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Although large brokerage firms like Charles Schwab (NYSE:SCHW) and E*Trade (NASDAQ:ETFC) have in-house banking operations that are used to earn net interest revenue on client cash in brokerage accounts, TD Ameritrade (NYSE:AMTD) is a little different in this regard due to its unique relationship with TD Bank. Not only does TD Bank own 45% of the firm, it also provides banking services to its clients under an Insured Deposit Account (IDA) agreement. This agreement allows Ameritrade to sweep client cash to money market insured deposit accounts at TD Bank, and make money on idle client cash, much like a bank, without having to comply with the regulatory capital requirements that banks are usually subject to.
No doubt, Ameritrade places high value on this agreement and continues to sweep an ever increasing quantity of client cash into IDAs at TD Bank. At the end of 2012, the company had $68 billion of client cash in these accounts and the income from this source accounted for over 30% of the firm’s total revenue. According to our estimates, the average balance in these accounts for 2012 was around $61 billion, up almost 17% from the previous year.
We believe that while interest rates will continue to remain low and put downward pressure on Ameritrade’s interest income, its money market balances are likely to continue growing at a healthy pace and offset the impact from low interest rates to some extent.
Why Will TD’s Money Market Balances Continue To Grow?
Ameritrade’s IDA balances directly depend on the amount of cash its clients have in their brokerage accounts. This cash continues to increase as retail investors across the country have become more risk averse and have increased their portfolio allocations to cash due to the continued uncertainty in the financial markets. According to a recent asset allocation survey conducted by the American Association of Individual Investors (AIII), small investors’ cash allocations reached a 16-month high in March, as clients pulled out money from both equities and bonds amidst an uncertain macroeconomic environment. 
The same is true for wealthy investors. According to a recent survey of wealthy investors conducted by the U.S. Trust while 56% of such investors have a “substantial” amount of cash, only 16% of them plan to invest this cash over the next couple of months. Their expectations for the next few years also seem low as only 40% responded affirmatively when asked if they would invest their cash over the next two years. 
We believe that this trend is likely to continue in the future. Currently, both stock and bond markets are near their all-time high levels (See related articles: 1 and 2) and are being fuelled mostly by the stimulus being provided by the central banks across the globe. Resultantly, investing is increasingly becoming a bet on the central bank’s stance on monetary easing. Such speculation causes greater uncertainty in the markets and is detrimental to the confidence of retail investors. When investors are unsure about the stability of the markets they tend to “sit out the storm” and remain heavily allocated to cash.Notes:
- Small Investors Reach for Cash in Uncertain Environment, Pragmatic Capitalism, April 1, 2013 [↩]
- Why millionaire investors are holding cash, USA Today, May 27, 2013 [↩]