Periodically, our Chief Financial Officer will use this forum to provide insight and commentary regarding Schwab's financial picture. For any questions, please contact Investor Relations via email or call:
Richard G. Fowler, Senior Vice President: (415) 667-1841
The commentary in this section speaks only as of the date specified below. The company makes no commitment to update any of this information.
February 14, 2018
In our January SMART report released today, we noted a $7.2 billion outflow from a mutual fund clearing services (“clearing”) client. Since we expect several additional large clearing outflows in early 2018, I wanted to share some context on the business and discuss the potential effect on our reported client asset flows (noticeable) and revenues (immaterial).
Our clearing business leverages the mutual fund processing capabilities that we make available to our individual investor and RIA clients so that banks, brokerage firms, and trust companies can offer a mutual fund lineup to their own retail and institutional clients. We provide settlement, custody, recordkeeping, and trading services for $265.4 billion in clearing assets under management, as of December 2017, generating revenue per asset dollar (“ROCA”) in the low single-digit basis point range. Since 1997, our scale has allowed us to create a valued clearing offering that is low-cost to our clients and profitable for Schwab.
Typically, when clearing clients come onto or leave Schwab’s platform, they are moving an existing “supermarket” of mutual funds representing a sizeable amount of their clients’ assets, so their flows can be somewhat “chunky.” To provide some clarity into this, each month, we footnote reported net new assets for any single flow from a clearing client of $5 billion or more; we also calculate our core net new assets (“core NNA”) to exclude flows of at least $10 billion from any one clearing client (which can occur all at once or over a period of time). Core NNA also omits any extraordinary flows from clients in other businesses, as well as assets gained or lost through M&A activity. Our purpose in sharing both total and core NNA is to help you understand the key drivers of growth in our overall client asset base, as well as develop a feel for the underlying “run rate” of our ongoing asset gathering efforts.
The $7.2 billion clearing outflow in January was the first of several transfers scheduled for that client. Over the course of the next few months, we expect additional outflows from a couple of other clients as well, which, in combination with the January outflow, could reach approximately $100 billion. Based on our methodology, all of these outflows would be excluded from core NNA and footnoted accordingly. As I mentioned, clearing is a low-ROCA endeavor for us, so the revenue impact is minimal; that impact is baked into the baseline financial scenario we discussed at our Winter Business Update last week.
While flows of this magnitude are unusual, they are not unprecedented. If you look across our NNA over time in the chart below, you can see that in 2013, we had $99 billion excluded from core NNA, of which the majority was due to large clearing outflows.
Finally, with all of this talk about outflows, I should close by noting that our overall January results demonstrated strong client engagement and momentum, with 165,000 new accounts, the highest month since 2000, and record daily average revenue trades up nearly 50% from last January. Our core NNA rose 68% from a year ago to $18.7 billion and represents the largest January in our company’s history. As Walt and I mentioned at the Update last week, our goal for 2018 and beyond is to sustain the growth we’ve achieved and lay the foundation for ongoing success in expanding our client base. With one month under our belts, we are off to a promising start.
This commentary contains forward-looking statements relating to the company’s expected mutual fund clearing outflows and their impact on client asset flows and revenues; sustaining growth; and expanding the company’s client base. Achievement of these expectations and objectives is subject to risks and uncertainties that could cause actual results to differ materially from the expressed expectations.
Important factors that may cause such differences include, but are not limited to, competitive pressures on pricing; general market conditions, including the level of interest rates, equity valuations and trading activity; and the company’s ability to develop, launch and implement new products, services, infrastructure and capabilities in a timely and successful manner.
Today, President Trump signed significant tax reform legislation into law and I wanted to spend a moment focusing on the potential impacts to Schwab’s effective tax rate. As you may know, we have historically paid close to the full statutory federal corporate income tax rate, so the benefits are likely to be significant – though the new law does include the disallowance of some Schwab-relevant deductions.
Today we announced another reduction in our online equity, ETF, and option trade commission rates, following moves we announced just a few weeks ago on February 2nd. With this second action coming right on the heels of the first, I thought it might be useful to share some context regarding how they both fit within our financial planning for 2017.
Those of you who follow The Charles Schwab Corporation closely may receive our quarterly financial results through a wire service/email, a market data aggregator, or simply by checking our corporate website. This morning, we began making our results available via another widely-used platform: Twitter. You can find our page on www.Twitter.com with the handle @CharlesSchwab. Today’s activity includes a Tweet noting the availability of fourth quarter 2015 results with a link to our press release, and follow-ups sharing the headlines from this morning’s announcement.
Today we released our November Monthly Activity Report. While we produced another month of solid client metrics, we have no illusions about another press release stealing the show later this week. As you know, the Federal Reserve is widely anticipated to begin raising interest rates on December 16th. We have seen economic and employment reports meet expectations, FOMC minutes evolve, and member speeches show increasing conviction.
We issued our SMART report for the month of August today, and between the client metrics shown there and the trading data that we’ve already posted it’s clear we’ve been busy. With the elevated market volatility late in the month, our clients made extensive use of our branches, phone-based service centers and online capabilities to help keep their investing on track. Many of them engaged with our financial consultants and subject matter experts to ask questions about how their assets enrolled in our advisory solutions are positioned, as well as assess their holdings and determine what, if any, action should be taken.
By now, you may have noticed that we recently made a few changes to our disclosures, and I’d like to make sure everyone is aware of these developments as well as provide context for how they help tell our story. As a large savings and loan holding company, our required reporting has expanded significantly in recent years. In addition, as Schwab evolves, we revisit our reporting and strive to keep it closely aligned with the everyday workings of the business. In the second quarter of 2015, we added a new Other Regulatory Disclosures tab to our corporate website, made changes to the Asset Management and Administration Fees (AMAF) table in our earnings release package, and included some new information in our 10-Q filing.
As we announced in our earnings release today, our Q4 ’14 financial results included two nonrecurring items related to the company’s non-agency residential mortgage-backed securities (RMBS) portfolio: net litigation proceeds of approximately $28 million and net losses of $8 million from selling securities totaling approximately $500 million. Taken together, these items increased pre-tax income by approximately $20 million, or $.01 per share. With the financial crisis well behind us, it’s been a while since we’ve needed to discuss these securities, so I wanted to walk through some history and share a perspective on these recent developments.
Concurrent with our Earnings Release today, we are inaugurating a new approach to reporting on our clients’ trading activity intra-quarter. We have retired the inclusion of trade reporting in our Monthly Market Activity Report (“SMART”) and are now providing a weekly look at trading activity, including revenue, asset-based and other trades, which is posted on the Investor Relations landing page on aboutschwab.com. Here’s a link to our initial report: http://www.aboutschwab.com/investor-relations.
As you look through today’s earnings release, you might notice that the size of our balance sheet (shown in the Financial and Operating Highlights table on page 5) hasn’t changed much since year-end 2013, continuing to hover around $144 billion. That’s unusual for us – for example, the company’s balance sheet grew by approximately $8 billion during the second half of 2013. Given the factors influencing this situation, I wanted to share some perspective on current client behavior and ramifications for our capital management going forward.
As I mentioned in my last post, here are a few more thoughts on the evolution of client behavior during the market recovery, which is now a full five years along: With the S&P 500 up over 170% from its lowest point in the first quarter of 2009 and setting new records, it’s not really surprising to see investors put cash back to work in the markets. There are, however, some interesting aspects to the way our clients have reallocated their holdings across products and asset classes during the recovery thus far.
The S&P 500 Index bottomed at 676.53 on March 9, 2009, so we are now a full five years into the market recovery. As the recovery has strengthened in recent months, we have been asked more often about individual investor engagement, with the questioner usually equating engagement with trading activity.
This is my inaugural CFO Commentary. I expect to use this site regularly to provide perspectives on Schwab's financial picture, including color on our performance and details on topical issues. Over time, I can see sharing more significant financial information that might be better discussed in a forum like this, versus press releases or other forms of communication.
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