Charles Schwab Corporation (The)

And here we go. Good morning, everyone, and thank you for joining us for the Schwab 2023 Summer Business Update. We certainly weren't going to let a little searing Texas heat wave get in the way of providing you with a strategic update on our business. This is Jeff Edwards, head of investor relations, and I'll be followed very shortly by our esteemed presenters, co-chairman and CEO Walt Bettinger, President Rick Worcester, and CFO Peter Cropper. Before we kick off, let's briefly hit on a few housekeeping items. Number of past events, I'll be helping facilitate Q&A, and we are still abiding by the one question, no follow-up format. We also ask that you save any clarifying or reconciling questions regarding this morning's reported quarter for the IR team. Today's slides will be posted to the IR website at the beginning of Peter's remarks. Okay, before we get on to mention stuff, let's stop by everyone's favorite slide, our forward-looking statements page. which reminds us all that the future is inherently uncertain. So please stay up to date with our disclosures. And with that, Walt, please take it away.

Thank you, Jeff. And good morning, everyone. I'm looking forward to another triple-digit day here in Texas. It's a beautiful day, but it definitely will be a scorcher. A number of years ago, I used an illustration that seems timely to resurrect. When my office used to be in downtown San Francisco, I would often look out toward Treasure Island early in the morning, only to see dense fog. And the fog would not only mask the beauty of Treasure Island, it would often be so dense that you couldn't even see the island out in the bay. In fact, if you didn't know it was there, you might not even realize Treasure Island even existed. In some ways, it seems to me that the fog has settled in again, just as it did a few years ago. And that fog is clouding how some see Charles Schwab today. Years ago, the fog represented the extended period of ZERP, or zero interest rates. Today, the fog represents the short-term challenges brought on by the near record pace of interest rate increases by the Federal Reserve. But as we all know, the fog clouding Treasure Island ultimately lifts, and the beauty of Treasure Island becomes clear. And of course, Treasure Island represents Charles Schwab. Some look at the fog and only see fog. Some look at the fog and know what is temporarily hidden by it and recognize how that fog is currently masking the extraordinary progress we are making as a firm. Those who know what is hidden by the fog recognize our ongoing organic growth and market share gains, successful execution and integration of the largest brokerage combination in history. Ideal positioning with leadership positions in the two fastest-growing areas of investment services. That's serving registered investment advisors and serving independent-minded individuals. The low-cost provider today and poised to widen this advantage over the next 18 to 24 months. An exceptional profitability, even in the most challenging of times. Today's presentations and discussions are intended to help more people understand the fog, as well as what is hidden by the fog. So thanks a lot for following along. Although still somewhat uneven, the second quarter began to show some signs of an improving economic and investing environment. Inflation began to moderate, and while the Fed paused its record pace of interest rates, at least interest rate increases at least for the month of June. As equity market volatility fell, overall equity markets performed reasonably well. But it was an exceptionally narrow market with just a handful or two of large cap growth companies accounting for a significant percentage of the solid performance. Investors took note. And as you can see, investor sentiment turned positive by the end of the quarter. Our investor clients remained relatively active in the markets, making over 5 million trades per day, and with purchases exceeding sales by about 20 percent. Year to date, our clients have entrusted us with over $180 billion in net new assets, a strong number given the tax month of April falls in the first half of the year. and a level of net new assets consistent with our long-term historical trend of net new assets between 5 and 7 percent of our total asset base. In addition, clients have opened approximately 2 million new accounts year-to-date. E-client metrics continue to be solid. In retail, our speed to answer phone calls averaged under 20 seconds, and this is a particularly important metric as we transitioned millions of former Ameritrade clients over to Schwab during the first half of the year. Advisory flows in retail were also solid at over $13 billion. In advisor services, we continued to be the destination of choice for breakaway brokers and broker teams of all sizes. Year to date, we've assisted almost 160 teams moving over to independence with Schwab as their primary custodian. and the average advisor manages about $90 million who converted to independence. Of course, these near-term metrics are important, but the long-term success of Schwab is even more important and revealing. We have a distinctive set of competitive advantages built over multiple decades that enable us to serve clients in a better way while at the same time rewarding our stockholders. Our advantages revolve around our size and scale, our operating efficiency, service culture, operating structure, reputation, and willingness to be disruptive. These six advantages help us to execute on our through client size strategy, which has resulted in a dramatic increase in market share over the past decade, as we've meaningfully grown our market share of client assets by multiples of our key competitors at independent broker-dealers as well as wirehouses. And this change in market share is more than simply numbers on a page. It represents millions of clients and hundreds of billions of dollars of client assets proactively choosing Schwab, and in doing so, getting a better deal than what they traditionally experienced. And while our scale and efficiency has positioned us as the low-cost provider for many years, we are ready to widen that gap meaningfully in the next 18 months as we reap the efficiency and automation benefits of the Ameritrade integration. We anticipate the realization of expense savings to be substantial. In addition to the remaining $500 million of synergy savings that we originally committed to as part of the Ameritrade acquisition, we now anticipate achieving at least an additional $500 million in future expense savings. These savings will come from a variety of areas, real estate savings, lower headcount from efficiencies gained via automation built and implemented as part of the integration work, streamlining our organization to ensure we are set up to operate most efficiently post-integration, and the removal of temporary expenses that were associated with the integration that we added to ensure a smooth and thoughtful process for our clients. Rick, before I turn it over to you to discuss in more depth where we stand with our integration process and the ongoing success we're seeing with existing clients and new prospects, I wanted to simply reinforce the strength of our firm. The successful track record we have built up over decades continues. The competitive advantages we have built continue. And I'm quite confident that the fog temporarily shrouding our firm will lift and sunny days will return in the coming quarters.

Rick? Mr. Thank you, Walt. And hello, everyone. Our efforts remain squarely focused on our three strategic areas. scale and efficiency, win-win monetization, and client segmentation. In our time today, I'll highlight the progress we've made in each focus area and talk through the opportunities that we see ahead. Starting with scale and efficiency, integration has been and remains our number one priority. Over Memorial Day weekend, we completed the largest brokerage conversion in the industry, moving more than 5 million client accounts from Ameritrade to Schwab. Thanks to the dedication of an incredible team, the conversion was a success. No material issues occurred despite the fact we migrated 11 times more clients than our previous February conversion weekend. Client engagement has been strong with 1.3 million clients logging into Schwab within the first week following the conversion weekend. In fact, Schwab's second largest market open occurred with no issues on the Tuesday immediately following Memorial Day. And by the end of the day on that Tuesday, our service levels had returned to normal with us answering calls at an average of seven seconds, just a day after the conversion. More broadly, client and asset attrition within our conversion groups have been below expectations. While we are still in the middle of what has been a successful client conversion, we remain laser focused on seeing it through to completion in the months ahead. We are on track to migrate the remaining Ameritrade clients in three additional transition groups in September, November, and in the first half of 2024. One of the exciting parts of our conversion is the combined capabilities for our clients, whether they are a retail client or an advisor client. And I'd like to start by sharing the benefits on the retail side. We have invested in our web and mobile experiences at Schwab to ensure we have the best of the features and functionalities of both firms. Our former Ameritrade clients will have access to the full spectrum of portfolio and wealth management solutions that we have had at Schwab. Ameritrade clients will also be able to access our banking capabilities, our branch network experience, and our exceptional client service. The branch network experience includes providing access to planning and wealth management capabilities that were not a focus of Ameritrade's. We believe that will help Ameritrade clients consolidate at Schwab rather than rely upon a second firm. Now, let me discuss the benefits to Schwab's retail clients. One of the biggest enhancements for existing Schwab clients will come when we make thinkorswim available to them later this year. Hinker Swim is one of the crown jewels of Ameritrade, and it's widely considered to be the premier trading platform in the market today with its unique combination of powerful tools and dedicated service from experienced trading professionals alongside education for all levels of experience. And all retail clients will have this at our competitive pricing representing our true no trade-offs approach. The same is true for our RIA clients. Ameritrade advisors will migrate to Schwab over the September conversion weekend, but they already have access to meaningful aspects of our RIA experience. Ameritrade advisors already participate in our flagship industry events, including impact. They've started to benefit from our leading business consulting offer, including participating in our annual benchmarking study and the executive leadership program. And we've included them in our RIA industry advocacy programs while also giving them access to resources like our strategy desk, which educates advisors on how to use various options strategies through one-on-one consultations, as well as our block desk, which helps advisors to optimize their best execution process. And as we look to Labor Day weekend, preparations for conversion are well underway and advisors are engaged. 80% of firms who only custody with Ameritrade have already begun to credentialize themselves. Over 20,000 Bay01 users have accessed Schwab Advisor Center to test drive our platform. Over 5,000 firms to date have attended at least one educational webinar session. And we are spending the summer helping firms get familiar with our technology, our investment offerings, and our people so they are ready to do business at Schwab after Labor Day weekend. And after conversion, all advisors will enjoy the full benefits of our combined offer, a custodial platform that is designed to help RIAs of all sizes grow and succeed. Schwab advisors will benefit from award-winning platforms and capabilities like ThinkPipes, iRebel, and from Model Market Center technology. And Schwab Advisor Center will incorporate VEA01's most popular features and functionality. Ameritrade advisors will have access to the breadth of Schwab's offer, including Schwab Charitable and Schwab Bank. We believe there will never have been a stronger custodial offer in the market than coming out of the conversion weekend. Turning now to win-win monetization, clients are continuing to come to Schwab for advice, and we've seen strong flows in our full-service wealth programs and our managed investing solutions. Schwab Wealth Advisory had $5.9 billion in net flows for the first half of 2023, an increase of 89% compared to last year. And notably, some of these inflows are being driven by a meaningful increase in flows from existing advisory clients, which combined with a strong client promoter score, demonstrates the value clients see in the offer. It is also worth noting that 20% of flows into Schwab Wealth Advisory in the first half of the year were from Ameritrade FCs, validating our belief that there is a large untapped demand among Ameritrade clients for more help and advice, a significant asset and retention opportunity, which we are excited to capture in the years ahead. My interest in the Wasmer-Schroeder strategies continues to be strong, with $2.8 billion in net flows for the first half of the year. In just a few years, Wasmer Schroeder strategies have gone from zero to 31% of our managed account solutions assets at Schwab. This clearly demonstrates our ability to drive win-win monetization as clients have benefited from lower cost fixed income strategies than they had previously, and we are benefiting from outsized flows in fixed income. Ameritrade clients migrating to Schwab are showing appetite for our advice offers. When we look at net flows into our managed investing solutions here today, more than 280 million came from legacy Ameritrade clients after they migrated to Schwab. Finally, we continue to build on our Schwab personalized indexing offer. In June, we rolled out a new digital experience for our RIA clients and gave them more flexibility to tailor their clients Schwab personalized indexing portfolios. Advisors are also now able to digitally onboard their clients into our direct indexing offer and have access to a new digital dashboard that highlights the performance of each account. Turning now to client segmentation, just last week we launched two new branded client experiences to meet the unique needs of our retail self-directed clients with more than $1 million and those with more than $10 million in assets. The new experience for clients with $1 to $10 million is called Schwab Private Client Services, and the experience for our $10 million-plus clients is Schwab Private Wealth Services. Our goal is to meet the needs of these clients across several key dimensions, relationships, service, operations, product, and price. The differentiated experiences will include access to a dedicated Schwab consultant who can help them manage their financial life, access to dedicated service teams access to a range of wealth management specialists, discounted mortgage pricing, special client events, and more. Our high net worth clients already represent more than two thirds of our retail client assets. And as you can see on this page, they also represent the areas where we have the greatest growth potential as these are our fastest growing retail segments. Meeting the needs of key client segments as we are doing with these new experiences will continue to support our long-term asset growth. We've spent quite a bit of time in this forum talking about the opportunities for growth that we see ahead. I've described in some detail how our strengths have positioned Schwab to sustain an organic growth rate of 5 to 7 percent over the long term by attracting new assets from existing clients and attracting new clients to Schwab. These strengths include a client base that is in the peak of wealth accumulation. Dedicated relationships, our commitment to RIA growth, our brand, our acquisition model, and our workplace pipeline. As Walt shared earlier, our 2023 year-to-date organic growth rate remains in this consistent range, north of 5 percent. And we are well positioned for this to continue. As we've shared in prior quarters, we have an attractive $3.5 to $4 billion revenue opportunity ahead in wealth management as we increase advice penetration among retail clients and grow our lending offer for all clients. I'll wrap up where Walt started. Our through clients' eyes strategy remains our North Star. With clients at the forefront of every decision we make, we are successfully delivering on a historic integration while making progress on our strategic focus areas. At the same time, we are adhering to the financial discipline that is the hallmark of our all-weather business model by identifying opportunities for cost savings and efficiencies that will allow us to reinvest in our clients and reward our stockholders. With this approach, we are on track to harness the tremendous long-term growth opportunities that lie ahead. And with that, I will turn it over to Peter.

Mr. Thank you very much, Rick. So, Walt and Rick talked about how our through-clientized strategy continues to power strong client growth, enabling us to take significant share within the wealth management category. The progress we're making with the Ameritrade acquisition and integration and our excitement about what the combination means for our clients and our stockholders. Our plans to further our industry-leading cost advantage, both through the remaining Ameritrade integration efforts and other expense reduction actions, and how we're continuing to advance our broader strategic agenda. In my time today, I'll talk about how our second quarter financial performance, which was down from the very high bar we set in 22 due largely to temporary factors, Also provide an update on the slowing pace of cash realignment activity, a trend which reinforces our confidence that we're already past the peak usage of temporary supplemental funding. And as the amount of that higher cost funding decreases, our core earnings power will be unlocked. And finally, I'll share an updated outlook for 2023 and some early thoughts on certain aspects of 2024 which we expect will reflect a continued return to, quote, normal for the company. Now, what I believe should become clear is that while our near-term financial performance has been impacted by client cash allocation activity, activity that we have supported and even encouraged, that activity is moderating as one would expect, which means that the potential trajectory of our longer-term financial performance should be getting increasingly clear. And as it does so, you should see the benefit of our continued growth, our tireless drive for greater efficiency, and the resilience of our diversified business model. As Walt mentioned, despite the volatile environment and somewhat more muted investor sentiment, we have continued to drive healthy organic growth throughout 2023. Now, if you look at our financial performance in isolation, you'd say it was a very strong quarter, nearly $5 billion of revenue, an adjusted pre-tax margin of well over 40 percent and over 36 percent on a GAAP basis, our 33rd straight quarter over 35 percent and 75 cents of adjusted EPS. But relative to the second quarter of last year, of course, revenue and earnings were lower. And this is almost entirely the consequence of client cash allocation activity, which has led to lower interest earning assets, and greater usage of higher cost supplemental funding, primarily CDs and FHLB, which we have utilized to support this activity. Utilization, which is temporary in nature and therefore is not expected to weigh on our long-term financial performance. And in fact, assuming stable client engagement, we believe our net interest margin this past quarter should represent a trough for the year. Speaking of interest-earning assets or assets in general, bank deposits were down 7 percent sequentially due to client cash allocation decisions, but we saw a significant decrease in the pace of that activity from April to May and then May to June. Our liquidity position remains quite strong, and our capital position continues to get even stronger, with our consolidated Tier 1 leverage ratio rising to 7.5 percent. And what we're calling here are adjusted Tier 1 leverage ratio, which is inclusive of AOCI. And therefore, what our binding constraint would be if we lose the AOCI opt-out, that ratio at our three banking subsidiaries all topping 4% by the end of the quarter. Again, those aren't our regulatory capital ratios yet, but we expect they will be at some point in the future. And you can see we're well on our way to meeting those new regulatory requirements well ahead of the likely deadline. Now, we shared in our last Smart Report the dramatic reduction in the pace of client cash allocation activity from April to May. And in June, we saw a further slowing in the pace of deposit flows. And the reduction would have been even more significant were not for a large reversal in client equity allocations from sales in May to net purchases in June. Now, that broader trend is encouraging but not surprising, and it's reinforced by specific data points we see when we look under the hood. We're seeing fewer and fewer individuals making their initial purchase of an investment cash solution, a purchase money fund or CD or treasury security. And since the clients with larger cash balances moved first, again, not surprisingly, the average size of those initial purchases has also come down. In June, and this is really important, in June we also saw a net deposit increase for our advisor services business. And that's significant because in this and in previous cycles, advisor services has tended to be a leading indicator of what will happen with investor services. realigning first as rates start to rise, and now slowing substantially and, as I said, actually increasing slightly their Schwab 1 and Bank Suite balances in the month of June. And that's, again, despite of net equity purchases. As you all know, we have supported this client cash allocation activity first via a range of organic sources, cash on hand, as well as cash that comes in via new accounts. and also with principal and interest payments from our securities portfolio. But to the extent that those three sources have been insufficient, we have utilized a mix of temporary sources, including CDs and short-term funding from the FHLB. And barring an unexpected increase in deposit outflows from clients engaging more actively in the equity markets, the pace of that activity has now dropped to a level that we can cover with those organic sources. In fact, we have not initiated any new short-term borrowings or CDs since late May, which means that we have already seen a decline in that supplemental funding. Again, that encompasses CDs, FHLB, and repo of $12 billion since the peak in late May. And as client cash realignment continues to slow and eventually reverses, we'd expect those supplemental funding balances to continue to decline over the next 18 months and be mostly paid off by the end of 2024. And this means that they should not really be a factor in our earnings picture in 2025 and beyond. Looking into the rest of the year, as client cash allocation activity abates, we'd expect to see a return of transactional cash growth later this year. And then as we continue to pay off the higher-cost funding sources while driving strong organic growth, we should see a stabilization of revenue and then a resumption of growth, leading to a year-over-year revenue decline of roughly 7 to 8 percent, with our net interest margin expanding from here to reach a level in the mid-210 basis points by Q4, assuming the dot plots from a couple weeks ago, so two more 25 basis point Fed increases. On the expense side, we've already taken steps to trim our spending levels this year, such that we now expect our 2023 adjusted expense growth to be somewhere in the six-ish percent range, inclusive of 160 roughly million dollar one-time FDIC surcharge. Meaning that our other spending is tracking roughly 300 basis points below the range we communicated back in January as we have adjusted and optimized our expense base consistent with Walsh's earlier comments. Turning our attention to 2024, we expect to see strong growth in revenue and profitability driven by an expansion of net interest margin into the upper 200s as we see a return of core deposit growth and pay off the vast majority of the supplemental funding we've accessed. and their realization of at least $1 billion of net run rate expense synergies, including more than $500 million, pardon me, in net 2024 reductions relative to the outlook we shared back in January. And that would imply that 2024 adjusted expenses could be similar to or potentially even a little below 2023 levels. From a capital standpoint, our plan is to continue to conserve capital for the immediate future. And we see a clear path toward growing our consolidated Tier 1 leverage ratio, inclusive of AOCI, back to our operating objective at some point in 2024, at which point we could be in position to resume more opportunistic capital return. And then looking even longer term, we continue to see a significant opportunity for continued NIM expansion even after we realize the benefits of paying off the supplemental funding. And that comes from investing new money and reinvesting principal and interest from our existing securities portfolio at rates that are much higher than we earn today. It's important to note this would still happen even if rates fall from their peak as the dot plots currently suggest. I've spoken at length this morning about some of the dynamics that are temporarily weighing on our financial performance. And as those dynamics fade into the background, we remain very confident that our financial formula will reassert itself to drive long-term earnings growth, as it has for multiple decades. It's built on our through-client-side strategy and no-trade-offs approach, which positions us to drive sustainable, and consistent organic growth. And even as we've worked our way through multiple rate cycles, made disruptive moves like cutting equity commissions to zero and acquiring Ameritrade, we've been able to convert that strong organic growth into client asset growth, revenue growth, and through ongoing expense discipline, expanding margins, and then through efficient capital management, drive mid-teens plus EPS growth through the cycle. That has been the financial formula for Schwab for much of our history. And as we emerge from this unique period, we're extremely confident it will continue to reward our long-term stockholders for years, decades to come. With that, I'll turn it over to Jeff to facilitate our Q&A. Jeff.

Thank you, gents. Operator, can you please remind everyone of our process and go ahead and start the Q&A portion of the program?

Yes, thank you. At this time, if those on the phone would like to ask a question, please ensure that your phone is unmuted. Press star 1 and record your name clearly when prompted. If you would need to withdraw your request, you may press star 2. Again, to ask a question, that is star 1. And our first question is from Ken Worthington with JP Morgan. You may go ahead.

Hi, good morning. Thanks for taking the question. My question is on the revenue synergies from Ameritrade and your expectations now. In January, I believe you expected $2.5 to $2.8 billion of revenue synergies from the transaction, with BDA balances as the leading driver. Have, and if so, how, have cash sorting and the revised BDA agreement impacted both the size and the timing of your expected revenue synergies here?

I'll take that one. Thank you, Ken. So I'd say fundamentally, we remain very, very bullish on the revenue synergies. And as you point out, certainly a significant portion of those revenue synergies are coming from moving the BDA balances from TD Bank over to Schwab Bank's balance sheet. over time. And those continue, despite, you know, the fact of the way that we've renegotiated the IDA agreement. That's more of a near-term dynamic. The long-term, you know, implication of that, the long-term planning has not changed, which is that we'd expect to move those balances over our balance sheet and realize those revenue synergies from doing so. But that's only part of the story. And I think the other part of the revenue synergies we're very, very excited about. And those come from, you know, allowing the legacy Ameritrade clients to have access to Schwab's broader array of wealth management solutions, lending, advice, et cetera. And Rick talked in his comments about some of the early signs of progress of interest in those solutions. You know, if you look at the penetration rate of advice among their legacy retail clients within Schwab, it's about 19%. Ameritrade, it's about 6% or 7%. And, you know, we think that's a huge untapped need. We know those clients are interested in that advice, and we're very, very excited about that opportunity, which we think will unfold over multiple years.

Thank you. The next question is from Dan Fannin with Jefferies. You may go ahead.

Thanks. Good morning. Peter, understanding that, you know, the client cash has been sorting, has been slowing, you know, throughout the quarter, but your outlook for resumption of deposit growth is prior to your end. Just curious, you know, normally we have positive seasonality with cash build around December. Are you assuming growth in deposits X the normal seasonal benefit?

Dan, I don't know if I want to parse it quite that finely. I mean, I would say is we do expect that we'll see a resumption. I mean, if you look at the trends from, you know, frankly, even from the first quarter, from March to April, April to May, you know, May to June, and you don't have to do two unusual, I guess, extrapolations to see that flipping. So we'd expect it will see return of deposit growth I would say ahead of that typical seasonal buildup that you get in later November and into December.

Thank you. The next question is from Brian Bedell with Deutsche Bank. You may go ahead.

Great. Thanks. Good morning. Thanks for taking my question. Maybe just on that subject, if we do see the build-in deposits as we move through the year, and into 24. Peter, can you talk about what type of LCR ratio would you prefer to operate in? It's been, I think, historically in the last year or so in the 110 to 130% range. It's well above 100%. But is that a range that you would generally like to stay in, or in the new environment, would you prefer to build liquidity over and above that range? And then if it's in that range, could that imply faster FHLP pay down than your model potentially?

Yeah, so, I mean, I think, I guess I would say, answer this a couple of ways. I mean, when we think about LCR, what we really focus on is the LCR. And there's certainly LCR at the banks, but there's also LCR at the parent. And when we look at the LCR at the parent, that's really driven more by what's happening on the broker-dealer side. That tends to be the, we have, and so that is a function of what's happening at margin balances, free credit balances, and so forth. You know, within the banks, we certainly have ample access and ample liquidity, a very, very liquid portfolio there. We have been running a little bit higher levels of cash. I'd expect that as we continue to put some distance between now and where we were, you know, back in March and sort of some of the stresses around the banking system, we'll continue to let those cash levels decline. and that will be a contributor to paying down and retiring some of the CDs and the FHLB. So I would say that would probably be the bigger factor is continue to let those cash balances decline back closer to our operating objective, which is more around 5% or 6% of deposits.

Thank you. The next question is from Steven Chuback with Wolf Research. You may go ahead.

Hey, good morning. It's Michael Anagnostakis. I'm for Stephen. Just maybe another one on the balance sheet here. Now that it feels like the dust has settled from the banking crisis, is selling down a portion of the securities portfolio something you're considering to pay down high-cost borrowing sooner? And from a regulatory perspective, would your lower Tier 1 leverage, inclusive of AOCI, preclude you from crystallizing those losses? Thank you.

Yeah, thanks very much for the question. I know there's been a lot of, I guess, speculation on this and a lot of discussion about this. I'm glad you asked this. So, you know, let me reiterate, first and foremost, we do not need to, and something we said previously, we do not need to sell securities. We have plenty of liquidity to support the client cash allocation activity. As we talked about, that activity is slowing and remain quite profitable. Our capital levels are growing and our NIM is poised to improve, as we've talked about, At the same time, we certainly recognize that selling securities can look good on paper from a financial standpoint as it would accelerate some of the trends that we'd otherwise see, things like increasing our go-forward net interest margin, net interest revenue, accelerating the pay down of borrowing, building our capital levels. But the important point is that's an acceleration of trends that are already happening. And we're very mindful of the potential risks that doing something like that could be misunderstood or misperceived by the outside world and, most importantly, by our clients. And so I would say it remains something we won't rule out, but it's not something we are actively pursuing at this time. Thanks for the question.

Thank you. Our next question is from Michael Cypress with Morgan Stanley. You may go ahead.

Hey, good morning. Thanks for taking the question. I was hoping you could elaborate a bit more on some of the steps you guys are taking to expand advice penetration within the retail customer set. I think that's maybe around 14% today, advice penetration of the retail customers. What actions can you guys do to accelerate and lift that higher over time? What level do you think is achievable? If you look out like five years, is 20% reasonable? which offerings and services do you think will be the most meaningful in helping drive that uplift?

So I would say that we have lots of opportunity in driving advice penetration, and the reason being that our clients are increasingly looking to us for advice. They want help and guidance. In all measures where we survey clients, they're asking for more help and guidance, and we'd like certainly for Schwab clients to – to turn to us for help and guidance. We want to provide what they need. We've done a lot to try to bolster our offerings, and I'll share a few things. The first thing we've done is we've taken our proprietary Schwab Wealth Advisory offering, which is our full-service wealth management offer to clients, and we've invested in it tremendously in the past couple of years. And we've seen the returns to that. As you can see by the 90 percent increase in flows our 89% increase in net flows that we reported, as well as the really strong client promoter scores that we consistently earn in that offer. So the investments have been paying off, and we've seen an acceleration of growth there. And as I mentioned earlier, a lot of it has come from Ameritrade clients who didn't have access to a program like this previously that are now turning towards it. So that is all encouraging. We also, as you are aware, bought Wasmer Schroeder a few years ago. We're seeing just tremendous growth in the fixed-income space for clients that want help and guidance there. And then we are encouraged by what we're seeing in Schwab personalized indexing. We believe five, 10 years from now, taxable assets, that will be the primary location that clients save or invest in and, you know, taking share from ETFs over time. And we're at the forefront of that, driving down the cost for clients to, participate in that, as well as the minimum asset size. We've democratized access to personalized investing, which is very much in line with our heritage. And then finally, what I would say is our SAN program, our Schwab Advisor Network program, continues to grow and gain really strong flows on our platform. We want to make sure clients have access to whatever help and guidance they need, whether it's a Schwab proprietary offer or something through our advisor network. And we continue to see robust flows there. The combination of all that is growing at Schwab, and it's also growing among Ameritrade clients. So we think the future is really bright and wealth. We've invested a lot in it. And thankfully, we're seeing the returns to those investments, both at Schwab and among our Ameritrade clients.

Thank you. Our next question is from Alex Blostein with Goldman Sachs. You may go ahead.

Hi, good morning, everybody. I was hoping you could provide a little bit more color on sort of how net new money is allocating cash once it gets into Schwab. So as you think about your organic growth kind of net, you know, 5-ish, 6-ish percent range recently, what percentage of the cash that comes across actually goes into the Schwab bank versus into some of the higher yielding options? Thanks.

Yeah, it's a tough, I mean, we get this question a lot and it's a really tough question to answer because it really is kind of what timeframe are you looking at when you answer that question? I mean, the money tends to come in heavily in the form of cash, sort of 45 or 50% maybe in the form of cash, but over time, not surprisingly, it gets invested and it gets invested in ways that look similar to our existing clients. So, you know, clients often will bring in cash, invest in the equity markets, invest in mutual funds, fixed income, and typically leave some of that cash on the balance sheet as transactional cash. So it really depends. New accounts versus existing accounts tend to have different behavior. But I would say that in aggregate over time, as we grow new accounts, those new accounts typically bring a level of transactional cash that helps to offset or more than offset any residual client cash realignment activity that's happening among our existing accounts. And so that becomes an important support source of deposit growth over time.

Thank you. The next question is from Brendan Hawkin with UBS. You may go ahead.

Good morning. Thanks for taking my question. I'm curious, Peter, if you have considered what TLAC, if that was applied to Schwab, might mean and what that would mean as far as the long-term debt you might need to carry. Obviously not versus where we are today because we've got this big buildup of the wholesale. But once we get to sort of steady state versus the steady state before this all began, have you considered that and what impact that might have?

Yes, we certainly have considered and looked at that, and I think there's still a number of dimensions of that that are to be determined, and so the implications are a little bit up in the air. But I would say the bottom line is none of the implications we think are going to be in any way disruptive. I mean, they'll be very manageable. Depending on how the TLAC is calibrated, whether it's calibrated at the G-SIB level or it's calibrated at sort of a lower level, Based on the analysis we've seen, we could have either enough debt already or have to issue a very modest amount, a couple billion dollars, two, three billion dollars of incremental debt. Again, when you think about the carrying cost of that, it's quite modest. We don't see that as being a significant factor moving forward.

Thank you. The next question is from Benjamin Budish with Barclays. You may go ahead.

Hi there. Thanks for taking the question. I wanted to double-check on the incremental cost synergies you talked about. In the slide deck, you mentioned that the 2024 expense growth of flat to negative is based on the assumption that you realized those savings. Is that the plan, that the remaining $500 plus the additional $500 will all be realized over the course of 2024? How do we think about the risk that expense growth could be slightly positive, or just the parameters around which we might think about modeling next year's OPEX growth?

Sure. So, you know, as we shared previously, the $500 million of remaining expense synergies related to the integration, the majority of those will be unlocked as we complete the integration and the months after we complete integration. So, as we shared previously, we'd expect that the vast majority of that $500 million would be realized on a run rate basis by the end of 2024. The $500 million of incremental expense savings that Walt previewed in his comments, we'd expect the vast majority of those to be realized by the end of 2023. And so those would have a, both of them have an impact on 2024, but those are incremental to, those are not contemplated in the scenario that we had shared at the winter business update, where I think we talked about something like four to 5% adjusted expense growth from 23 to 24. you know, you take that and you just subtract that, at least that $500 million plus, as we talked about, that's how you get to flat to negative adjusted expense growth from 23 to 24. But again, given the fact that we're realizing some of the expense synergies in related integration in 2024, that will clearly have a benefit as we go from 24 to 25 as well. So, it's really looking at two years of, of, you know, sort of below trend expense growth, adjusted expense growth.

Thank you. The next question is from Chris Allen with Citi. You may go ahead.

Good morning, everyone. I was wondering if you could provide an update on the technological improvements expected for the lending platform this summer. Assuming deposit growth picks up later this year, how do you see the asset side of the balance sheet expanding? I see more of a mid-shift towards lending versus rebuilding the securities book.

Yeah, we've got some exciting developments on the lending side. One of the things we're thrilled to do is launch a digital pledged asset line experience here during the month of July to our advisors. And we anticipate that will be among the easiest and fastest pledge asset line experience in the industry. We'll do the same in retail. We'll follow with retail. And there's a number of other things we've done on the lending side to make it easier for our higher net worth clients to get a mortgage through Schwab. We've also done things you've seen, I'm sure, with our investor advantage pricing, which makes taking a loan through Schwab, if you're a client and have assets with us, again, among the lowest cost places to get a loan. So we see the opportunity for meaningful growth here. You know, lending environment clearly is challenging, so we're not seeing the returns to those investments just yet that we might otherwise have seen. But what's important is we are laying the foundation for when the lending environment is appealing, more and more clients will turn to Schwab for their lending because we've made it easier, we've made it more seamless, we've made it even less costly, and there should be no better place to take a pledged asset line or a mortgage than through your relationship here at Schwab. So we feel confident that when the lending environment improves, we're going to be there.

Thank you. The next question is from Patrick Moley with Piper Sandler. You may go ahead.

Yeah, hi. So just wanted to go back to the $500 million of incremental cost saves. Wondering if you could elaborate a little more on the areas that those cost saves are coming from. Walt mentioned real estate savings as a driver. And I know last week you announced that you were downsizing your closing offices, and I think it was over 10 cities. I was just wondering if you could maybe quantify the impact from that reduction in a real estate footprint, and then maybe how much of that was already baked into the AMPD integration cost savings that you guided to, and how much of that is maybe newer. Thanks.

Sure. Thanks. So all of it is incremental. None of that was baked into the Ameritrade integration saves. I think one of the items that's important to understand is that over the last several years, as we began preparation for the integration, we recognize that having that go smoothly for the new clients from Ameritrade that would be joining Schwab was the single most important thing we could do. And so when it came to spending and investing, the answer was yes, an awful lot. In fact, if you look at our current expenses today and compare them to the sum of what Schwab and Ameritrade's expenses were at the time of the announcement of the acquisition, they're about 20 percent higher than they were at that date. And so this fairly significant ramp up of hiring and expenses that we have incurred in the last three years to ensure this integration went well, we now will be faced with the opportunity to unwind that. So when I talk about $500 million plus, in addition to the remaining $500 million from integration from Ameritrade, that's what gets us to over a billion dollars in expense savings that we'll recognize between the remaining months in 2023, as well as as Peter referenced in 2024 from the integration wrapping up.

Thank you. The next question is from Kyle Voigt with KCW. You may go ahead.

Hi, good morning. I'm assuming the repayment expectations for short-term funding through 2024 is part driven by the growing client cash and then part by the shrinking securities portfolio so my question is on the securities portfolio specifically um if we look at average balances they were down about 4.3 percent sequentially or 14 billion i guess when you look at the current maturity schedule and and expectations for prepayments in the current interest rate environment what are your updated expectations on how that securities portfolio uh how the balances could trend over the next six months or maybe 12 months

So the way I think about it is in terms of when we think about it, we think about sort of the principal and interest payments off the securities portfolio, and we use that as a mechanism to support that cash realignment activity and then also to pay down some of the short-term borrowings. And, you know, that's tracking about $5-ish billion per month, you know, $15 billion per quarter. You know, as that portfolio, you know, that, of course, that month, those monthly cash flows will decrease modestly. But even in through next year, you know, we'd still expect that to, those monthly, that monthly activity to be, you know, $4 billion plus, $4 to $5 billion, somewhere in that range over the course of 2024 as well.

And just looking at the clock, I think we have time for one last question before we wrap.

Thank you. Our last question is from Devon Ryan with JMP securities. You may go ahead.

Thanks. Good morning. Most questions have been asked here. Maybe just one kind of ticky-tack on the model. Securities lending revenues have been bouncing back a little bit, and that can move the NIM around. So I'd love to get a sense of how you guys think about kind of a normalized level of securities lending, and if we should just be looking for kind of what's happening in the capital markets. I know when there's more active maybe IPO market or capital markets environment, that can be better. So just thinking about what's going to move that back to levels that were, I think, healthier back in late 2021.

Yeah, so you're right. So securities lending revenue does move around, you know, can move around month to month, you know, day to day, frankly, based off of oftentimes, you know, a demand for a relatively small number of hard to borrow stocks. And that's really what we focus on is the hard to borrow stocks. We're the largest lender in the industry for those hard to borrow stocks. And many times they are event driven, whether it's a SPAC or a D-SPAC situation or IPO or whatever it might be. You know, I think over time, I guess I would say two things. One is over time, we would expect that securities lending revenue to grow with the growth in margin balances because that creates more inventory and the growth in our total client assets. At the same time, we see a significant opportunity to continue to grow SEC lending revenue sort of irrespective of what happens with balances. You know, we've talked previously about the combination of the green and blue SEC lending capabilities on the Ameritrade side has access to more hard-to-borrow stocks. But on the blue side, on the Schwab side, we have had some more advanced capabilities, such as a more mature fully-paid program. And so, you know, we're very, very excited about that combination and continue to unlock the significant opportunities that combination provides. And, you know, for example, making more of our clients aware of the fully paid opportunity. So I think, you know, that we see that as a revenue synergy from the combination and a great opportunity moving forward. Okay, and I think that is, I think that we said that was our last question. So let me just close this out here as we're getting to the bottom of the hour. You know, there's no doubt that the last few months have presented some challenges for our clients, our people, and our business. And Walt spoke at the outset about the metaphorical fog that has obscured, I think, the enduring quality of the Schwab franchise. And And as we're sitting here today in this 100-degree Texas heat, it feels like that fog is starting to clear. And as it does, I think what you see is a company building loyalty among clients that is among the highest in the industry, producing consistent 5% to 7% organic growth, positioned strongly in the two fastest-growing segments in wealth management, delivering consistent profitability highlighted by a 42% adjusted pre-tax margin during one of our our toughest quarters in a long time and pursuing a lot of opportunities with the Ameritrade integration and beyond to drive growth and to deliver even greater efficiency. And as I hope you've gleaned over this past hour, we remain very confident about the path forward and our future. And we look forward to discussing our continued progress with you at our next update in October. Thanks, everyone.

Thank you. That does conclude today's conference. Thank you all for participating. You may disconnect at this time.