Jason Zweig writes again on brokerage sweep accounts in this weekend's Wall Street Journal "Intelligence Investor" column. The article, entitled, "Your Brokers Can Make 10 Times More on Your Cash Than You Do," and subtitled, "It pays to pay attention to what your brokerage is doing with your cash," tells us, "When some investment firms say they will treat your money as if it were their own, they mean it -- all too well. If the Securities and Exchange Commission wants to make good on its promise to compel brokers to act in their customers’ best interest, it should shine a klieg light on how brokers treat investors’ cash. Investors invest, but of course they leave billions in cash in brokerage accounts, too." (See our March 12 News, "WSJ Hits Brokerage Sweep Rates.")
The piece explains, "At Morgan Stanley, $6.3 billion of that cash is in a money-market mutual fund yielding 1.8%. On Aug. 13, the firm will shut that fund and sweep its clients’ idle cash into bank accounts that, after a transition period, could yield much less. As Charles Schwab also did earlier this year, most major brokerages have shoved clients out of money-market funds and into lower yielding bank sweeps, thereby capturing much of the return on customers’ cash for themselves. In a bank sweep, your brokerage automatically rakes together and deposits your spare cash in one or more banks. Banks hand the brokerage a hefty fee, and the brokerage hands you some crumbs. For any given investor, a few dollars from dividends or interest income don’t amount to much. Rolled together with idle cash from thousands of other investors, they can add up to millions."
The WSJ's Zweig says, "Even as short-term interest rates have risen to roughly 1.9% from 1.1% over the past year, brokerage firms have barely budged how much they pay on their customers' cash. These firms often describe cash sweeps as 'a low-cost source of funding.' They're not kidding. You've probably never realized how badly you could be getting stiffed: Sweeps often affect only a few dollars at a time, and the disclosures are hard to find, understand and compare. All this is perfectly legal. Regulations don't require brokers to pay you anything on your cash, says Paul Clark, a partner in banking and securities law at Seward & Kissel in Washington, D.C."
It continues, "Bank sweeps have considerable benefits: federal deposit insurance, instant access to your money, checkwriting, a debit card, online bill payment and the like, all with no fees. A broker's profits on sweeps may subsidize other services -- lowering commissions, for example. What's more, if you just put your money in a bank instead, the bank would also make a fat spread off you -- with even less disclosure of how much profit it is earning. The foregone gains aren't huge. If you hold $10,000 in cash, you could earn about $200 over the next year, at current yields, in a money-market mutual fund. In the average brokerage bank-sweep account, you would make $19, according to Crane Data, a firm in Westboro, Mass., that tracks cash rates."
The Journal states, "Yet brokers talk constantly these days about acting in your best interest. Pushing you into sweep accounts that are far more lucrative for them than for you seems inconsistent with that noble goal. And sweeps are rife with conflicts.... Many brokerage firms sweep your cash into banks their parent company owns. Charles Schwab's brokerage now deposits all its bank-sweep balances at siblings Schwab Bank and Schwab Signature Bank.... At Ameriprise Financial, which has $24 billion in cash from clients, revenue from sweeps was up 56% in the first half of 2018 over the same period last year, Chief Executive James Cracchiolo said in a call with analysts on July 25.... The sweep business is so lucrative that Ameriprise expects to launch its own bank next year, partly to capture the spread for itself, the company’s management confirmed on the July call."
They add, "Brokerage customers at E*Trade Financial Corp. averaged $37.9 billion in sweep deposits in the first half of 2018, according to the company's latest earnings release. The firm lists 29 banks where it may deposit cash sweeps.... Investors with sweep accounts at the brokerage division of LPL Financial Holdings earn 0.16% on a $250,000 balance. LPL, meanwhile, is making roughly 1.85% on its customers' cash, Chief Financial Officer Matthew Audette said on a call with analysts and investors on July 26. Cash sweeps contributed 25% of LPL's total gross profit in the second quarter, nearly as much as LPL's commission and advisory fees combined, according to a financial presentation by the firm. At Raymond James Financial, clients have $41 billion in bank sweep accounts."
Finally, Zweig comments, "Part of the problem is inconsistent and incomplete disclosure. Some brokerages say how much they are taking in fees; some disclose the maximum they could take. Some disclose they will sweep all your cash to banking affiliates; some don't clearly state that their sibling banks get first dibs on your dough. Regulators could do more to make these disclosures informative. The bottom line: Brokerages are getting rich on your money. You have the right to change how they handle your cash, and you should."
For more on brokerage sweep rates and issues, see our latest Brokerage Sweep Intelligence report or see the Crane Data News articles: Morgan Stanley to Sweep More to Banks from MMFs; PI on Stable Value (6/6/18), Schwab Changes Brokerage Cash Sweep, Adds Bank, Cuts Money Funds (2/16/18), Schwab Liquidating MMF, Shifting to FDIC; Brokerage Sweep Rates Jump (1/4/18), Wells Bumps Up Brokerage Sweep Rates, Raises FDIC Insurance Coverage (10/12/17), Signs of Life in FDIC Brokerage Sweeps; StoneCastle on Sweep Platforms (5/9/17), UBS Liquidates Sweeps, Goes Govt; Vanguard Floats Internal Money Fund (6/29/16), and WSJ on Corporate Deposits; Brokerages Raise Rates; TBS Deal on Sweeps (6/27/17). See also, Crane Data's Link of the Day updates: Forbes.com Takes Swipe at Sweeps (3/22/18) and StoneCastle to Enter Sweeps Market, and well as the May 2018 issue of MFI.
In other news, PIMCO posted a video featuring Jerome Schneider called "5 Reasons to Like the Front End of the Yield Curve." He tells us, "With the Federal Reserve looking to increase rates over the foreseeable future, we believe that the front end of the yield curve of the U.S. bond market is a place to possibly consider for several different reasons."
Schneider explains, "First of all, there is a potential for positive absolute return within the front end universe. Where short-term strategies really focus on the front end of the yield curve, their interest rate composition can be ranging from zero to one year. In fact in the current yield curve environment, short-term treasuries can withstand a recalibration to higher rates. That is simply because of where yields are at the front end of the yield curve right now. The composition of higher rates and more importantly, the diversity of portfolio composition across high quality assets in the investment grade, including `treasuries, corporates, and structured products make the potential for absolute returns likely over the foreseeable future."
He continues, "The second element is low volatility.... The third element is simply looking to capture higher rates going forward and specifically looking for higher LIBOR rates or credit-sensitive rates in the short-term space. As a result, we have been having higher allocations in our short-term portfolios that help to embrace those higher rates going forward. For us, higher LIBOR rates ultimately means that we are being paid a higher compensation for potential credit risk."
The PIMCO PM explains, "Next, positive real return is something we need to be considering for portfolio positioning. Over the past ten years or so, investors have really not begun to think about the impact of inflation on returns. Now with CPI increasing over the secular horizon, we need to really be thinking about the potential impacts of inflation. Real return affectively in inflation-adjusted terms is something that short-term portfolio investors simply have not been paying attention to. As we think about increasing inflation, the goal of a portfolio should also be not just normal returns, but positive real returns. With short-term bonds yielding 2% to 2.5% or more positive real returns is something that is potentially in the cards for investors to help shield them from the increasing inflation metrics we see."
He adds, "Finally, the cost of liquidity is an element of composition that we need to be thinking about for portfolio positions. Specifically being opportunistic for short-term portfolios, there is a low cost to liquidity because the bonds that we hold are relatively short-dated. As a result, this is a relatively low-cost place to manage liquidity over the foreseeable future. With monetary policy changing over the next few quarters ... investors need to be more and more cognizant of these changes on the impact of volatility and more importantly, rate increases on their portfolio. [W]e believe that the front end of the yield curve of the U.S. bond market is a place to possibly consider to have a balance between liquidity, capital preservation, and ultimately income."
