monitor on an ongoing and very regular basis whether any core competitor makes changes that are things that we feel would change that current dynamic.
Okay, thanks. Peter, maybe just one for you. Given what you guys have been investing, some of the investments in infrastructure, improving the cost structure, just wanted to get your sense when we look at that EOCA or the expense per client asset, what initiatives are in place that could continue to lower that, particularly if we see more competition in the industry or more pressure on the revenue side?
Sure. Thanks, Mike. Driving down EOCA as expense on client assets, as Walt mentioned, is a really important imperative for us and something we have a track record of having done for many decades now. The way that you do that is really three things. One is you grow assets, allowing you to amortize your fixed costs over a larger client base. Second is you operate with discipline and prioritization. Third you make investments on an ongoing basis that improve the productivity and efficiency and remove friction.
I think a couple of things that Walt highlighted earlier are some of the big initiatives that I'm very excited about in terms of what they can do in terms of continuing to reduce costs while at the same time improving the experience for our clients because what we don't want to do is remove costs at the expense of our clients. I'd highlight something like our digital transformation, which I don't use that word, that transformation word lightly. I do think that can be a transformation when you consider the number of calls, for example, that we take every year that are password resets or status updates.
If we can eliminate the need for a client to have to call for that or allow them to do that on their mobile device or on schwab.com, eliminate that call, that's better for the client and it's better for us as well because that's a call we don't have to take. We can use that time talking to them about something else. Application modernization creates a more scalable infrastructure and a lower cost infrastructure over time. We're doing a lot of work on business process transformation, Straight-Through Processing in our operations area. There's a lot of technology now that we are leveraging to try to remove friction, and again, lower the cost of serving clients, but in a way that ends up being good for the clients as well.
Okay, thanks a lot.
Okay, next call.
Thank you. Our next question is from the line of Rich Repetto. Your line is open.
Yeah, good morning, Walt. Good morning, Peter. I guess I'm hearing an echo here, but that's okay. The question I hear most often, Walt and Peter, is that how is Schwab going to grow the bank balance sheet and you're in a good position where interest rate hikes help, but cash is leaving and one investor estimated it's $10 billion-$15 billion leaving each rate hike. I guess given that sweeps are now limited to that $33 billion that are left and, I totally get the NNA growth, but how do you grow the bank balance sheet and to offset, I guess, the headwind of cash leaving with rate hikes?
Thanks for the question, Rich. Let me maybe just take a step back and provide a little more perspective on what's going on with the balance sheet and cash dynamics because I know it's been the subject of a lot of questions and a lot of commentary and say that what's been happening, what's been unfolding this year in 2018 is very much consistent with our expectations. If you go back to our February business update, we talked about we expected at least 15% balance sheet growth over the course of 2018. We did that contemplating only a single Fed increase and relatively modest market appreciation. Of course, the year has unfolded a bit differently than that with three, nearly four rate increases and the equity markets being pretty much a straight line up from March through the end of September.
A very, I would say, conducive environment for investors to get invested, to be engaged in the market. Despite all that, we're at 12% balance sheet growth through the third quarter. We'll have to see what happens in the fourth quarter, but we're pretty close to those assumptions that we had or those expectations we communicated back in February. What's really important to us is to make sure that cash is staying at Schwab and we're seeing that. We're seeing that on our net new assets. We're seeing that in our transfers to and from some of the online banks that are out there. That maybe is a bit different than what you might see at a traditional bank where they don't really have another place for that cash. What's happening here is a couple of things.
One is, clients are reassessing their asset allocation in light of what they're seeing happening in the market. Second is there's sort of a sorting process going on where clients are sorting their investment versus transaction cash. Over the last 10 years, those have gotten kind of commingled and now putting those into different buckets and for the transaction cash, leaving that on the balance sheet and for the investment cash, putting that to work. This is something we absolutely want them to do. We actually do a lot of things to help them do that. While that may be less economic for us in the short term, having an engaged client, an informed client, an invested client, a client that is putting their money to work, improves the odds of their success and that's a client that we're going to keep for their lifetime.
This is absolutely something we're encouraging. We reach out to those clients in multiple ways to help make that happen. This is going to take, we'll see at some point, these cash balances will settle out, if you look at history and reach some equilibrium and then they should grow consistent with our growth in total client assets and our growth in accounts. That's where our strength as a premier asset gatherer, the premier asset gatherer, the asset gathering machine that Walt talked about and others have talked about should translate into growth in the balance sheet. I'd say just one other point, which is that to the extent that investors are choosing to move off-balance sheet with their cash, that frees up capital. That's capital that creates capacity for us to do more capital returns to our stockholders.
More balance sheet growth means probably a little bit less in capital return. Less balance sheet growth means more opportunities for capital return, allowing us to reward our shareholders, reward our stockholders one way or the other.
Got it. Okay. That's very helpful how you look at that balance, Peter. I guess the follow-up question, Walt, in the slides, you talked about how important net interest or the percentage of revenue and especially the cash portion of it when you include money markets. I guess the question is, would you ever entertain, it's an M&A question, would you ever entertain M&A that helps you grow the balance sheet and helps you grow cash? Is that one of the areas that you look at as a potential opportunity?
Well, Rich, I think our philosophy on M&A is consistent, which is we look at every opportunity that may present itself. We do have a fairly high threshold for a serious consideration, and often it revolves around strategic capabilities that help clients. Acquisitions that are pure balance sheet-oriented or financial engineering-oriented, and I'm not sure that that's what you're referring to, but those types of acquisitions probably fall pretty far down the list in terms of things that we would give serious consideration to.
Got it. Thank you. That's very helpful. Thanks.
Okay. Operator, we're going to take one from the webcast for a second here before going back to calls. Just to follow on the thinking around pricing, while we do get asked versions of this, given the philosophy of not being undercut or not allowing things to get in the way of people choosing Schwab, is it possible that we could see a fee-free mutual fund or ETF from Schwab in the not-too-distant future?
Yeah. There's a question of the relevancy of fee-free. The difference between two or three basis points and zero is pretty small. That said, we know that there's at least one competitor with a, quote, "free" or at least zero operating expense ratio fund out there, we'll continue to study it and watch carefully how clients feel about something that is categorized as free. We all know that every company that is for profit is in the business of serving clients in the best way they can and making money. We are very careful in studying how clients feel about that in the day and age we operate in of transparency and clarity with clients.
All right. Thanks, Walt. Can we go back to the next call?
Thank you. Our next question is from the line of Devin Ryan. Your line is now open.
Great. Thanks. Good morning. Just first one here on the comments around spending growth moderating in 2019. I guess, just to think about that, should we still be contemplating a relationship between revenues and expenses? Essentially, if the revenue environment were to improve more than expected, hypothetically that could still pull expenses higher? Is it really just an absolute drop in expenses year-over-year? Just trying to think about the relationship, given that it's normally a band.
Devin, I know there's probably a lot of eagerness to talk about 2019 in more detail, I would say is we'll talk about that in more detail at the winter business update in February. I do want to clarify, make sure it was clear what I said. What I was talking about was not necessarily a spending cut, but a moderation in the increase in our spending levels versus if you look at the last three years, our annual increase in expenses has been sort of 11-ish%. What I'm talking about is a likely moderation of that level that we're looking at heading into 2019.
Again, in terms of the exact how that might flex or not flex with the environment, as we talked about back in this last February, I'll have to tell you'll have to show up in San Francisco in February to get more details on that.
Okay, great. Just a follow-up kind of on the conversation around competition and appreciate some of the comments. Obviously, the cadence of pricing actions have been accelerating, a lot of focus is being put on something that's free or zero, whether it be commissions or investment product fees. There's clearly offerings that are at those price points, and you're not necessarily at that for all of them. Is this something where the value of the holistic relationship with Schwab is maybe getting overlooked? Are there ways to, I guess, add new ways to monetize the relationship outside of just that maybe commoditized or more commoditized element, whether it be in trading or certain types of investment product fees?
Yeah. Interesting there, Devin. Good question. I guess first I'd say is I don't know that it's being overlooked when you look at the flows that are occurring as well as the competitive position we have on TOAs. I think the consumer understands that there is nothing free. If it's free trading, it's being made up probably somewhere, execution quality or other factors. Free investment funds might be being made up as sort of the typical grocery discount the milk to sell more bread type thing. Even on our side, where we offer Intelligent Portfolios without an investment advisory fee, we're very clear in all our disclosures that we generate revenue from some of the underlying exchange traded funds as well as the cash holding within those portfolios, that that's the way that we generate revenue in the program that doesn't have advisory fees.
I think consumers are pretty sophisticated for the most part. That's not to say every consumer. Consumers, for the most part, are pretty sophisticated in understanding that they're going to pay for things one way or another. It's a matter of how they choose to do so. I think our organic growth results are a reflection that we're at a pretty nice point in terms of finding the right balances here. Thank you.
Okay, next call.
Thank you. Our next question is from the line of Brian Bedell. Your line is now open.
Great. Thanks. Good morning, folks. Maybe just to go back to the balance sheet side and the bulk transfer activity. Peter, you alluded to this on the last business update in terms of the process that obviously you're going to be slowing down the pace of that over the next 2 quarters. You mentioned the timing of that and I think the need to make sure that clients were getting a better yield on their cash. Can you just talk a little bit more about what your thought process is around in the next 1 to 2 quarters for those clients that are getting swept from the 150 basis points or so sweep money funds to the 30 basis points deposit rate. To what extent are you reaching out to those clients to get them to have a better yield on that cash?
Is there a threshold for that for who you would reach out to on that?
Sure. First on the timing, our expectation is that we'll probably do about a few billion dollars of transfers in October, and then likely pause in November and December, just given the end-of-the-year volumes and client activity, until early 2019. In terms of the process, it's a process that we definitely try to engage those clients in a conversation. It has proven to be, with many of our clients, a really good catalyst to have a conversation with them about why they have that cash, how they're invested, what their financial goals are, and so forth. We do written communications to them that are very transparent and upfront about their alternatives, about what's happening to them and about the alternatives if they are seeking higher yield.
If they are working on the retail side, if they're working with a financial consultant, the financial consultant will try to reach out to them and have a live conversation with them about that as well. On the advisors side of the business, of course, we don't talk to the end clients there, but we do talk to the advisors about it and make sure they understand what's happening. With the advisors, we typically try to move all the advisors' accounts at the same time from an operational standpoint, so it makes it easier for them.
Right. This process is ongoing, I assume, as opposed to sort of almost concluding, or do you expect to continue to do this type of activity for the next few quarters?
It's not like we contact them just a day ahead of the transfer. It is a process. We talk to them ahead of the transfer, as the transfer's happening, and then many of these clients we're talking with on an ongoing basis as well, just as part of the overall relationship with the client.
Right. Okay. Just back to the sort of the competitive disruption that we've seen this summer. Maybe just more to the point, obviously, JP Morgan came out with somewhat of a disruptive online trading rate. It looks like it was mostly targeted at keeping Chase customers internal to their franchise and growing that internally. But maybe if you can talk about, have you seen any impact to your transfer account activity in September and October as a result of that? Or do you think this is, I think, Walt, you initially said, do you maybe not view this as a quote unquote "core competitor," therefore it wouldn't influence your view on trade pricing behavior?
Yeah. I don't know that I'd categorize anything that has occurred over the summer from any firms as really disruptive. I think whether it is pricing on funds or pricing on trading with a zero trade cost or a temporary number of free trades for new clients or free trades for a year, or if you maintain a certain amount of cash balances, you get free trades. That's been in our industry for years. I don't know that I'd categorize anything that I've seen as disruptive. I don't really comment on individual competitors. We have respect for all of our competitors and pay close attention to everyone, small and large.
Right. Okay. Just from pricing in the future, I guess, you have been disruptive yourself in terms of trade price cuts. Is that something you still view as sort of a weapon in the competitive toolkit? I guess your organic growth is so strong right now. The last move really did accelerate it dramatically. Would you wait until your organic growth eased to do that again? Or was that something you think you could do more in the near term?
Well, since we know there's no competitors on the phone, I can answer that directly. I think the moves that we made in early 2017, we were removing a barrier to people coming to Schwab. When we had core competitors consistently priced underneath our commission rate, that was a barrier because we know that switchers in our industry struggle at the outset of a decision where to move their money to. The differentiation between firms. Therefore, they often default to something as simplistic as commission rate. I think the step-up in organic growth rate that you're referring to after the commission price changes in early 2017 was more a reflection of us just simply removing that barrier.
I think everyone in the industry will probably look long and hard at additional pricing moves as to whether others will simply match and ensure that no gap is created again in the future, therefore have to evaluate whether there is market share gains to be achieved by that, whether that's us or anyone we compete with.
All right. Great. Thanks for all that additional color.
Thanks, Brian. All right, next call.
Thank you. Our next question is from the line of Vincent Hong. Your line is now open.
Hi. We talked a lot about competition on pricing, et cetera, and it seems to have manifested through commissions, commission-free ETFs, account minimums, all that stuff. I haven't really seen any movement in things like intro bonuses. Have you thought about competing for new accounts through higher intro offers, et cetera?
That's always been an area of competition, Vincent, where incentives are offered to new clients around possible cash or free trades. It's certainly not something that we necessarily like because it's not an ideal way to build a long-term relationship with a client. Unfortunately, I would say in some ways, promotions like that work. Therefore, as long as they are commonly utilized in the industry, it's difficult to take a hard stand that we're not going to have similar types of promotional offers. They are inconsistent with our long-term approach of building trust-based relationships with clients.
Got it. Any indication of cash levels in October, just given the recent market sell-off?
It's really too early to tell. We see when the markets sell off, in that day, we typically see clients moving to cash, and then the markets rally, and they get invested again. It's really too early to tell. What we've typically seen in the past is it takes a bit of more of a pronounced market sell-off, sort of a 10% kind of correction that really compels clients to rethink their asset allocation and move in a more significant way into cash.
Thanks.
Okay. Well, another call.
Thank you. Our next question is from the line of Jeremy Campbell. Your line is now open.
Hey, thanks, guys. I think you guys have previously mentioned that the advisory channel keeps somewhere between around the high single-digit kind of client cash allocations. The retail channel is probably more like mid to high teens. I think there's this idea floating out there that most or all the advisory cash is kind of migrating to money funds versus deposits. Can you just kind of comment at all about the proportion of cash versus money funds in the two channels and maybe kind of your understanding of the advisor rationale for using one versus the other?
Good question, Jeremy. The advisor probably is more diligent at moving longer-term cash into higher-yielding investments, whether it be purchased money funds, bonds, treasuries, things of that nature. The reality is, advisors need liquid cash also. In general, it is averaged somewhere around half of the overall client cash balances that RIAs hold. They need it for everything from transactions they have going on. Their clients are spending some of the money they have, of course, particularly those who are retired or close to retirement. They need it for the collection of their own advisory fees. The notion that 50/50 type ratio is either broken down or no longer applicable is just simply not correct. That ratio is generally holding true.
Great. Just on a big-picture perspective, I think you guys had done a study a while back where you thought, I think maybe, if I'm remembering correctly, two-thirds of your kind of overall cash balances may be in the deposit side and one-third may be in the money fund side. Do you guys still feel like that might hold up, or has that changed over time?
Yeah. We have nothing to suggest that that won't hold up in the future. It may take us a bit of time to get to that equilibrium state, if you will. That has been historically the ratio, and I don't think there's anything to suggest that it won't be the same this time around.
Great. Thanks a lot.
Okay, let's take another question from the webcast. Haven't had a question like this actually for a little while. Interesting. Would we expect our group of core competitors to remain relatively unchanged going forward, or what do we think about new entrants potentially moving in over time?
Yeah. Time will tell, of course, right? But it isn't easy in our industry to move, I would say, into what we consider that core competitor group because there's a very small number of investment firms that really serve $1 trillion or more of client assets. There are certainly large organizations or large institutions that would like to get into that core competitor space that may have a lot of other assets. But to really move into that grouping in Investor Services is a pretty high hurdle. That group of core competitors probably doesn't change very often.
All right. Thank you. Let's go back to the calls.
Thank you. Our next question is from the line of Steven Chubak. Your line is now open.
Hey, guys. Good morning. I wanted to follow up just on the discussion around organic cash growth. Peter, given expectations for rates to continue to grind higher from here, the uptick you described in terms of yield-seeking behavior, is there a catalyst that you see that could help spur positive organic cash growth outside of a sustained market correction? How should we maybe be thinking about the impact of equity market sensitivity on the other parts of your business?
The catalyst for stronger balance sheet growth is growth in our core business. It's growth in our assets. It's bringing on accounts. It's bringing on new assets, bringing on new clients. That over the long term, that is what we believe, and history would suggest, that is what drives balance sheet growth. Those two tend to move concurrently. In terms of the near term, how that evolves over the next months, quarters, I think time will tell. As I mentioned, if we see an equity market correction, in the past it's been sort of in the 10% range. That tends to be the kind of thing that moves clients more heavily into cash. I want to make sure I emphasize, though, that the rate increases, Fed increases are still a meaningful positive for us. There's still meaningful revenue lift associated with each subsequent Fed increase.
The lift may be a bit less than that number we communicated two, three years ago, but it's still quite meaningful. We'd certainly view that as a positive.
Okay. Along those same lines, as we start to think about the excess capital that you're building, especially if the balance sheet growth begins to slow, I know you've managed longer term to that 6.75%, 7% target. Now the balance sheet is considerably larger. I'm just wondering, in the event that we do see a market correction, do you have to tweak some of those targets to maybe account for additional cushion if significant amounts of cash have to move back on balance sheet?
It's a great question and one we get a lot, and certainly one I think about quite often. The short answer is no, we don't have to rethink those targets because those targets themselves build in cushion. As you know, those are well above the regulatory minimums, and they're actually well above our internal limit that we have for our capital levels. Even operating at that 7%, even going down to 6.75% would allow us to obviously to add another, what would that work out to be, four percentage points in balances. We also have the opportunity to access the preferred market. We target 15%-20% preferred to total capital. We've been running at the lower end of that range. We could bump that up closer to that 20% level in an environment where we needed to have more capital.
We have a mechanism if we see a significant market correction and a huge flood of cash onto the balance sheet. We do have kind of a release valve that essentially would allow us to move some of that cash back on into money funds. Again, that's something we only do in an emergency situation. That allows us to manage that at that 6.75%-7% level.
That's great. Thanks very much for taking my questions.
Onward. Next call.
Thank you. Our next question is from the line of Craig Siegenthaler. Your line is now open.
Hey, good morning, Walt, Peter.
Hi, Craig.
I just wanted to dig a little deeper on the free fund or ETF question. Why wouldn't you launch a new free index fund that is only available on the Schwab platform? I just don't see any big issues with that strategy. I think there are obvious issues with a free ETF that can be purchased at your competitors or maybe by cutting fees on your existing products. Launching a new product wouldn't have those issues if it was only available to Schwab clients.
Yeah. I didn't say we wouldn't. I just said that that was something that we are studying and looking to understand client reaction to and where it would fit. You accurately identified some of the complexities around it being done in the ETF space. I think this is one of those things that we're looking at very carefully, and we'll make a decision potentially to do so or not over the coming months. I think the point I just wanted to make is that the delta between two or three basis points and zero is really, really small. To do a free mutual, free is not the right word. To do a zero operating expense mutual fund or mutual funds is really a differing strategy.
It's really sort of a strategy to entice people with something and then hope that you monetize that relationship in other ways. That was the only point I was trying to make.
Got it. Thanks, Walt.
Okay. Let's go to the next call.
Thank you. Our next question is from the line of Chris Shutler. Your line is now open.
Hey, good morning. Maybe if we assume stable NIM, assume kind of flat markets going forward, how do you think about the long-term sustainable revenue growth and kind of margin expansion profile at Schwab? Just thinking about the long-term growth rate of the business. We're increasingly getting that question.
I think in terms of long-term growth rate of the business is going to be dependent on our organic growth rate. When we're growing organically at 7%, as well as continuing to find ways to monetize the relationship with our clients. It's not like net interest revenue is the only way that we monetize those client relationships. If you look at the graph that was in the business update, the proportion of our revenue that comes from asset management fees, ex money funds, has actually gone up.
There's a lot of opportunity within the advice opportunity as an example. We believe there's definitely meaningful ways to grow revenue, maintain our discipline, and grow expenses at a lower level than revenue, which allows us to grow earnings. Through continued ongoing capital return drive very attractive returns for our shareholders over time, even in an environment that might be characterized by flat interest rates and the typical long-term equity market appreciation.
Okay, thanks. Peter, the marketing cost, the extra, I think $25 million or so in the fourth quarter, what's that going to revolve around? What products? Any more detail there?
It basically is around what works. The wonderful thing about marketing is, four or five years ago, if the CMO, Chief Marketing Officer, came to me and said he wants another $1 million, I'd have to sort of take it on faith that that was actually going to have a good ROI. Nowadays, we have a lot of analytics that show that that is a very positive NPV, high IRR investment. We're able to very much target the marketing to the channels, the messages, and the audience that we want to make sure we maximize that lift, if you will, and maximize that payback for it. It really is around what works. There's a heavy focus on digital, since that's worked very well. That's an increasing portion of our overall marketing mix. It's not necessarily a particular product or a particular channel or anything like that.
Okay. Thank you.
Okay. Operator, I'm going to take one last from the webcast, and then we'll probably have time for one last from the callers. Question at hand is there anything we're actively doing to prepare the firm for a market downturn? Are we prepared to take advantage of a down cycle to create excess value for customers and stockholders? I'm going to add on to that.
Questions that we will also get fairly frequently kind of along these lines are, as we think about whether or not it's actually happening, as we get deeper into a cycle, maybe closer to the end of cycles, do we think about changing, we'll call it risk parameters, for example, going further out in duration or credit or et cetera to try to further optimize returns as a way of sort of hanging on to that as we, again, as we say, sort of get deeper into the cycle. Your thoughts on that.
We recognize that when you're in a strong positive environment like you're in now, it lifts all boats. That's also, I think, in part why you've seen some of the pricing moves in recent months. As we know, companies separate themselves from a market share standpoint usually in difficult times. At Schwab, we have a long history from a risk management standpoint of being very diligent, very careful. We know with our balance sheet, it's OPM, as we like to say. It's other people's money. We continue to invest very conservatively with approximately 70% of our balance sheet in U.S. Treasuries and government-backed paper.
We think we're positioned to withstand a downturn well, my assumption would be if we go into a downturn, that is when Schwab tends to really shine, we will put our foot on the accelerator at that point in time to take advantage of possible competitor missteps that they may have gotten themselves positioned into during these much stronger environments. From a client standpoint, it's really all about diversification and helping ensure clients are thoughtful in the way they invest, not just investing in what is the hot thing of the day. We're a long-term investment services firm provider. The RIAs we serve take long-term views, I think that positions our clients well from their perspective for a potential downturn.
Peter Crawford, you might want to add to that?
Yeah, maybe just to add, Rich asked a little bit about duration and our asset and liability management and whether we change that at all. What I'd say is we're not in the business of trying to make a market call and time the market around what's happening with interest rates or the expectations around interest rates. What I could see us doing at some point, once sort of this whole cash settles out and we get into kind of an equilibrium, is taking a look at the duration profile of bank sweep and seeing what that looks like. Maybe that's an opportunity to extend duration or to adjust our profile a bit on the margin. In terms of actively managing that through the cycle, I don't think that's something that we're going to be looking too hard at.
All right. Thank you. Let's go to a final call.
Thank you. Our last question is from the line of William Katz. Your line is now open.
Okay. Thanks very much for taking the question. Coming back to your sort of preliminary view for expenses for 2019, thank you for that. I understand you haven't really sort of put together the sort of revenue framework quite yet, but does that infer a little more inflexibility even if you have a little bit of moderation in the absolute level of spend? Because I would assume you have some baseline view for revenue growth to get to that moderation of the elevated expense growth.
Bill, I wouldn't infer that necessarily. I wouldn't make any statements or draw any conclusions around what that means from a revenue growth standpoint. We're still working on that. As I mentioned, there's still a lot in flux. We tend to set our plan in January and get it approved by the board in January, then share it with you in February. There's a lot that changes between now and then. We'll be coming back with you in more detail around what that looks like. I hate to have to tell you to hold tight for a couple of months, but I'm afraid that's where we are.
Okay. Well, I appreciate that. This follow-up question is around capital management, and thank you for that as well. You laid out in one of your charts a bunch of things that you're considering. Is that a rank order of priorities? The broader question I have is, how do you think about the business mix at this end of the rate cycle? To come at it the other way is when you look at your slide where you talked about you're getting things from spread has come up a little bit, but also asset management trading. Are you at a point now strategically where you might look to broaden out the asset management revenues through acquisition to maybe counterbalance the flattening of NII from here?
The priorities from a capital management standpoint are to use capital to fund and support the growth of the core business. That is our top priority from a capital standpoint. Always has been and will continue to be that way. To the extent that we have capital left over, that's when we look to return that to stockholders. This doesn't suggest any difference from an M&A strategy. It's not like we've got money burning a hole in our pocket and we're saying, "Let's go buy somebody because we have nothing else to do with it." We still will maintain our discipline, are very selective, our approach to M&A and thinking about whether it's a fit strategically, it's a fit financially and so forth.
Peter, I think it's fair to say we weren't trying to suggest that between a regular dividend, a fifth or discretionary type dividend and buybacks, that there was any particular ranking of precedence on that front. Is that right?
Yeah, sorry. That's correct. We're looking to all those, and taking a look at all those methods of capital return and figuring out the exact optimal mix, and that's what we talk about with the board.
Okay. Thank you very much.
All right. Thanks, Bill. All right, we're going to turn off Q&A and turn it back to Peter for some final thoughts.
Great. Well, thanks everyone for your time today and appreciate your questions. We appreciate you tuning in. I know there's been certainly a fair number of questions about the balance sheet and cash and so forth and rest assured these are dynamics that we're following and we're quite confident they will sort themselves out over time. Hopefully what you'll see as they do is that this is a company that has never performed better. Our strategy is working exactly as intended, producing really strong business momentum and really strong financial results. Our competitive position has never been better, as indicated by the transfer, the TOA ratio that Walt talked about, and our ability to continue to widen the moat, and build on our competitive advantages. We have a lot of opportunity in front of us.
There's still a lot of clients out there that would be a lot better off, a lot of investors, I should say, out there that would be a lot better off working with Schwab. The capital return will be an increasingly important part of the financial equation and something we'll be talking about soon. We look forward to seeing you all in person, hopefully in February and sharing more details on 2019. Until then, thanks very much.