Charles Schwab Corporation (The)

Good morning, everyone. Welcome to Schwab's 2022 Summer Business Update. This is Jeff Edwards, Managing Director of Investor Relations. I can only imagine how unsettling it might be for some of our more tenured update attendees to not hear the soothing rhythm of Mr. Fowler's voice kicking off the webcast this morning, but fear not that he is here comfortably perched right next to me in his best Ariat boots as we broadcast live from our headquarters in Westlake, Texas. We once again have our esteemed triumvirate of presenters for our 60-minute session today, which will include prepared remarks followed by Q&A. Walt Bettinger, along with Rick Worcester, will provide a strategic update, including insights into the current investor mindset as they navigate what has proven to be a challenging time in the market. Peter Crawford will then review our recent record financial performance, as well as discuss our current financial outlook before taking us to Q&A, which I will help moderate. For the Q&A portion, we will take questions from both the phone lines and the web console, And as always, we ask that you respect the one question plus one follow-up approach. A friendly reminder that today's materials will be posted to the IR website at the beginning of Peter's remarks. Last, but certainly not least, please do not forget to review our lovely wall of words, which reminds us all that outcomes can differ from expectations, so please stay up to date with our disclosures. With all that behind us, it's time to dive in. Walt, over to you.

Thanks a lot Jeff and good morning everyone. Thanks for investing some time to listen in on our July business update. So three months ago I emphasized the word consistency during our time together and I stressed the way consistency plays a critical role at Schwab. A consistent business strategy, a consistent commitment to feeding the virtuous cycle and innovating on behalf of investors. a consistent financial reporting cadence, a consistent commitment to our employees and the communities that we live and work in, and a consistent long-term approach that is focused not just on the current year, but on years to come. And today, as we discuss our second quarter results and our viewpoint for the future, the benefits of our consistent strategy and commitment to clients I think is highly evident. Because it's times like these when investor sentiment is negative, when the equity markets are falling. These are the times that separate companies who chase headlines and or focus on short-term success from a company like Schwab, a company built to last, a company built to succeed in all environments by serving investors and advisors in good times and difficult times while also delivering the superior financial results that you've seen. Before we discuss the second quarter in a bit more specifics, I want to touch on the announcement this morning from our board of directors that I would be joining our founder, Chuck Schwab, as co-chair of our board. Although it's personally a tremendous honor that Chuck and the board have seen fit to entrust me with this additional responsibility, the reality is this announcement is not about me. The announcement is aligned with the consistency theme that I just spoke of. Consistency and continuity are hallmarks of Schwab. They add to a sense of confidence that our clients, our employees, stockholders, and the communities where we live and work can rely on. Our consistent strategy that we refer to as through clients' eyes is not a catchy slogan. It's a timeless strategy. It's timeless because, in our view, it is the only business strategy that can stand the test of time, a strategy that places our clients first at the forefront of the decisions we make. And a key part of my new responsibilities as co-chair of the board will be to ensure that our focus on clients, our consistent focus on clients, remains the hallmark of Schwab for years to come. As all of you know well, in the second quarter, the equity markets officially entered bear market territory. Volatility remained quite high. And the Federal Reserve advanced their efforts to bring inflation under control by raising interest rates. And of course, this continued with another 75 basis point increase yesterday, moving the target rate to between 2.25% and 2.5%. Now, not surprisingly, investors felt this pain. They felt the pain from the equity market declines, with investor sentiment falling sharply and reaching levels that we haven't seen in many, many years. Interestingly, however, Schwab clients continued to invest for the long haul. I guess you could say consistency is a hallmark of our clients also. The net buy-sell ratio of our clients during the quarter, as punishing as the second quarter was, was only modestly lower than it was during the meme stock quarter back in Q1 of last year. I guess the takeaway is that our clients are investors. And with well over 30 million investor accounts, yes, there are different approaches for certain. Some are buy and hold. Some trade actively. Some rely on an independent advisor. Of course, many are a combination of all these. But what's important is that collectively, they take a long-term view of the markets. Collectively, they understand the power of being in the market. Collectively, they know that consistency, again, is the path to success when it comes to long-term investing. This long-term focus by our clients, it's not an accident. It's an outcome of our purpose and our strategy at Schwab because we focus on attracting long-term investors, on cultivating them, on educating them on the power of long-term diversified investing, on being in the market and staying in the market and being consistent with their investing strategies. And of course, there it is again, that word consistency. We believe that A major part of why our clients can feel confident with taking a long-term approach to their investing is the confidence that they have in us, said Schwab. Despite, again, what anyone would describe as a relatively brutal equity and bond market of late, our clients still give us net promoter scores in the mid to high 60s. With our fastest growing client base, high net worth investors offering us our highest scores overall. Our client easy score is now more than 90, reflecting our commitment to making it easy for our clients to do business with us. And meanwhile, 83% of our clients rate their phone-based service experience with us as perfect, a score of 7 out of 7. In addition to our efforts, of course, around ease of business and quality of service being recognized by our clients, we're gratified that many third parties do as well. The importance of service quality, timely and responsive service, it's especially critical during difficult times for investors because it's service quality that helps keep these investors informed, aware, and as confident as possible. It contributes to client engagement and optimism for the future. I just encourage you not to make the mistake and think that given where the markets are that our clients are not highly engaged, optimistic, and investing for the long term. I think as evidence reflecting this optimism, our clients continued to add money to their investing strategies at a relatively high rate, despite the bear market, with annualized organic growth about 5%, and really rather astonishing for a bear market, 6% when we exclude April, and of course its record-breaking levels of tax payments. This is a picture of a strong healthy company, excelling during a quarter as difficult as any quarter in many years. But I think what's also incredibly important is it's a picture of a healthy client base, a client base taking a long-term approach to investing, a consistent long-term philosophy. With over $180 billion in CoreNet new assets in the first half of this year and our seventh consecutive quarter with over 1 million new brokerage accounts, Our organic growth is indisputable. We still maintain a net TOA ratio of approximately 1.6 to 1. That means we're winning $1.60 from competitors for every dollar they win from us. Again, reflecting our competitive strength from a relative market is also there. Importantly, our efforts to ensure long-term organic growth continues as we diversify our client base. You can see that over half of our new to retail clients are under the age of 40, and they drove over half of our new client net new assets. So this is particularly important because it illustrates that not only are we winning in the under 40 segment, but we are winning under 40 investors with substantial investable assets, not simply winning younger investors who have little money with which to invest. And as we've repeatedly emphasized, our business serving independent investment advisors continues its success serving the needs of all sizes of advisors. So we aim to provide the best platform for every RIA, regardless of size or business model or specialty. And our success in winning clients of all shapes and sizes clearly indicates we're succeeding. Now, while we continue to be the leader in serving the largest advisors, again, what's fascinating about this chart is is that our largest share of net new assets year-to-date have actually come from smaller advisors, those who manage less than $500 million. As we've repeatedly stated, and I don't know how many more times we can continue, but we will keep saying it, our RIA custody business is committed to serving advisors of all sizes in a world-class manner and without charging custodial fees. So, Rick, let me turn it over to you, and you can cover some more details of some of our efforts.

Thanks, Walt, and hello, everyone. I'll spend the next few minutes talking more about why clients continue to turn to us in good times and in challenging times, and I'll share an update on several of our strategic initiatives. At the heart of our success is our through clients' eyes strategy, which has been our consistent strategy for years. When we see through our clients' eyes, our priorities are clear. And what we continue to hear from clients is they want the combination of low-cost and high-quality experiences and solutions that deliver great value. The transparency that is the foundation of any trusted relationship, multi-channel experiences that meet them where they are, and ease. Clients expect their interactions with us to be easy. And they also want to consolidate as much of their financial lives as possible into one place. The reason... clients continue to turn to Schwab is our consistent no trade-offs approach that you've heard Walt talk about. At Schwab, clients don't have to choose between low cost and stellar service. Access to some of the best service professionals in the industry and the digital and technology platforms and experiences they expect from a modern firm. Straightforward foundational investment offers and more personalized solutions. Tools and capabilities for those who want to take investing into their own hands and and a spectrum of advised offers that help clients get to where they want to go with the help of a professional. Proprietary and third-party products that give them the choice they want. They don't need to make any trade-offs because Schwab is uniquely positioned to deliver it all here with our strength as a wealth manager, as a bank, and as an asset manager. Our size and our focus uniquely enable us to deliver for clients in a way that sets us apart in the industry. And this focus which starts with seeing through clients' eyes, drives the virtuous cycle. This means we will continue to put clients at the forefront and challenge the status quo to benefit investors. And when we do that, investors will reward us by trusting us with more of their assets. This leads to consistent financial results and outstanding stockholder value, which enables us to continue to invest in our business to serve our clients' needs. And that brings us back to the start of the virtuous cycle. You see on this page what no trade-offs looks like for our clients. It is a competitive blended advice rate and the ability to talk to us quickly when you call for support. It is making investments to hire more client-facing employees who are there when a client walks in the door and investments in technology to make their experiences with us as easy as possible. It is a continuum of offerings ranging from straightforward to personalized, that meets the needs of investors who are just starting out and the needs of our high net worth clients who are seeking advice. It is industry recognized tools and resources for self-directed investors and advised offerings that continue to attract investors with more complex financial needs. And it is the product choice that our clients want. Our consistent strategy is supporting our clients through a challenging environment. At the same time, we remain focused on strengthening our offer to meet client needs into the future through our strategic focus areas. First, we're achieving even more scale and efficiency. Integration remains our number one priority. The integration is bringing capabilities that make our combined offer and experiences stronger than either firm was on its own. Our Schwab clients will benefit from Thinkorswim, iRebel, and ThinkPipes, while our Ameritrade clients will benefit from the advice capabilities, banking solutions, and digital experiences at Schwab. Together, our no-tradeoffs approach is even stronger. As we look to client day one beginning in 2023, we have already multiplied the scalability in our systems and increased our capacity to support client needs and growth well into the future. For example, we've increased systems capacity to support the volumes of the combined company with plenty of capacity for spikes in transaction volumes. The modernization work on our platforms has made them both more resilient as well as much easier to scale as the client base continues to expand. Our systems now support four to six times the previous volume of transactions with faster processing times across the board, including for trades and client communications. We also remain focused on EAST, making it easier for clients to do business with us and enhancing our operating model to support future growth. We're essentially accelerating several years of digital transformation into the integration window, enabling us to support a smooth client transition, deliver on our expense synergy commitments, and limit expense growth after client conversion. Turning now to win-win monetization opportunities, we remain focused on three key areas, wealth management, asset management, and lending. And I'll speak more about wealth and asset management in a moment, and I'll start with lending. the bank continues to be a differentiator for Schwab. We won the J.D. Power Award for being ranked highest in customer satisfaction with direct retail banking four years in a row. When we look at our lending business, even in the current interest rate environment, our PAL portfolio balance, or pledged asset line portfolio balance, was $14.8 billion, 42% above the prior year. And as we look ahead, We're excited to roll out a number of enhancements that will make it even easier to go through the loan process at Schwab. Finally, we're doing more to meet the segmented needs of our clients, including our high net worth clients, RIAs, and other key client segments. As Walt mentioned in his opening comments, a key aspect of being an enduring company is serving a broad range of clients and continuing to meet their needs as their circumstances and behavior change. We compete, however, against a number of firms that focus on specific client segments. To successfully compete against these firms, we will stay focused on our clients and leverage our scale to meet the needs of the various client segments that we serve. I'll wrap up today with a deeper look into how we're delivering a continuum of wealth management experiences, and I'll share more about our trader segment in particular. Looking at the continuum of our wealth management offer, we have attractive full-service wealth programs and investing solutions that clients are turning to in the current market environment. When you look at our full-service wealth programs, we recently rebranded our premier wealth management offer, Schwab Private Client, to be named Schwab Wealth Advisory, to better reflect what the offer does for clients. We're investing in the offer, including enhancing our digital experience, providing resources and support to advisors to ensure even greater advice and service, and bringing more of our wealth expertise at Schwab to the clients. We also have investing solutions that clients often use as a part of their portfolio. With the increase in interest rates, we've seen record flows into Wasmer Schroeder on the Schwab platform. We've also launched new personalized investing solutions to complement the core offering. Schwab personalized indexing launched and is delivered for clients in a volatile market and is delivered on the promised tax savings. We continue to make progress on expanding our thematic investing offer, And in the second quarter, we further expanded our ESG tools with the introduction of MSCI's ESG ratings for individual stocks. There is tremendous opportunity ahead to enhance the wealth management experience. Over time, we'll look at providing a discretionary wealth management experience for clients and have plans to add digital capabilities to meet clients where they are. Now, I'd like to turn to the work we are doing to support traders, one of our key segments. One of the benefits of integration is we will be able to offer Schwab and Ameritrade clients a leading end-to-end trading experience with Thinkorswim, one of the strongest active trader platforms in the industry. In August 2020, we announced plans to adopt Thinkorswim and integrate its award-winning trading platforms, education, and tools into our trader offerings for clients. This will provide our trader clients with three interconnected channels of engagement across desktop, web, and mobile, all integrated with one another. It's enhanced trading experiences and a comprehensive set of trading tools across the product space, supporting equities, options, ETFs, futures, and foreign exchange trading, and a tightly integrated trade and portfolio analysis capability. In fact, we recently rolled out new enhancements that reinforce our commitment to the Thinkorswim platform, including providing clients with greater opportunities for customization. And in April, we launched a virtual active trader branch. Here, active trader financial consultants Focus on trader coaching and wealth management to help meet the unique needs of qualifying self-directed traders. Finally, I'd point out that one of our biggest focus areas for our trader clients is trading platform stability. Nothing is more important to our business than safeguarding our systems and ensuring our clients have reliable access to their accounts. I'll wrap up where Walt started. With our through client size approach as our consistent strategy, we continue to be there for our clients even as the market has become more challenging for them. This approach sets us apart in the industry and puts us in a strong competitive position, allowing us to continue to invest in the strategic initiatives that will meet client needs into the future while enabling the outstanding financial performance that Peter's about to discuss. So, Peter, over to you.

Well, thank you very much, Rick. So Walt and Rick talked about our ability to build and maintain the loyalty of our clients despite the challenging environment and very low investor sentiment, how that loyalty has translated into continued robust organic growth, the strong positioning we have built around modern wealth management, and our progress and plans for making that position even more formidable. In my time today, I'll talk about how the combination of strong business momentum, a more subdued but still quite active client base, and rising interest rates produced record financial performance in the second quarter. I'll also provide an updated outlook for the rest of the year, which demonstrates the power of our all-weather business model and the benefits we derive from higher rates. And finally, I'll provide an update on our capital planning, with our capital ratios having reached their highest level since the pandemic began, enabling us to potentially accelerate our capital return activities. What you'll hopefully hear is that this company continues to drive exceptional operating and financial performance, that we're clearly benefiting from higher rates and are poised to benefit even more in the quarters ahead. But that's only part of the story. In short, we're demonstrating once again the enduring power of Schwab's strategy and business model, one that combines growth, profitability, and capital return with a lot more opportunity ahead of us. Let's talk about some of the factors that contributed to our strong financial performance in the second quarter. Our performance was obviously helped by higher interest rates across the curve, which boosted our net interest margin and BDA yield, and eliminated money fund fee waivers by the end of the quarter. While falling equity markets weighed on asset management fees, and the ensuing decline in investor sentiment that Walt talked about resulted in trading activity and margin utilization that were lower than the first quarter, but still significant. at historically high levels. What endures amidst this choppy environment is our unmatched ability to drive robust organic growth. Roughly $185 billion in core net new assets in the first half of the year, despite record high tax payments by clients. And 5% growth in active accounts on the heels of the unprecedented new account formation we saw in the first half of 2021. Despite some cross-currents, our financial performance in the second quarter 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, or up 24 basis points from the first quarter, and interest earning assets that largely were in line with expectations. Flat asset management and administrative fees as the elimination of money fund fee waivers and organic inflows offset the impact of the market decline, and trading revenue that was lower than last year despite a slight increase in daily average trades. We limited adjusted expense growth to 2% year-over-year, all of which helped produce an adjusted pre-tax margin of 49.5%, a record $2 billion in adjusted net income, and a record $0.97 in adjusted EPS. That was the income statement. Let's turn our attention briefly to the balance sheet. Our balance sheet assets declined 4% year to date, due mostly to those record tax payments in April, as well as some sorting activity in the second quarter that was consistent with our expectations given the rate environment. Our strong earnings, combined with that slight decrease in assets, boosted our capital ratios to the highest level we've seen in roughly two and a half years. Despite the challenging equity markets, we feel very confident about our ability to drive strong revenue growth and resume a higher pace of capital return. Assuming the Fed follows through as the market predicts with a Fed funds rate exiting 2022 at 3.5%, we'd expect to produce an 11% to 13% year-over-year increase in revenue despite the market downturn. That reflects continued expansion of our net interest margin to just over 2% by Q4, A deposit beta is 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 investment cash off our balance sheet in search of higher yields. 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 to advance the strategic agenda that Rick discussed. Controlling for an increase in the pass-through fee that boosts both revenue and expense, and which we do not control, our full-year expense outlook remains the same as what we shared back in February. And with our inaugural CCAR submission now behind us, which demonstrated the strength of our balance sheet as reflected in the fact that we're the only firm to see an increase in capital ratios during the stress event, and our capital levels in the mid-sixes, we are nearing the point at which we can accelerate capital returns. You saw that the board approved a 10% increase in our quarterly dividend to 22 cents, as well as a new $15 billion buyback authorization that we'd expect to utilize as soon as later this year and beyond. And at the same time, we also have the option of redeeming one or more of our outstanding preferreds. I want to close by picking up on a theme that Walt discussed in his opening comments, how this is a company built and managed for the long term. So while we're certainly pleased by our current financial performance despite the difficult macro environment, we are much more gratified by our ability to consistently drive a set of behaviors and outcomes that have enabled us to deliver for clients and stockholders for over four decades. Continuing to be the premier asset gatherer, as indicated by our net new assets, new accounts, and TOA ratio, a reflection of our through-client-side strategy and formidable competitive positions. Building a diversified and resilient business model that converts business growth into revenue growth, producing record revenue in the second quarter. Maintaining discipline in how we manage expenses, producing operating leverage through the cycle and increasing margins, which have now reached nearly 50% and have an opportunity to continue to climb. And being very efficient in how we deploy the capital that has been entrusted to us, or as we're now poised to do, return excess capital back to our stockholders. Make no mistake. Challenging conditions and all, this is a good environment for both our actual financial results and our future financial prospects. And we intend to pursue those prospects as we remain focused on serving clients and being good stewards of our stockholders' capital. With that, Jeff, let me turn it over to you to facilitate our Q&A.

Operator, let's open up the phone lines and turn to the first person in the queue.

Absolutely. Thank you. If you would like to ask a question at this time, please press star 1 on your phone and be sure your line is unmuted. Again, to ask a question, please press star 1. Our first question today will come from Ken Worthington with JCMC. Go ahead, please. Your line is open.

Hi. Good morning. Almost afternoon. Thanks for taking the questions. I guess first, what was the level of cash sorting that you saw in the second quarter of And what is your outlook for the size of the balance sheet or interest-earning assets, however you want to answer it, for 2022, given what you're learning about cash sorting and your internal outlook or whatever for net new assets? And then any thought on the mix of your balance sheet in terms of cash and the investment portfolio as we continue to walk through this cash sorting process through the rest of the year and beyond?

Thanks, Ken, for the question. So I would say in aggregate, the dynamics around cash sorting in the second quarter were very consistent with our overall expectations. And I think this is – 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 bulk transfer process that we're doing in the last rising rate cycle, that we have an influx of smaller accounts who tend to do less sorting. We also have a client base that is much more actively trading than they were previously, and 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 the growth of total client assets. 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 regard to 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. Fourth, I think when you look at sorting and isolation, you're only really looking at one part of the equation, and 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 that 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, fifth point I would make, is to the extent that cash balances decrease, it frees up capital, enabling us to buy back stock and drive EPS growth one way or the other. Hopefully that answers your question, Ken.

Awesome. Thank you. And then just on the win-win monetization as a key priority, you announced the enhanced relationship with TRO. I guess how is that proceeding? And then can you talk about plans to further build on what you started with TRO, with other asset managers? What's the roadmap and what should we be expecting for the $1.5 trillion or so of third-party fund assets that you're not charging asset managers directly for right now?

Thank you for the question. First thing I would say as it relates to your specific question, Ken, on TRO is I would say that it's very early days. We're just getting that program going. We are seeing some enthusiasm for it among our clients, and we are seeing a simpler process that we've built around our clients finding the product that they want to be well received by our clients. So we're making it easier for clients to find the right product for them. In terms of specifics, I would say that we've launched the TRO program into a challenging market where we're seeing both active management and interest in equities decline to some extent because of the volatility in the market. And so we've seen some headwinds. But with those headwinds, of course, I'd bring it back to our all-weather model. When active management is out of favor, passive is in favor. And we've seen strong growth in our ETF business. We're third this year in flows, with relatively strong inflows. So again, we think about it as an all-weather model. And importantly, we also think about delivering the choice clients want. So the program's doing exactly what we'd want it to so far. We've got plans in the future to leverage the program to a greater extent. And we're also investing in our experience for advisors through an institutional program No transaction fee platform, I think, shows, again, our commitment to delivering for advisors. In terms of your final part of your question, Ken, I think the philosophy of making sure that we create a win-win deal for clients, for ourselves, and for managers is important and one that we will continue to strike across our third-party platform. So that's certainly a part of our future plans.

Next question comes from Rich Rapetto with Piper Sandler. Go ahead, please. Your line is open.

Yes. Good morning, Walt and Rick and Peter. I guess first, congrats, Walt, on being named co-chairman of Schwab. It's a great honor for you, for sure. So my first question would be just a follow-up on the sorting. And, Peter, one of the questions was, the balance sheet or the average interest earning assets exiting the year and can you sort of more quantitatively sort of compare 2Q sorting to what your expectations were and the expectations I guess for the rest of the year as well.

Thanks Rich. So you'll see in the appendix we have a lot of detail around the assumptions in the scenario that we shared. And you'll see in the appendix an assumption that the balance sheet contracts by a similar aggregate level as what we saw in the first half of the year, bearing in mind, of course, that the first half of the year was influenced by the tax payments in April, as well as the changes in the mark-to-market value of the available for sale securities. And, of course, in the second half of the year, you typically have a seasonal tax buildup in December.

Okay, I'll look at the appendix closer. I guess a follow-up question would be for Walt, and it's on regulation. And I think everybody's aware that Chair Gensler, SEC Chair Gensler, made some remarks in early June about things that he was looking at, not formal proposals, but things that he was going to emphasize in regards to retail equity market structure. And I just wanted to get Walt sort of Schwab's view on some of the changes that at least he has spoken out in favor, including the minimum price increments, the smaller NBBO protected sizes, and this order-by-order competition.

Sure. Thank you, Rich. And also, thank you for the kind words. I'm pleased. I'm excited and, as I mentioned, honored to add the additional responsibilities as co-chair to my duties as CEO. So, of course, we all watched with great interest your interview with Chair Gensler, and we have great respect for the chair as well, frankly, as his objective of striving to improve the trading experience for investors overall. I think, in fairness, we have to wait and see what any actual proposal might be and what it might entail. It's also important for us to bear in mind that I think it's safe to say that retail investors have never had a better overall experience, including the quality and timeliness of their execution. It's difficult to comment on all the various items that Chair Gensler spoke on, but Maybe I'll just identify the last one to provide some thoughts for everyone around the idea from an auction. I mean, certainly an auction idea is interesting, but I do worry a bit about whether it contemplates auctions in all different types of market environments. We know that in the current structure, execution timeliness and speed is assured no matter what the environment is, and When I just take a step back, say, from the equity markets and just think of auctions in general, whether you're auctioning a home or art or something near and dear to my heart, baseball cards, since I'm a baseball card collector, auctions tend to work really well when you have a favorable economic environment and a lot of liquidity in a system. And conversely, auctions tend to tend to struggle during more difficult economic environments or when there's less liquidity and you start to get wide gaps and spreads between what maybe the seller, in the case of an auction, was hoping to receive in price and what they actually received. So, again, I'm not suggesting that that illustration says that an auction couldn't be workable, but I just think these are the kind of things that have to be very carefully thought through The math needs to be done very thoughtfully and evaluated to see whether we're actually creating a better environment for investors overall, and I am confident that that appropriate process will be followed if, in fact, these rules are formally proposed.

Our next question comes from Dan Fannin with Jefferies. Go ahead, please. Your line is open.

Thanks. Good morning. I wanted to follow up just on the expense outlook and understand the guidance for this year. Looking at the second half of the year, maybe what the incremental spend outside of the exchange fee rate increase, where those levels might be. And then thinking a little bit forward into next year, can you remind us what's left in terms of synergies and how we can think about maybe that rolling through in 2023 and maybe a more normalized kind of growth rate for expenses longer term?

Sure. So thanks for the question. So in terms of the expense outlook, I shared in this scenario what the expense outlook would be for the full year. So looking at our typical seasonal pattern, you tend to see a little bit lighter expenses in the third quarter and a little bit heavier in the fourth quarter. So as you think about the math on that, I think the important point on expenses is is we want to continue to drive down our expense on client assets through the cycle, and we want to continue to deliver operating leverage, which is a key part of our financial formula. At the same time, we want to make sure that we're investing in our clients and certainly the long-term growth of our business. That is certainly a delicate balance, but I think you've seen us manage to achieve that over time with EOCA declining and our margins increasing significantly. So that continues to be our focus. Sorry, the second question, part of your question was on, remind me again?

Just longer term, the expense synergies as we think about 2023 coming back.

So the expense synergies, yeah. So we have roughly perhaps a little bit less than half of the overall expense synergies to deliver. We've said previously that the pace of delivery is will be a little bit lighter now relative to the first year or two post acquisition, that the next big unlock on those expense synergies will be as we complete the client conversions and can eliminate the duplicate systems and so forth. You should see a more meaningful portion of the expense synergies materialize at that point in time. We continue to feel very confident in our ability to hit the expense synergy numbers that we have shared previously.

Thanks. And then just as a follow-up, Walt, just thinking about the advisor backdrop and attracting new advisors in a more volatile backdrop, can you talk about the backlog and is that harder for maybe those advisors to move their books when clients are maybe not doing as well, or are you seeing just as robust a pipeline as you have previously?

Yeah, it's a good question. So right now I think the pipeline is as robust as we've ever experienced, but I believe your assumption is not an inaccurate one, that when you have a more difficult equity market, that it is probably a little bit more difficult for advisors to move to independence, but it's probably a lag factor. which is why we're not seeing it reflected in our current book of business. I think more what you see in real time is that some investors who invest with advisors may be a bit more hesitant to move money under the management of that advisor during a very difficult market environment. So you probably get more near-term implication from that. and maybe a little bit more of a lag implication from a weaker equity market in terms of advisors moving to independence. But as of right now, our pipeline is as strong and robust as we've experienced, and we feel very optimistic about our ability to assist those advisors moving to independence and moving their assets to us.

The next question comes from with UBS. Go ahead, please. Your line is open.

Hey, good morning. I'm glad she said UBS because I did not catch the name she said. So, Peter, I wanted to follow up with you on the appendix and the reference with the cash and just clarify some of your prior comments about sorting. I think previously on the spring update, you had indicated that a roughly 20% decline in UBS sweep cash would be the expectation based upon the experience last cycle. And 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, more active oriented and checking and savings. Is that the base that we should be thinking about when we're applying that 20%?

So thanks for the question. So just to clarify, I think what we said in the spring business update is that we didn't expect it to be higher than that level. And as I mentioned today, I think it could conceivably be lower than that. But you were right that when you think about the pool that we're talking about here, it is really that bank sweep and perhaps to a lesser extent the broker-dealer free credit balances you see in the pie chart. So it definitely is not on the in total pool of cash. You're absolutely right about that.

Great. And when we think about the 2Q experience, it's a little tricky because we had some sorting get started. You had said it was roughly in line with your expectations, which is encouraging, but there was some tax noise in there too. When we think about the reductions in The quarter might have been actually partially offset by some increase in cash due to volatility. Can you maybe help us think through sorting experience to date so we can know how to calibrate for that less than 20% threshold just for those of us keeping score at home?

Yeah, so this is maybe one we want to have you follow up with the IR team to kind of walk you through some of the numbers and go through the smart reports to get to that level of detail and the timing on all of that. I think that's probably the best path on that.

Okay, fair enough. Maybe since that's a bit of a mulligan, maybe I'll try for my second question with something a little different. You give... in the appendix some greater profile of the securities portfolio, which is really great and really helpful. When we're thinking about the potential for cash needs in the coming year as potentially sorting might happen a little faster, who knows, what does the profile of maturities in the securities book look like over the next roughly 12 months, let's say. Do you have an idea or a projection about how much cash will be generated from that portfolio?

Returning my mic here. So we certainly do. And it's definitely one of the things that we look to actively manage. Our overall portfolio duration now is down to about a little over four probably more like three and a half-ish when you consider the cash. We're holding more cash. And 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.

I'm going to step in here with a couple of questions from the web console. I'm going to try to aggregate them. I think the first one here is for you, Rick. Given the recent backdrop and kind of shifting environment, where have we seen clients kind of gravitate from an advice and asset management solution perspective? Where are they most interested?

Well, top line, I would say our advice flows continue apace, roughly in line with where they have been. The areas of particular interest, I would say there continues to be interest in full-service welfare. advice capabilities. So we're seeing flows into our Schwab Advisor Network Program and we're seeing flows into our Schwab Wealth Advisory Program, both of which are full-service wealth offerings. So that would be the number one theme we're seeing. The second theme I would highlight is that in this interest rate environment, we're seeing more interest in fixed income solutions. And so our acquisition of Wasmer Schroeder a couple of years ago has been timely as flows have increased and Wasmer Schroeder has captured a meaningful share of those and is setting records each month in terms of flows into Wasmer Schroeder on our platform. And the third thing I would say is we are seeing stability outside of those programs. So Windhaven and Thomas Partners and different offerings you've heard about over the years have been stable and returned to inflows. The one area where we're running a little bit behind what we typically see would be our intelligent portfolios, and I think that's to be expected here. in this period of more volatility, where clients who tend to have lower balances are a little bit shy of making that commitment in a volatile equity market. But overall, our flows continue into the managed investing and wealth area, and those are the areas that have been of particular interest to clients. Great.

And here, maybe one for Walt. Just around, let's say Schwab's persistent and steady business momentum through shifting environments and a changing competitive landscape over the years. What are some of the main forces you'd attribute to this steady growth, secular growth, and anything that you'd note that's changing or evolving on that front?

Thanks, Jeff. I think Rick really did a great job of addressing this in his prepared remarks, but it starts with our long-time strategy through client size. We strive to make decisions that that put the needs of our clients at the forefront, basically the golden rule applied in a business context. And we execute on our strategy by striving for no trade-offs. We've always believed that wonderful service, first-rate advice, quality client solutions, they can be delivered at a world-beating value, that no trade-off is required there. Again, it might not be snappy and might not generate a lot of press, but serving others in the way that we would want to be served – It has been and is the right strategy in our view for long-term growth. And in terms of changes, we're not really seeing any meaningful changes in this trajectory. I mean, obviously, different market environments are going to lead to modestly different client metrics, as they always have. But as I spoke about earlier, our clients are long-term investors, and they're remaining committed to their investing strategies even during this difficult environment.

Operator, go ahead with the next caller. Thank you.

Yes, our next question comes from Craig Siegenthaler with Bank of America. Go ahead, please. Your line is open.

Hey, good morning, everyone. So organic growth has deteriorated at the new retail trading platforms, and we wanted to get an update on the competitive dynamics in your retail business and really, you know, if you could, highlight what trends you're seeing from younger first-time investors.

So I'll take a first stab at that. Thanks for the question, Craig. Our retail business is continuing to perform very well with meaningful net new assets. From our projection standpoint, actually outperforming some of the projections that we had anticipated. We continue to add, as you've seen, significant new accounts with over a million new brokerage accounts in the quarter. And I think what's very important per the one slide I discussed with more than half of our new to firm retail households under the age of 40 is they're making up more than half of our new to firm net new assets. So these are real investors that have real money and they continue to come to Schwab in very significant numbers. Our retail business is very healthy. Our TOA ratios relative to the firms that we compete with for retail investors remain very, very healthy, and we're quite optimistic about that continuing despite the difficult environment.

Thank you, Walt. And my follow-up, similar topic, retail trading platforms. So now that you're finishing up digesting your last set of deals, and I know one of them is going to take a couple more years, for the revenue synergies really to kick in. But how would you think about inorganic opportunities relating to retail trading platforms, especially given that you're freeing up some excess capital, where these platforms could allow you to acquire a larger number of younger clients?

Well, I think we try to apply the same level of discipline and thoughtfulness to any M&A opportunity that we would in the future as we have in the past. We recognize that there may well be opportunities in the future, just as there have been in the past. We've looked carefully at everything that's been there in the past and we'll look carefully at anything that may present itself in the future. That said, particularly given our strong profitability and capital creation, we would want to weigh any possible M&A activity against the other alternatives for deploying capital, including buying back stock in a company that we know very, very well and have tremendous confidence in its ability to continue to grow organically. Of course, I'm talking about Schwab, so... So we'll look at everything carefully, but it will be a meaningful threshold for us to consider deploying capital in a manner other than investing in a business as strong as ours.

Coming in with one other kind of set of questions from the webcast. We've got some stuff, Peter, for you around AOCI and something that's been top of mind for folks. Maybe you could quickly hit on that just to address those questions.

Sure. Thanks, Jeff. And so I've certainly read with some interest a lot of the, I guess, the questions and the commentary about AOCI and whether this is going to impact our capital planning, our capital activities. And, you know, it's certainly understandable given the size of the AOCI. But frankly, our negative AOCI is not one of the top 30 things I worry about as CFO. And maybe it's important to set a little bit of context. Remember, these are mark-to-market, unrealized losses. And they only matter from a regulatory standpoint if we're over $700 billion in assets for four consecutive quarters. So it's not like we're going to suddenly, you know, we're not going to see this point coming well in advance. The other point is that AOCI goes down with lower rates. And it also amortizes steadily over time, about 15 or closer to 20% per year over the next four to five years. So the only scenario where it poses a, quote, problem is if rates are high and balances are growing, which, of course, would be a scenario in which we're producing very, very strong net interest revenue, very, very strong earnings. We also have the ability, if somehow we find ourselves in this situation, to utilize our sweep tower to move some of those balances off our balance sheet into sweep money funds. I think the bottom line that you should take away is that AOCI considerations are not influencing our capital planning activities at all right now.

Great. Thank you, Peter. I'll take our move. We have time for one more question from the queue.

Thank you. Our last question will come from Brian Bedell with Deutsche Bank. Go ahead, please. Your line is open.

Great. Thanks. Good morning, folks, and congrats to you, Walt, as well. Just on to cash sorting, maybe just some clarifications on the appendix, the 6% to 10% drop in the balance sheet, first of all, is that on an end-of-period total asset basis or average or on interest-earning assets, And then, Peter, just your view of cash sorting past the Fed tightening cycle. So if the Fed were to stop at, let's say, by the end of the year, would you still expect to see a significant amount of cash sorting into 2023, or do you think that really abates? And if I could squeeze one more in there on the BDA. I don't know if I missed this, but did you move any BDA assets over in July? And if you didn't, do you have the capacity to move BDA? $10 billion over this year.

Okay. So that was three questions there. Let me see if I can take them all. I think what we saw in the last rising rate cycle is when the Fed stops raising rates, the sorting over time goes down. The pace of sorting goes down as the most yield-sensitive cash moves. And then, again, eventually the cash balances find their level and then start – start growing again. The assumption in the appendix to certainly encourage you to follow up with the IR team on that, it is end of period assets. And your third question about the BDA is we have taken a lot of balances out of the BDA in the first half of the year. I wouldn't necessarily expect us to take more balances in the second half of the year necessarily. But I think it's important to remember, think of the BDA as almost like another interest earning asset in that it's about a 20% floating allocation, which reprices very quickly as Fed funds rates increases. It's got roughly, if you look at the securities portfolio, it's just over two, two and a half years, somewhere in that range in terms of duration. And actually, if you look at the portfolio sort of maturity schedule, which we can also share with you, there's a period of time in a few years where some of the balances that we put on, that we fixed during the last ZERP environment start to roll off, which creates a really nice opportunity to pick up a significant amount of yield. on the BDA or bring them over to our balance sheet over time.

And if I could just follow up on the roll-off on the securities portfolio. Again, great color on the appendix on the reinvestment rates. What are the current roll-off rates on that securities portfolio? And then do you have any update on the premium amortization from your last guidance in the first quarter?

Hey, Brian, it's Jeff. That's something we can follow up with you after. Fair enough. I think we're up on the –

bottom of the hour here. Do you want to take it home? Yeah, so thank you. And certainly thanks everyone for the questions and certainly thank you all for the time today. We clearly spent a lot of time over the last several months discussing interest rates and cash balances, sorting, trading levels. I think what you probably heard is I certainly, none of us can sit here and tell you exactly how those will go over the next few months or quarters. But one thing we remain very confident about is our outlook through the cycle. confident in our long-term financial formula, which, for those of you who have followed the company for a while, recall is high single-digit to low double-digit client asset growth, including 5% to 7% organic growth, leading to a similar level of revenue growth. Expanding pre-tax margins through scale and expense discipline, which creates low double-digit earnings growth, which, plus some amount of capital return, creates mid-teens EPS growth. That formula remains as relevant today as ever. So you want to put it all together, what you see as a company poised to combine strong revenue growth over time with significant capital return. But also, I think this goes back to what Walt said, a company that isn't now and has never been satisfied, pressing ahead from a position of strength. Thank you all, and we'll look forward to talking with you again in October.