Schwab Sets Its Sights on Greener Turf
At Charles Schwab & Co.’s plush, quiet new Private Client offices on the 19th floor of a Century City high-rise, there’s no electronic ticker streaming stock prices overhead, no crowd eyeing CNBC’s Wall Street coverage--no crowd, period.
But the calm is deceptive: This is ground zero in the leading online brokerage’s high-stakes gamble to pursue, and personally advise, affluent investors.
It’s a major leap for a firm best known for empowering a generation of do-it-yourself investors. What’s more, the move risks upsetting Schwab’s lucrative alliance with the army of independent financial advisors who have helped the San Francisco-based company grow into a powerhouse.
For Schwab, the potential rewards in catering directly to the wealthy are huge.
“High-net-worth” individuals, those with at least $1 million in investable assets, control $27 trillion worldwide, according to a recent wealth study by Merrill Lynch and Cap Gemini Ernst & Young. And the study projects that assets of those in the millionaire ranks will grow 8% a year over the next five years.
Those are the primary investors targeted by Schwab Private Client, which is available to clients with at least $1 million.
With baby boomers now in their prime investing years, and more of them accumulating substantial sums, financial services companies of all types are scrambling to help manage--and generate fee income from--those assets.
Many wealthy people already use Schwab, but often with a gatekeeper: an independent financial planner.
Schwab has referred about 75,000 investors and $10.5 billion in assets to investment professionals through its AdvisorSource referral program since its launch in 1996, keeping assets at the firm even though those clients have needed or wanted more guidance than the firm’s typical do-it-yourself customer does.
In addition, about $225 billion, or more than 25% of Schwab’s assets, are in Schwab Institutional, the 14-year-old unit that 6,000 independent advisors, including those inAdvisorSource, use for custodial and back-office services.
Now, Schwab wants to be more than a custodian for high-net-worth individuals. It wants to be directly involved in advising them.
“The attraction is obvious, but the risk is that one of the differentiating factors between Schwab and other brokerages is the mutually beneficial relationship it has with the thousands of investment advisors it works with,” said James Marks, analyst at Credit Suisse First Boston. “That relationship has worked tremendously, and it was one of the smartest things the company has ever done. But if the financial advisor community ever decides Schwab is their competitor instead of their partner, look out.”
Move Goes Beyond Boomer Demographics
Some advisors already see Schwab as a rival.
“I’m stunned by the speed with which they’re moving onto our turf,” said Harold Evensky, a Coral Gables, Fla., financial planner. “They say they’re partners with the independent practitioners, but we see them as becoming potential competitors. If you look at their description of the offering, it sounds exactly like what we are doing.”
Schwab Private Client, introduced late last month in Los Angeles, Houston and Atlanta and slated to be rolled out in three more cities this year, charges an annual fee based on client assets rather than commissions. The firm also has introduced a separate account service in which wealthy investors can have their assets individually handled by leading money managers, with Schwab as the coordinator.
Schwab, founded in 1974, made its name in the 1970s and ‘80s catering to the independent investor who wanted reasonably priced trade executions. The firm then paced the online trading boom of the late 1990s.
Schwab calls Private Client, which offers services such as trust and estate planning, a key step in its evolution as a “full-choice” brokerage.
“From a strategy standpoint, the baby boom generation is a demographic trend that’s tough to fight,” said Andrew Salesky, senior vice president of Schwab Private Client. “We have to evolve and refine our offerings.”
The firm is also focusing on the affluent for reasons beyond demographics, analysts say.
Online trading has been a volatile revenue source, plunging over the last year as stocks have tanked. Schwab has laid off more than 2,000 of its 26,000 employees this year to slash costs.
Because high-net-worth investors tend to be well-diversified, often allocating capital to so-called alternative investments such as hedge funds and venture capital as well as stocks and bonds, their assets are considered “sticky”--meaning they tend to stay with an advisor once chosen.
Analysts say discount brokers such as Schwab could be seizing a prime opportunity by focusing on the lower tier of the high-net-worth market. In Schwab’s case, its main target is investors with “only” $1 million to $5 million.
“Major banks and brokerages are moving the definition of ‘high net worth’ ever higher. Now it’s generally considered $10 million to $15 million and up,” said Shaelyn McGuire, consultant with Cerulli Associates in Boston. “People at lower levels may feel like they’re getting left by the wayside, relegated to little more than a call center and online access.”
Yet some banks and full-service brokerages are skeptical that discount brokers will suddenly be able to meet the complex needs of the rich.
“The Schwabs and Fidelitys made their names and fortunes on scalability [of basic services], but high-net-worth investors won’t stand for any prepackaged products,” said Richard Weiss, chief investment officer of City National Bank in Beverly Hills, whose private-client target market is the $10-million-and-up crowd.
But Paul Hoskin, head of Schwab’s new five-person Century City office, notes that despite its early image, the firm is no stranger to the affluent, already serving 80,000 households with assets of more than $1 million, not including AdvisorSource.
Schwab sees those households, including many in Southern California, as prime candidates for Private Client, but it also believes it has “plenty of room to grow” in the affluent market by adding new customers, Salesky said. By its own estimate, Schwab has only about a 2% share of the wealthy market in its retail division, or 5% including its institutional and U.S. Trust assets.
Schwab has been careful to seek input from independent financial advisors in developing Private Client, Salesky said.
“We see [Private Client] as complementing our relationship with advisors,” he said. “Many clients want referrals to third parties with a particular expertise, and for them independent advisors are a great solution.”
Some Advisory Firms Don’t See a Threat
Rather than taking aim at its advisors’ business, Schwab sees other financial services giants--such as Fidelity Investments, Merrill Lynch, Citigroup and J.P. Morgan Chase--as competitors for Private Client, Salesky said.
Though some independent advisors are peeved by Schwab’s move, they are not necessarily scared.
“Schwab won’t be able to offer remotely the same level of service we do,” said Evensky, who added that he would have to “seriously rethink the relationship” if his firm weren’t already in the process of moving its clients’ assets from Schwab to Fidelity.
“The personal delivery of financial planning is hard to institutionalize,” said Ross Levin, a Minneapolis financial planner. “Last year, for example, we bought 30 cars for clients. Would Schwab do that?”
Added Joel Framson, a West L.A. financial planner: “We’re a boutique. We emphasize things like ‘family office’ services, paying clients’ bills, interfacing with charitable entities. Investments are a small part of what we do. A big company like Schwab, with all that overhead, almost has to end up providing packaged services.”
With only 150 clients, Framson’s firm has a ratio of about 50 customers per advisor, versus Schwab’s eventual target of 100 to 200 to 1.
Still, many advisors say they remain friendly with Schwab.
“They’re still making referrals to us, and I expect that to continue because we have high client retention. Our clients don’t leave and go to other brokerage firms,” said Victoria Collins, an Irvine-based financial planner with about $1 billion in assets at Schwab.
“So I don’t see them as a competitor. Sure, they’re offering a greater suite of services, but it hasn’t impacted our business. Let’s face it: Everybody is moving into asset-gathering, especially in the high-net-worth area,” Collins said.
Indeed, advisors and analysts had expected such a move from Schwab since its blockbuster acquisition last year of U.S. Trust, which has catered to the wealthy since 1853.
Vowing Not to Become Another Merrill Lynch
Some independent advisors say they already have stepped up efforts to compete with Schwab and other big firms that are increasingly wooing the wealthy.
Framson, for instance, said he is hiring a psychologist to help clients cope with the emotional issues of wealth transfer between generations.
Some industry analysts call Private Client a smart way for Schwab to hang on to assets--no matter how much new money it ultimately brings in.
“Schwab has grown up with the baby boomers, and if they want to retain all those assets at the end of the day, they have to refine their offerings,” said Jaime Punishill, analyst at Forrester Research in Cambridge, Mass.
He downplayed the significance of Schwab’s balancing act with advisors. Many mutual fund companies, such as American Century, sell products directly to investors as well as through intermediaries, and regularly face similar issues, he said.
Though Marks said it remains to be seen whether Schwab’s Private Client model will be a success, he wondered whether the firm could be missing an opportunity to “create an entirely different paradigm” for retail financial services.
“Instead of seizing that opportunity, they’re re-creating what other companies are doing,” Marks said. He’d like to see Schwab beef up services such as online bill payment, mortgage and insurance transactions--areas with mass appeal.
“The Internet could change the nature of what a financial services company is, and no one’s better equipped than Schwab to do that,” he said. “The broad question is: Where does Schwab want to be in 10 years? More like Merrill Lynch or something new?”
But Schwab vows it won’t become another Merrill Lynch.
“We have no interest in becoming just another traditional Wall Street firm,” Salesky said. “We have a 25-year history of bringing real innovation to this industry, and that’s what’s guiding us as we look forward.
“In 10 years, we expect our business will continue to evolve, yet along lines you see developing today: We want to provide different choices for different people, and we’ll continue to do this with a creative mixture of people and technology that will bring out the best in both.”
For his part, Framson said that for Schwab’s Private Client unit to be truly effective, the company would have to acquire a Big Five accounting firm “with a depth of skilled personnel.” That would be his advice to Schwab founder Charles Schwab.
“I give Chuck my best wishes for future success,” he said.
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Schwab’s Challenge: Offset a Slump in Trading
Charles Schwab’s push to develop a fee-based private-client business for the wealthy comes as the brokerage faces a plunge in trading volume that has clipped revenue and earnings.
As trading volume fades . . .
Schwab daily average revenue trades, in thousands
April: 177.4
*
. . . Schwab’s stock sinks
Friday: $18.20
Schwab shares on the New York Stock Exchange, monthly closes and latest
Sources: Charles Schwab, Bloomberg News
Prized Demographic
Despite a rough year for global stock markets, about 180,000 investors worldwide joined the ranks of individuals holding at least $1 million in financial assets during 2000, according to a recent study. Assets of these millionaires are expected to grow by a cumulative 40% over the next five years.
Number of high-net-worth individual investors:
Total (in millions of people)
1998: 5.9
1999: 7.0
2000: 7.2
*
Total assets of high-net-worth investors:
Total (in trillions of dollars)
* Estimate
1998: $21.6
1999: $25.5
2000: $27.0
2005: $39.7*
*Estimate
Source: Merrill Lynch/Cap Gemini Ernst & Young
