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In Q3 2020, Charles Schwab reported Total Net Revenues of $2.45 billion – 10% lower than the year-ago period, mainly driven by a 18% drop in net interest revenue. Notably, asset management and administration fees recorded a 4% y-o-y growth in the quarter.
Charles Schwab’s stock has suffered due to a drop in asset valuations driven by net market losses. While the company has witnessed a spike in daily average trades since February (which implies higher trading activity in the stock market), the elimination of trading commissions late last year means that Schwab’s revenues aren’t going to benefit directly from this. Further, the brokerage giant generated around 91% of its revenues in 2019 from asset management fees and interest on deposits, loans & securities, which would be negatively impacted due to lower asset valuations. While the company’s results for Q1, Q2 and Q3 were on similar lines, we believe that Q4 will further confirm this reality with a drop in revenues across all the segments.
Note: - Charles Schwab completed the acquisition of TD Ameritrade in the staring of October 2020, creating a company with approx. $6 trillion in client assets across 28 million brokerage accounts.
Below are key drivers of Schwab’s value that present opportunities for upside or downside to the current Trefis price estimate:
Charles Schwab is an online brokerage firm that allows clients to buy and trade equities, options, and other securities in the market. Charles Schwab also offers money management services to its clients. Schwab charges clients a certain percentage of assets invested as a fee. Clients can invest money in Charles Schwab Proprietary Funds, Schwab Fund, and Laudus Fund or use Charles Schwab OneSource Mutual Fund Services to invest in a select list of third-party mutual funds.
While revenues from trading commissions have continued to decrease over the years, interest income on deposits, loans & securities has increased since 2010, on the back of substantially higher interest-earning assets and improved interest rates.
We expect that net interest income will continue its solid growth over the Trefis forecast period on the back of continued growth in interest-earning assets and interest rates hikes in the future.
Charles Schwab earns interest on client assets awaiting investment by placing those assets into money market instruments. Schwab’s investments are funded by brokerage and banking clients, and Charles Schwab, in return, pays interest to the clients. The net amount is the net interest revenue for Schwab.
In 2017, Charles Schwab earned about a 1.97% net interest yield on nearly $218 billion of client assets. In 2018, the company earned about 2.31% net interest yield on nearly $252 billion of client assets. We expect Schwab’s net interest yield to increase to nearly 3.8% over our forecast period as macroeconomic conditions lead to a broader increase in interest rates.
Asset and investment management are becoming of growing part of the brokerage. However, competition in asset management is also growing due to the prevalence of low-cost ETFs that serve as an alternative to managed investment funds and digital advisory. While Schwab is a leader in the ETF space, it has gotten increasingly competitive.
Clients can invest money in Charles Schwab’s proprietary funds, Schwab Fund and Laudus Fund, or use Charles Schwab OneSource Mutual Fund Services to invest in a select list of third party mutual funds. Schwab earns a management fee for these services.
Schwab manages close to $820 billion in proprietary and mutual fund assets. Although Schwab’s assets under management are much higher than the client assets on which it earns a net interest spread, Schwab earns a fee of only 0.26% of managed assets, which is low compared to the yield the company has traditionally earned on client assets. As a result of this difference, net interest on deposits, loans, and securities is a more valuable business for Schwab than mutual fund & investment fees.
With over 11.6 million brokerage accounts, Schwab is one of the leading online brokerage firms. Schwab’s revenue per trade has been declining in recent years and stood at about $7.13 per trade in Q4 2018. In 2018, Revenue per trade stood at $7.23 (vs. $8.20 in 2017). With stiff competition in the market and a lot of brokerage firms offering free trading, we forecast the commissions to decline in the near term.