Charles Schwab (NYSE:SCHW) is expected to announce earnings for the fourth quarter of 2012 this week. The online broker was able to maintain revenue growth through the first three quarters of the year despite a slump in trading activity. At the end of the third quarter, revenue generating daily average trades or DARTs were down 19%, compared to the prior year. However, the company saw some signs of recovery in September as DARTs increased by 17% over August. This recovery continued through the following months with November trading activity at the same level as that observed in 2011. We expect a stronger earnings report in the third quarter fueled by an increase in trading activity and consolidation of client assets.
Our current price estimate for Schwab is $15, in-line with the market price.
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Asset Management And Interest Income
Trading commissions account for about 20% of Chuck’s revenues. Asset management fees charged from clients who invest in the company’s proprietary funds, Schwab Fund and Laudus Fund and interest income from its investments account for 40% of the revenues each.
Client assets are quite important for Schwab. The company was able to attract assets at a healthy rate for most of 2012, and at the end of November, the total client assets were $1.92 trillion, up 15% from the same month in 2011. The company reported an inflow of $11.7 billion in November, the highest increase in core assets in a single month since January, 2009. We expect Charles Schwab to maintain the momentum it has gained and continue to attract client assets at a healthy rate in the coming years.
Schwab reported a 25% year-on-year increase in deposits from banking clients at the end of the third quarter, leading to a 10% increase in interest earning assets. Although the company has been able to consolidate assets, its yield on these assets has been affected by the Feds policy to keep low interest rates. The total yield on interest earning assets dropped from 2% at the end of September 2011 to 1.74% at the end of the same period in 2012. To mitigate the effect of 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. The average interest paid on deposits from banking clients declined from 0.12% to 0.07% at the end of the September quarter.
We expect yields to remain low in the next few years as the Fed has suggested that interest rates will remain low to help drive employment growth in the U.S.