Charles Schwab complains of Fed's manipulation of markets


Schwab Reflects on Firm's History

By Kathleen Pender
San Francisco Chronicle
Monday, May 13, 2013

To commemorate its 40th anniversary last month, Charles Schwab Corp. created an interactive exhibit that is traveling to its major employment centers, including San Francisco, its headquarters and home to 2,300 of its 14,000 workers.

The exhibit features new and archival videos from executives past and present discussing key products and turning points in the company's history. They include the late Hugo Quackenbush, Schwab's colorful spokesman from the early days; David Pottruck, the outspoken former CEO who was ousted in 2004; and John Coghlan, a former vice chairman who helped build Schwab's powerful network of independent investment advisers.

There are also artifacts, such as founder Charles "Chuck" Schwab's trademark aviator glasses from the 1980s.

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It's a shame that the exhibit -- which has moved on to Phoenix, Schwab's largest location with about 3,200 employees -- was not open to the public. It shows how much Schwab and the brokerage industry have changed since April 1973. That's when the firm, originally a full-service broker named First Commander, changed its name to Charles Schwab and began preparing for the deregulation of stock trading commissions on May 1, 1975.

When Schwab opened its first branch in Sacramento later that year, a full-service broker might charge customers $250 to buy 200 shares of a large company at $50 each. Schwab, the first discount broker, would charge about half that, or $125.

Today, Schwab charges a flat $8.95 for online stock trades and no fees for certain exchange-traded funds.

... Schwab today

Schwab's drive to cut costs and its proximity to Silicon Valley has made it a leader in technology. It pioneered investing by phone, computer and Internet. In 2000, it introduced PocketBroker, a wireless trading device that predated modern smartphones. Not everything was a success. Financial Independence, a financial planning program that came on 11 floppy disks, quickly flopped.

No museum piece shows how much Schwab has changed better than its income statement.

Trading commissions, once its only source of revenue, made up only 17 percent last year.

About 42 percent of its revenue came from asset management and administration fees. This includes fees it earns on Schwab-managed mutual funds and on other companies' funds sold, without a commission, through its OneSource platform.

It also includes fees it collects from independent advisers who hold customer accounts at Schwab, and from 401(k) and other retirement plans it administers.

... Waiving fees

About 36 percent of its revenue came from net interest. This is mainly the difference between what its Charles Schwab Bank subsidiary pays depositors and what it earns when it lends or invests their money.

The Federal Reserve's efforts to keep interest rates near zero are squeezing Schwab's net interest revenue and its asset management revenue. Schwab is entitled to an annual fee of about one-half a percent of assets on its proprietary money market funds. To keep yields on those funds from falling below zero, it is waiving some of those fees.

If the federal funds rate rose by one percentage point, Schwab "would pretty much double their earnings," says Richard Repetto, an analyst with Sandler O'Neill Partners.

... Talking to Chuck

I sat down with Chuck Schwab last week to discuss the company's past and future. Although CEO Walter Bettinger runs the company day to day, Schwab is an involved chairman and its public face. Here are excerpts from our interview, edited for space and clarity.

Q: Your exhibit highlights some mistakes Schwab has made. What have you learned from them?

A: If you are an innovator, you have to make mistakes. But if your clients don't like it, you withdraw it quickly.

Q: Was selling out to Bank of America in 1983 a mistake?

A: No. We got enormous publicity. People thought, this (Schwab) is a legitimate business.

Q: What was your most challenging period?

A: The crash of 1987. (On Oct. 19 of that year, the Dow Jones industrial average dropped 508 points, or 22 percent).

We had just bought the company back from Bank of America (in July). We had borrowed some money to do that. We were quite vulnerable. Fortunately we had gone public (in September) and raised a bunch of capital before the crash. I vowed we would never have a tough time like that again. We breezed through the crash of 2008. We were highly capitalized.

(Although Schwab stock is well below its all-time high set in 1999, since its IPO it is up about 4,900 percent, excluding dividends, compared with a gain of 411 percent for the Standard & Poor's 500 index.)

Q: How do you feel about the robo-traders who have come to dominate stock trading?

A: They add nothing to the marketplace. They are scalpers. In times of crisis they suck out liquidity. They would argue they add liquidity. I don't think so.

Q: What should be done?

A: If I was czar, you would have the real marketplace here and let them go there and play in their dark pools like it's a video game or a lottery. There is no leadership in the SEC to do that. There is no leadership in government to do that. So consequently we have these unbridled frontiers.

Q: What impact is it having on your customers?

A: The average customer is not happy about it. It reduces confidence. Even though the market is at new highs, trading (by individual investors) is generally down. If it results in more long-term investing, that might be a good outcome.

Q: Is the Fed's zero interest rate policy doing more harm than good?

A: It's a disaster. I was in Florida talking to a bunch of retired people. They counted on having their savings accounts and CDs supplement their Social Security.

Q: The Fed's policy is hurting parts of your business, but to the extent it's raising stock prices, is that helping?

A: We have benefited from higher stock market prices and higher management fees.

Q: So on balance has it helped or hurt more?

A: We are more hurt by the manipulation of what's going on at the Fed. There's manipulation in oil prices, in milk prices, in monetary prices. We are highly dependent on the free-market system. But we are getting into a funny situation by having every little thing manipulated by government. Eventually it becomes something closer to socialism.

Q: Do you make your own investment decisions?

A: I make all my asset allocation decisions. I have several people who make individual stock choices. I also use index funds, ETFs. I'm 85 percent in stocks, 15 percent in cash. I'm not in fixed income. It can only go down in value in the next 10 to 20 years.

Q: What worries you most about the next 40 years?

A: How does the country solve its expenditure and debt problem? How do we bring it into balance? Where does the leadership come from?

Q: Do you use social media such as Twitter or Facebook?

A: The company does, but I don't. What I am at the forefront of is mobile. (Schwab pulls out his iPhone to show how he deposits checks.)

Q: You're 75 now. When are you going to retire?

A: Probably never. What would I do with my day? Play golf?

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