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Business

Schwab: Selloff Way Overdone – Charles Schwab Corporation (NYSE: SCHW)




Nervous people tend to overreact. – Toba Beta

When Charles Schwab (SCHW) announced that it would go without commission last month, it was the inevitable next step in a year-long "run to zero" trend. Robinhood has been offering commission-free trading for years. Vanguard decided to offer free of charge trading on virtually all ETFs on its platform earlier this year. Fidelity debuted its first zero-cost equity fund recently. The day when trade commissions were also eliminated always came over, but still managed to catch the street a little off guard.

All the major online brokers saw stock prices plummet as traders rightly expected them to be rid of commissions as well. Within three days, Schwab's shares fell more than 16%, but E * Trade (ETFC) and TD Ameritrade (AMTD), which derive much more of its revenue from trading commissions and soon followed to eliminate commissions, also saw even greater drops.

What caught my attention the most after this announcement was the statement from Schwab's CEO Peter Crawford. In it, he notes that the decision to eliminate trade commissions will cost the company about $ 90-100 million quarterly, which represents about 3-4% of total sales. Schwab's impact is obviously less than some of the more pure online brokers because it also offers a thriving money management and ETF business.

But consider the income effect of Schwab's competitors and how their stock prices reacted.

The share prices of E * Trade and TD Ameritrade fell roughly in line with the turnover effect, 18% and 25% respectively. Schwab, on the other hand, fell more than 16% on a much more modest economic impact. Admittedly, this is a relatively simplified example, and there are several moving parts here, but on the surface, the fall in Schwab stock feels like an overreaction.

The main reason I think it's an overreaction is because Schwab's core business is a cash cow. Schwab has grown their ETF range tremendously and has become the 5th largest ETF supplier in the industry with a wealth of over $ 110 billion. Schwab has achieved the most through low-priestly leadership. The property-weighted average expense ratio for its cap-weighted ETF range is only 0.05%. It will not make the ETF business a major revenue generator for Schwab, but the assets it brings in can be crossed into other more lucrative products and services.

One of the major differentiators, in my opinion, is Schwab's OneSource platform. The fund's providers pay Schwab a hefty amount to host products on the platform. It can vary from almost nothing to much. For example, Schwab makes about 500 ETFs available to customers. According to Schwab, the typical asset-based fee for these holdings is approximately 0.04% per annum, but may reach up to 0.15%. In other words, it's not a big revenue generator. For transaction fees and debentures, the percentages are still relatively low, somewhere between 0.10% and 0.25% on average. It is the NTF funds that are the money that make money.

Schwab's use of NTF funds averages around 0.4% to 0.45%. It may vary from case to case, but in rare cases can also rise to as high as 1.1%. With equity funds accounting for more than ⅓ of Schwab's total client assets, there is no small change.

However, the major revenue generator for Schwab is still net interest income, which includes things like customer cash. This figure increased by 14% compared to the same quarter a year ago and has increased regularly.

Conclusion

Schwab's decision to eliminate trade commissions was certainly a headline grab, but it was not the monumental event that anyone pretended to be. In reality, commission income is relatively little of Schwab's top line, and the rest of the business model is still healthy. Net interest income continues to rise steadily, and the OneSource platform is gaining fat on the NTF Fund's portfolio.

A fall in Schwab's share price was justified, but not to the extent that the market dropped its shares. At a P / E of less than 14 years, Schwab represents a strong value and buy-the-dip opportunity.

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