Is Charles Schwab’s $7T in Jeopardy in the Banking Fallout?

Charles Schwab lost more than 25% of its stock value since March 8. In almost every way, Schwab is different from the collapsed banks. It has more than $7 trillion in assets across its business lines. It is adequately funded even if all depositors pull their money. Schwab has over 34 million accounts, and fewer than 20% of depositors are overexposed above the $250,000 FDIC limit. Both Silicon Valley Bank (SVB) and Signature Bank were about 90% uninsured. Since the collapse of SVB, $16 billion of new funds have found their way to Schwab. Schwab is not heavy in cryptocurrencies, venture capital, or other high-risk portfolio allocations. Charles Schwab’s numbers appear solid. Why is the banking giant’s stock hemorrhaging and appears to be a part of the regional bank fallout?

It is not as it appears. The bank is not becoming insolvent or overleveraged. In 2020 and 2021, Schwab bought large quantities of low-yield, long-term bonds. Higher interest rates created significant paper losses on assets allocated to be held until maturity. As the Fed raised interest rates, the paper losses snowballed. In February 2022, Schwab moved $189 billion of its government and mortgage-backed securities from "available-for-sale" to "held-to-maturity." By March 2022, paper losses had grown to $5 billion. By December 2022, paper losses were $13 billion. Schwab plans to hold more than $150 billion to maturity with an average yield of 1.74%. $114 billion of those bonds will not mature for a decade. 

When interest rates rise, bond prices go down. The paper losses make the bank appear to be losing profitability, but losses are only locked in once you sell. Schwab decided to hold the bonds to maturity instead of selling for liquidity. Most of their bonds have about four-year durations. Schwab has enough liquidity to cover liabilities. Their maneuvering saved their clients from massive market losses but destroyed their stock price. To understand how bonds work, click here. 

Namesake founder Charles Schwab and CEO Walt Bettinger released a joint statement about the falling stock price. The statement highlights some business components and how it differs from traditional banks. Schwab is primarily a broker with a side banking business. It holds an extremely conservative and highly liquid portfolio with more than 85% in governmental and agency-backed securities. The statement lists and expounds on seven compelling points why investors should ignore the falling stock price.

1.  Our stock price does not reflect the strength of our business.

2.  Focusing attention on ‘unrealized losses’ in our held-to-maturity (HTM) portfolio is very misleading.

3.  Clients deposits may move, but they are not leaving the firm.

4.  We have taken relatively little risk in our portfolio.

5.  The way we manage our balance sheet is very straightforward and hasn’t changed. 

6.  We do not forecast Fed rates or make investments based on where rates are going.

7.  Comparing unrealized losses across firms with different business models can be misleading.

The most important quote from the statement reads, “Stock prices go up and down, and we do not manage our business according to the stock price, but rather according to our long-term view on what is best for our clients and the health of the business.” It is refreshing to hear about a large company more concerned about its clients than the stock price. Most large corporations and financial institutions that received a government bailout in 2008 manage their companies according to the stock price because most C-Suite compensation packages usually involve stock options. 

Schwab taught the world a valuable lesson. Refrain from letting the day-to-day changes in the market dictate your investment strategy. Many people will not realize what Schwab did, but it was brilliant. Schwab saw the danger and hedged its position by changing from a short-term liquidity position to a long-term strategy. Essentially, Schwab realized that higher interest rates would devalue their bond holdings. It rearranged some portfolio holdings to eliminate the need for liquidity so it could watch the paper prices drop without affecting its underlying value.

It is okay to steal a page from smart money's playbook. If you see danger on the horizon for the Dollar, you could move to a longer-term position with precious metals. 

Call the U.S. Gold Bureau

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