Keeping in line with our expectations in its earnings for the fourth quarter of 2012, released Wednesday, January 16, brokerage and banker Charles Schwab (NYSE:SCHW), reported a 9% increase in revenues and 29% net income increase year-on-year. Also, trading activity continued to improve after a lull period during the first nine months. The daily average trades for December were up 11% from November and also up 10% from the figure for December 2011.
Our current price estimate for Schwab is $15, in line with the market price.
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Interest Earning Assets Continue To Increase
Schwab earns about 40% of its revenues through interest earning assets. Banking clients and brokerage are the main funding sources for the company, with deposits accounting for 60% of the company’s net assets. Deposits from banking clients increased by 40% in 2012.
Schwab’s investment strategy is designed to produce higher interest income as interest rates rise. With the Fed maintaining low interest rates, the company has been forced to extend the maturities of assets in its portfolio and lower rates paid to clients from whom it borrows. As a result of the low interest rate environment, Schwab’s yield on total interest earning assets for the fourth quarter dropped from 1.73% in 2011 to 1.61% in 2012. The yield for the fiscal year was 1.76%, down from 1.99% in 2011. We expect yields to remain low in the next few years as the Fed has stated that interest rates will be kept low until unemployment figures improve. Please read our article: Reviewing Charles Schwab’s Business, Part 1: Interest Income for a detailed analysis of Chuck’s interest income.
Low interest rates have also had an impact on Schwab’s asset management business as the company has been forced to waive fees charged to clients to allow them to realize positive returns from their investments. Schwab waived $587 million through the fiscal year, of which $142 million were waived in the fourth quarter. This strategy paid off, as the total client assets at the end of December were up 16% from the balance at the end of 2011. The amount of fee waivers actually declined from the prior year, as the company waived $168 million in the fourth quarter of 2011. This, coupled with an advantageous product mix and increased revenue from Advice Solutions, led to an 18% year-on-year increase in income from asset management fees in the fourth quarter and a 6% increase for the fiscal year. We believe that the company’s client assets will grow in the coming years as the company has established its brand image in the U.S. market and will be helped by improving economic conditions.