Charles Schwab & Co. recently hosted a "2022 Summer Business Update," which discussed the brokerage company's latest quarter and mentioned cash and money markets in a number of places. (See Crane Data's July 25 Link of the Day, "Schwab Earnings Driven by Rates.) CFO Peter Crawford comments, "Our performance was obviously helped by higher interest rates across the curve, which boosted our net interest margin and BDA [bank deposit account] yield and eliminated money fund fee waivers by the end of the quarter. [F]alling equity markets weighed on asset management fees and the ensuing decline in investor sentiment ... resulted in trading activity and margin utilization that were lower than the first quarter, but still at historically high levels."

He tells us, "Despite the crosscurrents, our performance broke multiple records. Revenue increased 13% year over year and 9% sequentially, driven by a 31% increase in net interest revenue, reflecting a 16-basis point year over year increase in our net interest margin, up 24 basis points from the first quarter and interest earning assets that largely were in line with expectations. Asset management and administrative fees [were flat], as the elimination of money fund fee waivers and organic inflows offset the impact of the market decline."

The Schwab CFO also says, "That [performance] reflects continued expansion of margins at just over 2% by Q4, deposit betas that we expect to continue to run a bit lower than the last rising rate cycle and a continuation of clients moving some of their investing cash off our balance sheet in search of higher yield. But remember, when they do that, it frees up capital that we can return to our stockholders. We continue to thoughtfully and responsibly manage our expenses, navigating this inflationary environment, driving efficiency throughout our business, and prioritizing our investments."

Responding to a question on "cash sorting" (investors migrating from lower-paying bank deposits to money market funds), Crawford says, "So I would say in aggregate, the dynamics around cash sorting in the second quarter were very consistent with our overall expectations. I know there's going to be a lot of questions about sorting, so in an attempt maybe to anticipate or perhaps preempt them, it might be helpful just to share a few high-level thoughts around sorting. I want to reiterate that our expectation is that the level of sorting won't be higher than the last rising rate cycle, and it actually could be somewhat lower, given the fact that we're not going through the whole transfer process that we were doing in the last rising rate cycle."

He tells the webinar, "We have had an influx of smaller accounts who tend to do less sorting. And we also have a client base that is much more actively trading than they were previously. We know that when clients are trading, they tend to keep more transactional cash. Second, ... we know from history that eventually cash, both total cash and on balance sheet cash, will find its level, after which point it will grow with the growth in accounts and will grow with the growth of total client assets."

Crawford comments, "Third, and this is really important, the cash is staying at Schwab. We've done a lot to create a great array of cash solutions, and we've done a lot, and continue to do a lot, to make our clients aware of those solutions, to make sure they're making smart decisions with regarding their cash. We want our clients to be happy and we want that cash to stay at Schwab, and we're certainly seeing that happen."

He adds, "Fourth, I think, you know, when you look at sorting and isolation, you're only really looking at one part of the equation. What I mean by that is that the rate increases that give rise to the sorting also help us earn more on the interest assets that remain here, the cash remains here, driving NIR higher despite lower interest earning assets. So, in the scenario that we shared, if you do the math, as an example, you'll see that we'd expect to generate roughly $500 million more in net interest revenue in the fourth quarter than we did in the second quarter, despite allowing for some continuation of the client cash sorting. And the last point I would make, the fifth point I would make, is to the extent the cash balances decrease, it frees up capital enabling us to buy back stock and drive EPS growth one way or the other."

A questioner from UBS asks, "Previously on the Spring Update, you had indicated that of roughly 20% decline in sweep cash would be the expectation based upon the experience last cycle. When we look at the pie chart that shows the cash breakdown, I would assume that that 20% would apply to really just the universe that doesn't include obviously sweep money fund, BDA has a different profile as you said, and more active oriented and checking and savings. Is that the base that we should be thinking about when applying that 20%?"

Crawford responds, "Thanks for the question. So just to clarify, I think what we said in the spring business update that we didn't expect it to be higher than that level. I mentioned that it could conceivably be lower than that. But you're right that when you think about the pool that we're talking about here, it is really that that bank sweep and perhaps to a lesser extent the free credit balances. So, it definitely is not on the total pool of cash. You're actually right about that rate."

Finally, when asked about the investment portfolio, he responds, "It's definitely one of the things that we look to actively manage. You know, our overall portfolio duration now is down to about a little over 4.0, probably more like 3.5-ish when you consider the cash we're holding more cash. So we are definitely maintaining a much more liquid portfolio today, targeting new investments to be very short. Now that gives us a lot of asset sensitivity, but also gives us a lot of liquidity to be able to support a wide range of possible outcomes around this client activity."

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