Charles Schwab Earnings Preview: Growing Asset Base To Offset Dip In Trading Volumes

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Charles Schwab

Charles Schwab (NYSE:SCHW) is expected to announce its second quarter earnings on July 16. In the first quarter, Schwab reported a 15% year-on-year (y-o-y) increase in revenues, which was driven by growth in all three of its revenue streams – net interest revenues (+18%), asset management and administration fees (+11%) and trading revenues (+11%). As a result of the revenue growth, the company saw a a 58% jump in its net income, as most of its costs are fixed in nature.

The company has kept up a similar trend in the current quarter, with the exception of a slight decline in trading activity in May. The company has continued to add more brokerage accounts and its client assets under management have consistently grown in the last few months. The company came under some scrutiny during the quarter when, according to press reports, it and Bank of America-Merrill Lynch (NYSE:BAC) were under investigation by U.S. regulatory authorities for possible money laundering violations that involved inadequately confirming customers’ identities. We discussed this on this site in late May.

We have $26 price estimate for the company’s stock, which is in line with the current market price.

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See our full analysis for Charles Schwab

Asset Management Fees, Interest Yield To Continue Growth

Charles Schwab has successfully attracted new client accounts at a rapid pace in the last few years, leading to a higher asset base. The company’s total interest earning deposits, loans and securities have increased at a CAGR of 18% over the last three years. The trend continued in the first quarter as well, with interest-earning assets growing by 5% sequentially and almost 9% y-o-y to $137 billion. We forecast the total-interest earnings assets to increase by over 10% to $147 billion by the end of the year.

The company’s net interest yield on deposits, securities and loans has declined steadily from 4.6% in 2007 to about 1.5% in 2013. The decline in the last few years can be attributed to Fed policies such as the QE program. However, the yield on these assets increased for the first time since 2008 in the first quarter. Going forward, we expect the yield to increase in 2014 and 2015 due to the tapering initiatives by the Fed.

Schwab’s yield on total client assets under management has declined from 0.21% in 2008 to 0.10% in 2013. These revenues include the fees that the brokerage charges for its proprietary and third-party mutual fund offerings and advisory solutions such as equity and bond funds, money market funds and mutual funds. The trend reversed in Q1 2014 as the yield rate grew by almost 2%. We expect the yield to grow at a similar pace through the rest of 2014 and more significantly in the long term. Moreover, Schwab’s client assets under management have grown by over 15% in each of the previous two years. Continuing the trend, the company’s total client assets have grown sequentially by 1.5-2% in every month since the beginning of the year. With a 15% rise in total client assets and nearly flat yield over the prior year period, we expect the company to post another double-digit revenue increase over the prior year period.

Trading Volumes Decline But Schwab Continues To Attract Customers

Schwab’s trading commissions business picked up in the first quarter after a slump in recent years. The company reported a more than 10% y-o-y increase in daily average trades during the first quarter. Although the company continued its momentum in the month of April, with a 13% increase in trade volumes over April 2013, trading volumes declined in the month of May. In its most recent monthly volumes report, Schwab reported a 17% sequential and 12% annual decline in trading volumes – a trend which is expected to continue for June as well. [1]

Despite the decline in average volumes in the latter half of the June quarter, the company has maintained strong growth in new brokerage accounts. The company ended 2013 at just over 9 million brokerage accounts. This figure has steadily increased to 9.23 million active brokerage accounts at the end of May. As more clients open new accounts, the total trading volume on Schwab’s platform is likely to increase, even though the average number of trades executed by a typical client could remain subdued. We expect the company to continue to add brokerage accounts at a similar rate, while we expect the revenue per trade to remain at just over $12 for the full year.

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Notes:
  1. Charles Schwab Monthly Volumes Report, Charles Schwab Investor Relations, June 2014 []