Good morning, everyone. Welcome to Schwab's 2018 Summer Business Update. This is Jennifer Comeaux, 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 the up. And while we're on the topic of Q and 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 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. So please keep an eye on our disclosures. Last, for those of you looking for the slides, we plan to post them on the website following the prepared remarks. And with that, I think we're ready to begin. Walt?
Thank you, Jen. Good morning, everyone. Before we get underway, as a long suffering Baltimore Orioles fan, I was just hoping we could have a brief moment of silence in mourning of the trade of Manny Machado to the Los Angeles Dodgers. I am wearing my LA Dodgers blue shirt today, which makes me not very popular here in the Bay Area. But again, welcome everyone.
Thanks for being with us and let's get right underway. So two words summarize the performance of Schwab right now, consistency and discipline. We've been executing for over a decade on a clear straightforward strategy, very understandable through client size. We've done so when we faced severe environmental headwinds from 2,000 and and 8 through 2015, of course in the form of ultra low interest rates and we continue to do so today as we operate in a more favorable During both environments though, we've continued to invest in clients in our business, whether it's the $500,000,000 we invested in enhancing our client experience during those darkest days of the financial crisis, at a time when actually many of our competitors were laying off staff and pulling in the reins or the approximate $500,000,000 in annualized savings for clients that we invested in lower pricing over the past 18 months or even the ongoing investments that we're making in information security, risk management, digital services, application modernization, other client capabilities today, we are continuing to make disciplined decisions that balance long term growth and returns for our shareholders. Our results in the Q2 and the first half of this year are simply a reflection of those efforts, efforts to deliver on our unique no trade offering for investors and advisors.
And as
we sit here today, we think our opportunities and prospects for organic growth have never been brighter. So let's look at some of the specifics from the second quarter and the first half of this year. It was a solid quarter from an economic standpoint, although to many of our client investors, it felt relatively volatile as the equity markets made a number of upward and downward moves despite through all that what was actually a relatively stable VIX. During the quarter, our clients were relatively active. New accounts were strong and by June, we had marked the 19th consecutive month opening over 100,000 new accounts.
Clients also were active in the trading area. We saw revenue trades up about a third for the first half of the year versus the same period last year and overall trades up just under 30 percent. From a net new asset standpoint, both of our primary businesses, retail, investor services as well as advisor services had superb results. And in fact for both businesses, it was not only our best June in history for net new assets, it was also our best second quarter in firm history. First half twenty eighteen net new assets substantially higher than the same period last year and actually approached full year totals if you go back to the years 2013 to 20 16.
And although it's not actually reflected in this presentation, our flows into Schwab managed variable NAV mutual funds and ETFs also experienced strong growth. In the first half of the year, flows were about 12% ahead of the same period last year. And for the Q2, those flows were about 19% ahead of Q2 2017. So let's peer a little bit deeper into our 2 largest business units. We'll start with Advisor Services, where we serve more than 7,500 independent investment advisors.
Our market share gains have continued into this year with net transfers from competitors as measured in actual dollars, up another 18%. And continuing a trend from last year, we're winning more teams than in most prior periods and they are larger, larger when measured in terms of their assets Net new assets are up another 24% from the same period last year, almost double what they were in the same period just 2 years ago. So let's move over and look quickly at our retail investor services business where we're also experiencing record setting growth. Here net new assets are up 46% over the first half of last year. Retail clients are relying more and more heavily on us for advice.
Our fiduciary level advisory services are growing faster than the overall rate of asset growth for the firm. Another aspect that is very important in discussing our retail business is the demographics of the clients that we're winning. Of course, the demographics play a very important role in terms of our long term growth. Today, about 20% of our retail clients are under the age of 40. However, in terms of new clients, over half of them are under the age of 40 and maybe just as important, these younger clients are equally affluent as our traditional new client households.
These are very important metrics. They illustrate both the power and success of our no trade off client offering and brand and the impact they have across all generations, whether it be silent generations, baby boomers, Gen X or millennials. And as I referenced, importantly, as we succeed in rapidly expanding our millennial client base, they are affluent millennials. So our virtuous cycle, a slide that you've seen many times in the past continues to be highly effective, challenging the status quo on behalf of investors, leading to superior organic growth, resulting record financial results and then a portion of which we reinvest to further benefit investors and of course start the cycle all over again. And we continue to execute with consistency around our guiding principles.
The principles that drive all of our decisions at Schwab. Trust is everything earned over time, lost in an instant. Price matters more than ever and in our industry more than most. Clients deserve efficient experiences every time. Every perspective or existing client is critical to our future growth, no matter how large or small.
And then last but not least, of course, actions matter more than words. Clients, press, influencers and employees will give credit to what we do versus what we say. Principles that guide us on a daily basis in leading and developing and growing the company.
So we
put these actions into place every day, our virtuous cycle, our guiding principles as we execute with diligence and discipline. And even as we generate the strong financial results that you see and Peter will talk about momentarily, we continue making important investments for long term growth in 2018 and beyond. These are all designed to further our position as the only investment firm able to offer investors and advisors the no trade offs proposition. And of course, we apply the same level of diligence to our hiring. And what we share with you here is a summary of our hires within the past year.
You can see that over 75% of them are either in client facing roles or roles developing technology to improve and enhance the client experience and lower operating costs, all being done while building the scale we need to continue driving down our industry leading cost structure. Of course, when you add it all together, the results speak for themselves. Rapid organic asset growth, along with lower operating costs than any publicly traded competitor. And along with these, we have abundant growth opportunities. We still only have about 7% share in the U.
S. Wealth market. We think we're just scratching the surface of what Schwab can become. And maybe even more importantly, just scratching the surface on how many investors and advisors that we can help achieve better outcomes by experiencing our no trade off capabilities that combine incredible value, service, transparency and trust.
So let me
go ahead and wrap up here before I turn it over to Peter. It's about consistency, it's about discipline. Every day, every week, every quarter, results are simply a reflection of these efforts, efforts to deliver on that unique no trade off offering for investors and advisors. The metrics prove it, the financial results prove it, and I think our transparency proves it also.
So Peter, let me turn
it over to you to go into some of the details of our financial performance.
All right. Well, thank you Walt and good morning everyone. So Walt talked about how our through client size strategy, our no trade offs approach has really resonated with clients leading to strong business momentum and a lot of opportunity in front of us. In my time today, I'll talk about how that record business momentum in the second quarter combined with a generally helpful macro environment led to record financial results as well. I'll also talk about the progress we've made in executing on our cash strategy and growing our balance sheet, which as you no doubt see now exceeds $250,000,000,000 And finally, I'll share our updated thoughts on what we're relatively flat, which means that if the market environment continues to track better than even the 3 hike scenario we described earlier this year, our financial performance could exceed the expectations we communicated back in February.
Now in our winter business update, we actually communicated 2 different financial scenarios given the range of possible interest rate pass. As Walt said, 2018 has definitely been an up and down year thus far for investors. But all in all, we're tracking a lot closer to the 3 hike scenario than our baseline 1 hike scenario. With the equity market a bit behind our scenario, long term rates a bit ahead and trading much stronger than we'd anticipated. Now while the interest rate environment has generally been helpful, our financial results were also the product of our success in driving strong business growth with record core net new assets as Walt discussed earlier, strong growth in advised assets, which I'll remind you include both our advisor services business and our retail advisory assets, and a 19% increase year over year in end of period interest earning assets.
You all had a chance to read the earnings release we shared on Tuesday. It was a very, very strong quarter from a financial standpoint. We produced a 17% increase in revenue year over year, our 12th consecutive quarterly record. Revenue was propelled by both net interest revenue and trading, which more than offset a decline in asset management and admin fees, which was really mostly due to declines in Suite money fund balances we had transferred over to Bank Suite. Expenses were up 11% year over year, a function of hiring we've done to support our growing client base and investments we've made to drive growth in the years ahead that Walt talked about.
Now this is actually a bit of below our plan for the quarter, a function of slower than anticipated hiring, but we began catching up late in the quarter and would expect that to continue in Q3, consistent with our earlier communication about relatively flat spending throughout the year. With that 17% increase in revenue and 11% increase in expenses, our pre tax profit increased 24% year over year and our pre tax profit margin jumped nearly 3 points from the Q2 of last year. And our ROE hit 19%, the highest level in nearly 9 years. Turning our attention to the balance sheet. Thanks in part to $20,000,000,000 in transfers from the sweep money funds over to bank sweep, our balance sheet reached nearly $262,000,000,000 at the end of the quarter.
We used some FHLB advances during the quarter, but had no balances at quarter end. And despite the balance sheet growth, our Tier 1 leverage ratio climbed a 10th of a point due to strong capital formation arising from our financial performance. As I mentioned, we continue to move balances from Suite Money Funds to Bank Suite. The $20,000,000,000 moved in Q2 brings the total year to date to 40 $5,000,000,000 Now as balances in sweep money funds decline, we are certainly glad to see our clients turning to our purchase money funds for their cash needs. We still have $58,000,000,000 remaining in sweep money funds and we expect to migrate the majority or as I said in our last update, the strong majority of those balances over to Bank Sweep in the next 12 months moving as briskly as possible.
And quite importantly, in doing so, we expect to grow our balance sheet by at least 15% from December 31, 2017 to December 31, 2018. And so far through the first half, we're at about 8% growth, so certainly on our way. Now we've gotten a lot of questions about our clients' cash balances, which have obviously been relatively flat the last few quarters and actually have come down as a percent of total client assets as investors here and elsewhere have engaged in the markets. I want to emphasize that from our perspective, we see no evidence that client interest rate sensitivity is greater than we expected and somehow creating a longer term balance sheet growth issue. We want our clients to be engaged investors.
We want them to invest. If they're yield sensitive and they're going to keep that cash for a while, we absolutely want them to utilize our higher yielding alternatives, CDs, fixed income, purchase money funds and so forth. In fact, we do a number of things to make them more aware of those alternatives because we much rather have them find those solutions here rather than elsewhere. And we've seen this pattern before. There have been a number of times in our where client cash balances have been flat for several quarters and even a couple of years.
In 2004 through 2006 for example, as the Fed was hiking rates, we saw clients move out of cash. But after that period and the other periods when we saw a plateauing, cash balances inevitably resumed their upward trajectory. And though with the standard disclaimer that past performance is no guarantee of future results, we don't see any evidence thus far to believe that pattern won't repeat itself this time around. Now as I mentioned earlier, the market environment to start the year has looked a lot more like the 3 rate hike scenario we communicated at the Weir and Business update rather than our baseline scenario which assumed a single Fed increase. With a strong start of the year, if the Fed falls through in December as the market is anticipating, we now expect our financial performance to be somewhat better than our expectation 5 months ago.
We can see revenue growth in the mid to high teens as a potential outcome. Outcome. As 2Q expenses were a bit below our expectations due to timing of the certain adds to staff as I mentioned earlier, we expect to catch up in the second half of twenty eighteen, but we still expect the level of spending to be relatively consistent quarter to quarter. This would imply a 400 to 600 basis point spread between revenue growth and expense growth and a pre tax margin around 45%. So not too dissimilar from the results we had in Q2.
Of course, it's still early days and we'll have to see how the market environment unfolds and we will of course update you at the next business update. Now let me quickly recap before we get into the eagerly anticipated Q and A portion of the hour. For those of you who follow the company for a while, the story should look pretty familiar and the results as remarkable as they are largely consistent with what you would expect given our strategy in the market environment. By controlling what we can control, our no trade offs approach to serving clients, the discipline with which how we have managed and grown our balance sheet and capitalizing on what the market gives us, we put ourselves in position to produce strong operating and financial results to actually outperform the expectations we communicated earlier this year, while investing to continue the momentum we've worked so hard to build. With that, let me turn it back to Rich for some Q and A.
All right. Thank you, gents. Well done. So yes, as Peter said, the moment you've been waiting for has arrived. Welcome to Mr.
Fowler's Neighborhood. Let's dig into Q and A. I think we all know the drill by now. Cast console. I'm sure we've got a queue going here for the phone side.
So operator, why don't we go ahead and take our first call?
Thank you. We will now begin the question and answer session. Our first question comes from the line of Craig Siegenthaler. You may now ask your question.
Good morning, Walt, Peter. So despite the risk of not getting too far ahead here, I think it's important to understand what you're planning for in the capital management front for life after bulk transfer. So, first, when do you think the bulk transfers will likely finish up at this point? And when they're completed, how do you think about the right mix of capital deployment for new investments, bank growth, buybacks and then also dividends?
Sure, Craig. So I'm going to have an easier time answering the first question than the second question. But the first question on the bulk transfers, we'd expect to complete the bulk transfers over the next 12 months. I think the Q3 pace that we see for bulk transfers will probably be somewhat similar to what you saw in Q1 and Q2 perhaps a bit lighter. I think we're likely to take a slowdown a little bit, maybe take a pause later in the year in November December, just given that's a busy time with the holidays and all that.
But I think that's sort of I would expect that the majority of the remaining bulk transfers we would do were likely to happen in 2018 with the remainder happening in the first half of twenty nineteen. In terms of life after bulk transfers from a capital standpoint, what I would say is a couple of things on that. I mean, one is we're going to definitely talk to you more about that at our winter business update in February of 2019 and I can offer you more details on that. But our number one priority from a capital standpoint is continuing to support the organic growth in the business. And so that when you talk about the list of things, the growing the bank, growing the balance sheet, that's certainly a top priority.
To the extent that we have capital above and beyond what we need to support the growth of the business, The exact mix between share repurchases, dividends and so forth, I think is still TBD and something we'll be talking with our Board about over the rest of this year and sharing more details with you on in the early part of 2019. I'd point out that our dividend policy is to dividend out 20% to 30% of our earnings. And so as our earnings increase, the dividends should naturally increase with that. But to the extent that we do dividends beyond that level, I think that's something that we still need to have conversations around.
Thank you.
Okay. Let's go to the next call.
Thank you. The next question comes from the line of Ken Worthington. Your line is now open.
Hi, good morning and thank you for taking my question. So along the same lines with the bulk transfers approaching their finale, Maybe Walt, is there a revenue stream that you think will replace the incremental revenues that have been coming from these bulk transfers to the bank? And maybe said another way, the bank has driven excess growth for much of the last decade for Schwab, but the bank now seems on a longer term track to grow more in line with the broker. So what's really next here for Schwab?
I think what's really driven most of our growth is the fact that we have been winning in the marketplace in large numbers since 2,008. And much of that growth was masked from 2,008 to 2015 due to ZERP. And so yes, you're getting some lift from transfers to money to sweep at the bank. But at the same time, we're doing that. We've made our pricing more competitive overall.
What's really driven the growth of the franchise in the last decade and I think will drive it going forward is winning in the marketplace.
It's winning new clients. It's
firm's growth and will be the long term driver of our growth firm's growth and will be the long term driver of our growth going forward as transfers to the bank diminish and eventually largely stop.
Okay, great. Thank you very much.
Okay. Let's keep going with the calls for a couple more maybe. Next caller please.
Thank you. The next question comes from the line of Devin Ryan. Your line is now open. Hey,
thanks. Good morning. Well, good morning, Peter. I guess another one here just on the cash balances and appreciate some of the detail you gave. And obviously, one component is money could flow back from risk assets, which are obviously seeing a big buying effort right now.
But when you look at the pace of kind of yield seeking behavior today and kind of the movement into purchase money funds and other cash alternatives, How would you say this yield seeking behavior is compared to expectations? Did the movement this quarter seem outsized relative to normal? Or why do you think it was elevated? And then just any historical perspective you could share around just other kind of rate tightening cycles and maybe a view that the trajectory could slow from this quarter's level?
Devin, let me go quickly and then I'll ask Peter to fill in. I think what we saw in the second quarter was exactly consistent with what we expected. As we have said repeatedly and mean it, we want clients' yield sensitive cash to end up in the highest possible yielding cash solution that fits within their risk profile, whether it's purchase money funds, CDs, bonds. We're actually very proactive in reaching out to our clients when we believe that they might have yield sensitive cash in balance sheet and encourage them into other alternatives. We think that's the right thing for our clients and obviously therefore it's the right thing long term for our company.
So what we're seeing is what we expected. It's consistent and it's the right thing for our clients, which is the way we want to approach every issue that we're faced with. Peter? Yes.
I don't have a whole lot more to add.
I think Walt really said it is absolutely consistent. We are seeing that cash move into a range of solutions, purchase money funds, CDs, the fixed income markets and the equity markets as well. And again, it's very much the expectations we communicated 6 months ago and even a year ago.
Okay, that's helpful. And then just a quick follow-up here. So to the comment on the increased momentum in new accounts under 40 years of age, I guess the question is what would you attribute that to? Where are they coming from? Are these from discount brokers or warehouses?
And then are these new younger clients using Schwab the same way as the existing customer base, meaning the same balance
of products or the services they say
they value the most from Schwab?
So those clients are coming from a broad array of different competitors, very consistent with our the traditional wirehouses, banks. It's you can't really pinpoint one specific area they come from. It's very, very broad. And their behavior actually is very consistent with the behavior of other Schwab clients, everything from cash weightings to usage of advisory solutions, trading, there's not a discernible difference between these clients coming to us under age 40 and our regular base of clients.
Great. Thanks, Walt.
Okay. Let's take one more call and then we'll do webcast after that. Next caller?
Thank you. Next question comes from the line of Rich Repetto. Your line is now open.
Yes. Good morning, Walt and Peter. And Walt, first, I want to say I'm a Boston Red Sox fan. I'm sort of at the opposite end of the spectrum this year, but I've been there before. I feel I know your pain over the years.
So anyway, hopefully it will change for you. Anyway, my question is first for Peter on the NIM. You experienced a real big increase quarter to quarter of 18 basis point increase in NIM this past quarter. In the coming quarter, if we do get a rate hike, can you talk about should it be similar? Should it be somewhat mitigated, because I know we had some beneficial things happen to the yield curve, etcetera, in 2Q?
So thank you. Thanks Rich for that question. So with the Fed having hiked in March June and assuming they follow through as expected in September, our expectation for the full year NIM would be probably somewhere in the upper 220s plus or minus a couple of basis points. Now in the next quarter or 2, I think we're probably more going to consolidate if you will the gains that we've made in the first half of the year with NIM increasing, but not certainly to the same extent that we saw in the first half of the year. Now there's a couple of factors that go into that that might be worth touching on.
So first is on the deposit cost. We as you probably saw, we raised our rates on our deposit products by between 2 7 basis points at the end of the second quarter. And so that will flow through into the cost of funds as we head into the Q3. 2nd is the rate environment. We are reinvesting at rates above our overall portfolio yield, but the real benefit there is on the fixed rate assets, which as you know take a little while to work through and show up in the actual overall portfolio yield given the time to reprice on those assets.
And then the 3rd dynamic is around HQLA. And as we've talked about before, as we are now an advanced approaches institution and will be subject to the higher outflow assumptions as part of the liquidity coverage ratio, which we'll need to meet at the end of the Q1 of next year, we're going to be building some more liquidity into the portfolio. So this will be a mix of Ginnys and treasuries and excess Fed reserves. Now fortunately, we're doing so at a time when the yield curve is pretty flat and credit spreads are relatively tight. So while we still think that that overall is probably about a basis point of NIM impact, the impact to NIM may be a little bit more in the near term as we seek to build up that portfolio, if you will.
The real uncertainty of course in all of this is what happens with LIBOR. And LIBOR over the first half of the year has been relatively elevated relative to historical norm to Fed funds. And our assumptions as we say that high 220s is that some of that elevation, some of that lift which is due to technical factors will reduce over the next quarter or 2. And so we may not see the same lift from a LIBOR standpoint when the Fed increases in September. So you put all that together, saw we get to high 220s plusminus12 basis points and again some lift from Q2 to Q3, Q3 to Q4, but not to the same extent as what we saw in the first half the
year.
Understood. Very, very helpful. And I guess my follow-up question would be for Walt. Given the bulk sweeps, the interest rate hikes, net interest income now makes in the second quarter made up 57% of revenue. It's gone up steadily over the last couple of years.
And I guess you could see it even going further the rest of 2018 and into 2019. So I guess as a Board member, I guess how do you view that percentage? Or is it things that you need to do? I know it's more capital intensive at the bank, but is this purely just a client choice that you ride along with? Or are there things that you need to do to sort of embrace Schwab given
empathy with respect to my bold tutorial. I think our view is it starts with this is client choice. Clients are making a determination how they want to pay for various services that they receive in the brokerage world. And I don't think that it's vastly different for us than it is for any of the firms that we compete with in that space that this is how many clients have chosen they want to pay. I think what's incredibly important for us is the way that we generate that net interest revenue.
Unlike many other organizations where net interest revenue makes up say more than half of their revenue, we strive to ensure that we are not subjecting our investors to degrees of either credit risk or duration risk that many of the other firms do. And so I think when you look at our results, including our return on equity continuing to grow even as net interest income makes up a bigger share of our profits overall, we're achieving that goal. I've heard it said in many ways, there's not a whole lot of difference between revenue generated from a money market fund and revenue generated in the form of net interest income the way we do so long as we are very careful to not subject investors to undue levels of credit risk or duration risk and that is our model. So I think the Board feels very comfortable with that revenue generation, the way we do it and the fact that we're not asking investors to subject themselves to the kind of risks that I referenced.
Understood. Thank you very much.
Okay. Let's pause with the calls for a second and go to the webcast questions. One thing we've been asked about gentlemen is any sense of perspectives, reaction, etcetera with regard to an action recently announced by one of our competitors, Vanguard, in the ETF space and there is essentially no transaction fee offer there. So any reactions from us?
Yes. Well, of course, we originated the idea of ETF trading without transaction fees initially when we introduced Schwab ETFs and then expanded it with ETF OneSource. And our plan is to continue to expand ETF OneSource. It's certainly possible that we'll expand it more rapidly than we may have otherwise. But I think there a certain point with investors whether you have 1500 commission free ETFs or 900 or whatever.
I mean, there is a certain level in which enough is enough for people to choose from that are commission free. And so I if I were to project into the future, cognizant of our forward looking statements at the beginning of each one of these meetings, I'd say we're likely to expand ETF 1 Source to a measurable extent.
All right. Thank you, sir. Okay. Let's why don't we pop back to the call queue, please. Let's take our next call.
Thank you. The next question comes from the line of Dan Fannon. Your line is now open.
Thanks. Good morning. I guess, Peter, can you discuss kind of what your deposit growth has been ex the bulk transfers to give us a sense of kind of the stickiness of the bulks?
Sure. So I think if you go back on the slide that you that we showed you earlier in the presentation. If you bake out the bulk transfer, you can see the ongoing sort of balance sheet growth ex bulk transfers. We are seeing our clients engage in the markets. And so we are seeing clients moving out of cash into again fixed income, purchased money funds, CDs and the equity markets.
And that's sort of a as we bring in new there's 2 dynamics happening. We bring in new cash as part of our net new assets. Our clients make allocation decisions and the sum total of those dynamics are what we see in terms of the growth of the balance sheet that you've seen thus far this year. And again, it's a pattern we've seen before. We know that that can turn relatively quickly if you see a correction in the equity markets or you see a rapid increase in yield potentially in the fixed income markets where people start to get scared of fixed income markets.
So we can see these patterns reverse, but that's what we've seen thus far this year.
Great. And
then Real quickly, this is part of the power of our business model in that it auto corrects for different environments. So when you have an environment like what we've experienced in the last handful of years, a strong equity market and then higher interest rates over the last 3 years, what's happening is exactly what we would expect. And at the same time, as Peter said, if those reverse, it self corrects, clients tend to move more to cash and that lifts our revenue there. So, what's unfolding is, as Peter said, what we've had in the what we expect in the future and one of the very important powerful positives of our economic model.
Great. Thank you. And then just a follow-up, as you're done with as you get close in 12 months or so with the bulks, is the balance of the money
and we expect that once we're done with the sweep transfers that the majority of money that's in money funds are actually in purchase money funds. There will be some balances in sweep money funds, accounts that are ineligible for one reason or another for to be able to use a banking product. But the majority of the money that's in money funds as you've seen in that again in that presentation you see the growth of purchase money funds. We expect that will likely continue as clients use those. And that's part of the reason we reduced the pricing on those purchase money funds back in Q4 of last year is to make sure those purchase money funds are very competitively priced relative to the products that our clients might be able to use elsewhere.
Great. Thank you.
Okay. Let's keep going. Next call.
Thank you. The next question comes from the line of Brian Bedell. Your line is now
open. Great. Good afternoon, guys. Good morning. Just maybe just to dive into the client behavior on cash.
Maybe either Paul or Peter, if you could just walk us through the process of the bulk transfer in terms of if the client gets earning 22 basis points right now. Let's say they don't they're too busy to deal a bit, so it moves automatically, it sits there. Is there an outreach to that client to let them know that they're 70 basis points I'm sorry, 130 basis points down in their yield. And then I guess, the other thought is, why not maybe even tier the sweeps a little bit more than you have, you get the 1,000,000 and over, but maybe create say an NMDA sweep or something of that variety that would reward people for putting more cash on, but give them a much higher rate?
Sure. So, I'll take that one. So the in terms of the process around the sweep money funds and the transfers over to the bank. So, I get asked this question a lot, why can't you move more quickly on these transfers? And one of the real reasons why we don't move more quickly is that we want to make sure we have an opportunity to reach out to as many of these clients as possible through this process.
We want to be very transparent about this process and we want to use it as an opportunity to engage with investors about why they have that cash, what's the intention of that cash. And so we try to reach out to many as many of these clients as we possibly can through this process. We do send them a communication. That communication is very upfront in terms of what's happening and the relative yield between the different and the choices all the choices that they have, the other all choices that they have, if they don't want to be on the bank, very, very transparent about that. We reach out to them.
We use that as an opportunity to engage with them. And I was just reading yesterday a note from folks in our client facing organization about how many of these conversations are actually leading to additional opportunities to work with clients. The clients are certainly very appreciative about it and using it as an opportunity to talk more about their broader financial needs. So that happens on the retail side of our business. We have the same conversations with the advisors, the RIAs.
Of course, we don't talk to their end clients. We talk to the RIAs and have a similar conversation with them about the alternatives that we have at Schwab and when we began very transparent with them through this process. Your second question around tiering. So as I think you know, we have a tier at the $1,000,000 level. Tiering is something that we look at when we think about our pricing and we do our pricing, we do look at the competitive context.
It's a balance when we're thinking about tiering, it's a balance between trying to give higher rates to clients that have more cash. At the same time, we also don't want to have an overly complex pricing schedule. So one of our trademarks, one of our hallmarks, I should say, is around simplicity. And so it really is trying to find that right balance between those two objectives, I guess, I would say. And so we feel good about that $1,000,000 tier that we have.
And again, if the clients have more money and are looking for other alternatives, there are other alternatives out there, again, in the purchase money funds or some of these other solutions that we talked about.
That's good. Thanks so much for the answer. Is there any data on use of CDs, increasing use of CDs within the fixed income bucket that you guys report?
So, I don't have the exact numbers off the top of my head, but we are definitely seeing a resurgence of interest in CDs. As you may know, we have a CD OneSource platform. At Schwab, we don't have our own CDs. We broker those CDs through CD OneSource and allow our clients to get access to 3rd party CDs that have very competitive rates. There has been as the CD rates have increased, we are seeing definitely resurgence of interest in some of those CD products.
Great. Thanks. And then my follow-up will be just for Walt. Maybe on the industry pricing, maybe just your view, you've talked a lot about how you certainly don't want clients to make a decision to be with Schwab or not based on price. Maybe just your view of how you see trade pricing in the industry going and also ETF pricing and whether you think over the next couple of years you're likely to be more defensive in that notion in terms of keeping clients from moving to a competitor platform or rather be offensive and look at pricing initiatives to actually crank up your NNA like you did with price cut back last year?
I think that trading is largely a commodity. I think there's greater disclosure and transparency coming to trading. For example, we're now providing to our trader clients information on price improvement as part of the CONFIRM. I expect that to go broadly throughout all trades and all clients. I've publicly stated I'd like to see the industry get to a point where any payment for order flow is disclosed in real time to clients as part of every trade that they do.
But the fact that trading is largely a commodity, most commodity oriented products and services in our economy pricing tends to go down over time. And I'm not sure I can think of any reason why web, equity, option trading would be any difference in any other commodity. With respect to whether we'll be offensive or defensive, I'm going to pass on that because I'd rather not share our thinking in that level of detail with our competitors who we welcome to phone calls like this.
Great. Thanks so much.
All right. Thanks, Brian. Maybe we can spend a little more time on this client cash thing, just evolve that discussion a bit further with the questions we're getting, maybe take it off into the future. I know we've talked about this in past updates, but I'm going to adjust the question here a little bit and just pose the have we had any new insights, any new information, any new perspective really on where we think client cash levels might go longer term as we sort of work through rate normalization and things as Mr. Fowler likes to say find their level is today in fact in our minds artificially low and does it go to somewhere slightly above that proportionately etcetera over time?
So the short answer is hard to say. I can't I certainly can't predict the future. I think it depends on what happens with the markets and consumer psychology and so forth. What I can say is that in years past, the second half of the year tends to be a period of time when client cash levels historically have grown more than in the first half of the year. The first half of the year, of course, you've got tax seasonal tax payments.
And so we may see something along those lines. But we're prepared for this and we're not I guess I'd say is we are focused on what we can control and focused on our strategy and executing on our strategy. And as you said, Rich, the cash levels will go where they're going to go. Historically, they've averaged around that 12% level of the total portfolio. Whether that's the level going in the future, I can't really say at this point.
We know that again if the markets have a correction that those cash levels will likely build again and create a little bit of that internal hedge that hedge that Walt talked about.
All right. Thank you. Okay, let's go back to the calls. Let's see how many more we can get through here before the top of the hour.
Thank you. The next question comes from the line of Bill Katz. Your line is now open.
Okay. Thank you very much for taking the question. I'd like to spend a minute on the asset management business for a moment if we could. Walt, how do you sort of see the interplay between the very strong growth that you're experiencing in AUM versus the yield that you're generating off of those assets that the yield has been trending lower over time? How do you sort of see that as you look out over the next 12 to 24 months?
Bill, I couldn't quite understand the first part of when you identified. Are you referring to the advisor business?
Just stepping back. I apologize if it's not clear. I'm just stepping back and looking at the asset management business in total. So as I think about the AUM business?
No, no, I got. Thanks Bill. I didn't understand what you were referring in terms of decline in revenue per dollar. So it's just mix shift that is going on. If you are referring into the proprietary side or you're referring into asset management overall?
Well, I
was looking overall, just the management piece of AUM.
So you have client driven mix shift. And because of the way we aggregate and report as clients move more to passive oriented products, passive ETFs, you're just seeing the natural implications of client preference. And of course, in our model, want to be there for whatever client preference happens to be and serve them in that manner. And the result of that washing all the way through shows a decline in revenue per dollar of client assets in that particular line.
Okay. And then just a follow-up maybe for Peter. Just listening to the timeline of the sort of sweep and then sort of the discussion on capital management, if the larger industry opportunity to consolidate on the broker side were to avail itself into second half of this year, Is that something you pass on because you want to get through the sweep and then have the conversation with the Board into the New Year? Or would that alter that plan a little bit and reallocate the timeline?
Well, sorry, I'm laughing a little bit, Bill. So, I mean, of course, we're going to if we have to look at from an M and A standpoint, we tend to we look at a lot of deals. If something presents itself, we'll certainly you certainly would be reasonable to expect that we would take a look and that would be become something that would I wouldn't say that our sweep transition strategy and executing the last few months would impact the thinking around that. It would be impacted by a lot of other more significant longer term factors and considerations.
Okay. Thank you.
Okay. Let's go to next call.
Thank you. The next question comes from the line of Chris Harris. Your line is now open.
Thanks. So question is on deposit beta. We know your view is really that the betas will be in line with the historical experience assuming rates keep going up. And obviously, that's been the case so far, but so much has changed since the last rate cycle. As you guys have pointed out, investors are more focused on price than they've ever been.
They're more focused on investment returns than they've ever been. So I guess I'm wondering why wouldn't that focus apply to the returns that customers are getting on their cash balances?
Yes. It's a great question and it's one that we get quite often. And so just to recap, our view on deposit betas are that they'll continue to be low and somewhat lumpy. In our last with the last Fed increase, our betas were in the 20s, which is consistent with our expectations. We do think that over time those betas will edge up as interest rates increase.
But the reason that we feel confident about our deposit betas and our view on deposit betas is the way that we essentially allow our clients to self select into the different products. In other words, if our clients are rate sensitive, we have products, money funds, purchase money funds, CDs and so forth that essentially have 100 percent beta to interest rates. And if the clients are rate sensitive, they can use those products. For the clients that are not rate sensitive, we they're on their cash is on the balance sheet. And so we can have essentially a lower deposit beta on that less rate sensitive cash.
All in, if you look at the beta that our clients' cash may have access to and you mush all that stuff together, maybe it's in the 50s or something like that. I don't know. I haven't done that calculation or even potentially even higher. But if we've essentially allowed the clients to self select, that is the point. And you're absolutely right.
There is somewhat more transparency out there. But again, we have those products and so that we'll cater to those clients that are more yield sensitive. And so therefore, the less yield sensitive cash is what is sitting on our balance sheet.
Peter, I that's exactly correct. I just think this is so often missed in this discussion around deposit betas that there's comparisons going on between companies that have virtually all their client deposits on the balance sheet to us. And it's simply an erroneous comparison because as Peter said, everything in a money market fund is running at virtually 100% beta. And when you add it all together, the betas are very, very competitive. It's just that all we're dealing with on the balance sheet because of our aggressive efforts to ensure clients move yield sensitive cash off the balance sheet.
All we're dealing with for the most part what's left is yield insensitive balances.
Got it. Thank you.
And I'll just chime in too. Just to be fair to poor bank sweep, I mean the rate we pay on bank sweep is by design an attractive rate relative to the alternatives for that type of literally that type of balance. Is that fair to say?
Yes, you certainly can. I mean if you think about the Schwab brokerage account, it's a brokerage account that offers check writing and it's full certainly all the features that you would get at a competitor's checking account. But if you look at the rate that clients are getting on in Bank Sweep, it is significantly better than what competitors are paying on their checking accounts, which still are paying 0, 1, 2 basis points. I think you've seen the largest national banks are actually having higher deposit growth than some of the regional banks despite that relatively lower pricing on their checking accounts and because their clients value some of the other services that they offer and the same we believe the same thing is
true here. Okay. Thanks. Let's move on. Next call.
Thank you. The next question comes from the line of Mike Carrier. You may now ask your question.
All right. Thanks guys. Maybe the first one, Peter, you got a few questions
guess, I want to just guess I
want to just switch it around like it seems like you guys drive down costs fairly well and you show that over time. It seems like you've been making investments on the infrastructure side like automation. So when we think about if you do see some slowdown in the revenue growth pace, like what are you doing on maybe the efficiency or the cost side that could help maybe the expense growth or drive the efficiency improvement over the next few years?
Mike, thanks for the question. That expense on client assets that what we call EOKA, it's not a very great sounding acronym, expense on client assets, 16 basis points in this last quarter. That is a really, really important metric. It's a metric that we look at on a regular basis. We see that as a very, very important competitive advantage for us is the efficiency with which we operate this company and that does allow us to respond to what's happening in the industry and to make investments.
And there's a lot that we're doing on an ongoing basis to make sure that we continue to drive that down. Now part of the way you drive that down of course is the A side of the equation, you grow. And so you're able to spread the fixed cost over a larger client base. And we've been very successful in doing that over the last several years. But part of the way you made that grow, of course, is making investments that will pay dividends in terms of lower costs.
So a couple I would point to there are 2 things we talked about in our Winners Business update. The application modernization effort, which is this multi year effort to really modernize our technology, which will create a more scalable technology foundation on which we can grow. And the second is the digital transformation that we're doing. A lot of digital we talk a lot about digital in terms of what it's going to do to the client experience. And I think that's really, really important particularly for attracting the more digitally savvy consumers and investors.
But there's a big part of that as well, which is around removing friction in the system. There's a large number of calls that we get into our phone centers are clients checking a status on a wire transfer or a check that they requested or clients resetting their password. And if we can move transition those calls online that's better for the client, but that's also calls that we don't necessarily have to take. We can use that time in other ways or that's the kind of thing that can allow us to drive down that EOCA over time. So something we're very, very focused on continuing to do.
All right.
And then just a quick follow-up. Just on the competitive front, it seems like some of the platforms that are newer in the industry like Robinhood have gained more, I don't know either attention and accounts. But on a lot of the sort of the industry, if we look at like millennials and those that have assets, it does seem like they're using a decent amount of advice. So just wanted to get any perspective that you guys have. When you look at that client segment, do you still see sort of the interactions and the use?
Because it does seem like we're seeing that, but just wanted to get your perspective on that.
Yes. So I we definitely know that the millennials who come to Schwab are very interested in advice. We know that they like programs like intelligent portfolios, both the version that they can do it entirely on their own as well as the version that they can work with a certified financial planner. I think what's critical about this whole different than in years past, Schwab, where we wanted to add baby boomers or we wanted to add Gen X because this is a never ending conversation. But you also want to add those who have money or are likely to have money in the future.
And so when we report things like account metrics, we focus on funded accounts. We're very transparent around our account metrics. When we report information to you about millennials, we give you information that shows you it's not just any millennial, it's millennials who are more affluent or likely to be more affluent. And this is just critical for our long term growth. I've shared this story many times in the past, but when you look back at a strategy document for Schwab from 30 or 35 years ago, the number one challenge facing the firm was how we ever going to grow if we can't figure out how to win baby boomers.
It's just the nature of the beast. You're always pursuing future generations and ensuring that your offering and we believe our no trade offs offering is highly appealing to that next upcoming generation.
All right. Thanks a lot.
All right.
Thanks, Mike. We have one more call we're going to squeeze in and then we'll call it a day. So let's take that last call. Thank you.
Thank you. The last question comes from the line of Michael Cyprys. Your line is now open.
Hi, good morning. Thanks for squeezing
in the question. Just coming back to the point on M and A, you've mentioned in the past that it's something that you'd consider. So just curious how you're thinking about M and A here, where it can make sense for Schwab, there is a consolidation or expanding your verticals or new technology capabilities, how you're thinking about that? How would you approach it versus say partnerships, say, on the technology side? And what criteria do you have?
I think our view on M and A is clients. Does that mean that we are not open minded to transactions that would be primarily scale and efficiency plays? No, of course, we're going to look very carefully at every opportunity that comes our way. But again, our first criteria is what does this do for clients. Our organic growth rate provides us that flexibility and helps ensure that we think about clients first.
With respect to technology partnerships, things of that nature, again, we have many of those in terms of the way we run the company. What is very important though is anyone that we partner with has to be developed sufficiently that it's acceptable from a regulatory standpoint and not everyone who's involved in technology is appropriate for the level of regulatory scrutiny that an organization our size that works with Federal Reserve is subject to.
Great. Thank you.
All right. Thanks. Well, at this point, I think we're ready to close. And I'm going to turn it to Peter to finish us off here.
All right.
Well, thank you, Rich. And thanks to all of you who've dialed in, called in and tuned in on the webcast. We've had a lot of conversations and talked about a lot of numbers and aspects of what our clients are doing. But hopefully the story that comes through, the you take away from this is that this is a company that is absolutely thriving. It has never performed better and never been in a better competitive position.
And our priority going forward is to continue to do right by clients and trust that when we do right by clients they reward us with more of their business And that's what allows us to grow our revenue. And by continuing to be disciplined, we're able to translate that revenue growth into healthy robust returns for all of our stockholders. That's our what we've been doing. That's what's made us successful. That's what we'll continue to make us successful in the years ahead.
Hope you guys all have a great summer. We'll look forward to talking with you again in October. Thank you.
Thank you. That concludes today's conference. Thank you for participating. You may now disconnect.