The Making of a Mammoth Merger: Charles Schwab and TD Ameritrade
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The Making of a Mammoth Merger: Charles Schwab and TD Ameritrade

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The Making of a Mammoth Merger: Charles Schwab and TD Ameritrade

Charles Schwab and TD Ameritrade: A Mammoth Merger

In this era of fierce competition in the discount brokerage space, scale might be the best recipe for success.

Charles Schwab has once again sent shockwaves through the financial services industry, announcing its intent to acquire TD Ameritrade. The all-stock deal — valued at approximately $26 billion — will see the two biggest publicly-traded discount brokers combine into a giant entity with over $5 trillion in client assets.

Today we dive into the history of these two companies, and what effect recent events may have on the financial services industry.

The Evolution of Charles Schwab

1975 – U.S. Congress deregulated the stock brokerage industry by stripping the NYSE of the power to determine the commission rates charged by its members. Discount brokers, which focused primarily on buying and selling securities, seized the opportunity to court more seasoned investors who might not require the advice or research offered by established brokers. It was during this transitional period that Charles Schwab opened a small brokerage in San Francisco and bought a seat on the New York Stock Exchange.

1980s – The company experienced rapid growth thanks to a healthy marketing budget and innovations, such as the industry’s first 24-hour quotation service.

This fast success proved to be a double-edged sword. Charles Schwab became the largest discount broker in the U.S. by 1980, but profits were erratic, and the company was forced to rescind an initial public offering. Eventually, the company sold to BankAmerica Corporation for $55 million in stock. A mere four years later, Charles Schwab would purchase his namesake company back for $280 million.

1987 – By the time the company went public, Charles Schwab had five times as many customers as its nearest competitor, and profit margin twice as high as the industry average.

1990s – In the late ’90s, Charles Schwab moved into the top five among all U.S. brokerages, after a decade of steady growth.

2000s – The company made a number of acquisitions, including U.S. Trust, which was one of the nation’s leading wealth management firms, and most recently, the USAA’s brokerage and wealth management business.

The Race to $0

For Charles Schwab, the elimination of fees is the culmination of its founder’s vision of making investing “accessible to all”.

charles schwab falling trade fees

The company’s fees were slowly declining for decades. In late 2019, it finally took the plunge and introduced free online trading for U.S. stocks, exchange-traded funds, and options. The response was immediate and enthusiastic, with clients opening 142,000 new trading accounts in the first month alone.

Although Charles Schwab sent rivals scrambling to match its no-commission trade offer, fintech upstarts like Robinhood have offered free trading for years now. The “race to zero” reflects a broader generational shift, as millennials are simply more likely than earlier generations to expect services to be free.

The Evolution of TD Ameritrade

1975 – The origin of TD Ameritrade can be traced back to First Omaha Securities, a discount broker founded by Joe Ricketts. The company changed its name to TransTerra in 1987.

1988 – TransTerra’s subsidiary, Accutrade, was the first company to introduce touch-tone telephone trading, a major innovation at the time and one of the first early forays into automation.

Early 1990s – Ricketts’s willingness to integrate emerging technologies into the trading business helped his companies achieve impressive growth. In 1997 the company acquired K. Aufhauser & Co., the first company to run a trading website.

The Internet wasn’t a puzzle. We were crystal clear from the beginning that customers would migrate to this.

– Joe Ricketts (2000)

Late 1990s – The Ameritrade brand was solidified after the company changed its name from TransTerra to Ameritrade Holding Corporation in 1996. The newly named company completed an IPO the following year, and established its new brand Ameritrade, Inc., which amalgamated K. Aufhauser, eBroker, and other businesses into a unified entity.

2000s – Ameritrade entered the new millennium as the fifth largest online investment broker in the United States, fueled in part by marketing deals with AOL and MSN.

The modern incarnation of TD Ameritrade took shape in 2006, when TD Bank sold its TD Waterhouse USA brokerage unit to the Ameritrade Holding Corporation in a stock-and-cash deal valued at about $3.3 billion. At the time of the deal the new company ranked first in the U.S. by the number of daily trades.

2016 – TD Ameritrade acquired the discount brokerage Scottrade for about $4 billion. The deal brought 3 million client accounts and $170 billion in assets under management into the company, and quadrupled the size of its branch network.

What Comes Next?

Naturally, the announcement that these massive discount brokers plan to merge has generated a lot of speculation as to what this means for the two companies, and the broader brokerage industry as a whole.

Here are some of the consensus key predictions we’ve seen on the deal, from both media and industry publications:

  • After the deal is approved, the integration process will take 12 to 18 months. The combined company’s headquarters will relocate to a new office park in Westlake, Texas.
  • Charles Schwab’s average revenue per trade has dropped nearly 30% since Q1 2017, so the company will likely use scale to its advantage and monetize other products.
  • The merged company will continue to adopt features from fintech upstarts, such as the option to trade in fractional shares.
  • E*Trade, which was widely considered to be an acquisition target of Schwab or TD Ameritrade, may now face pressure to hunt for a deal elsewhere.

Even though these longtime rivals are now linking up, stiff competition in the financial services market is bound to keep everyone on their toes.

I think Joe Ricketts and I agree that our fierce competitiveness nearly 30 years ago is proof that market competition can be a source of miraculous innovation.

– Charles Schwab

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News Explainer: The Economic Crisis in Sri Lanka

Sri Lanka is currently in an economic crisis with over $50 billion in debt and consumer inflation at 39%. So how did they get here?

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sri lanka economic crisis

Explained: the Economic Crisis in Sri Lanka

Sri Lanka is currently in an economic and political crisis of mass proportions, recently culminating in a default on its debt payments. The country is also nearly at empty on their foreign currency reserves, decreasing the ability to purchase imports and driving up domestic prices for goods.

There are several reasons for this crisis and the economic turmoil has sparked mass protests and violence across the country. This visual breaks down some of the elements that led to Sri Lanka’s current situation.

A Timeline of Events

The ongoing problems in Sri Lanka have bubbled up after years of economic mismanagement. Here’s a brief timeline looking at just some of the recent factors.

2009

In 2009, a decades-long civil war in the country ended and the government’s focus turned inward towards domestic production. However, a stress on local production and sales, instead of exports, increased the reliance on foreign goods.

2019

Unprompted cuts were introduced on income tax in 2019, leading to significant losses in government revenue, draining an already cash-strapped country.

2020

The COVID-19 pandemic hit the world causing border closures globally and stifling one of Sri Lanka’s most lucrative industries. Prior to the pandemic, in 2018, tourism contributed nearly 5% of the country’s GDP and generated over 388,000 jobs. In 2020, tourism’s share of GDP had dropped to 0.8%, with over 40,000 jobs lost to that point.

2021

Recently, the Sri Lankan government introduced a ban on foreign-made chemical fertilizers. The ban was meant to counter the depletion of the country’s foreign currency reserves.

However, with only local, organic fertilizers available to farmers, a massive crop failure occurred and Sri Lankans were subsequently forced to rely even more heavily on imports, further depleting reserves.

April 2022

In early April this year, massive protests calling for President Gotabaya Rajapaksa’s resignation, sparked in Sri Lanka’s capital city, Colombo.

May 2022

In May, pro-government supporters brutally attacked protesters. Subsequently, Prime Minister Mahinda Rajapaksa, brother of President Rajapaksa, stepped down and was replaced with former PM, Ranil Wickremesinghe.

June 2022

Recently, the government approved a four-day work week to allow citizens an extra day to grow food, as prices continue to shoot up. Food inflation increased over 57% in May.

Additionally, the increasing prices on grain caused by the war in Ukraine and rising fuel prices globally have played into an already dire situation in Sri Lanka.

The Key Information

“Our economy has completely collapsed.”
Prime minister Ranil Wickremesinghe to Parliament last week.

One of the main causes of the economic crisis in Sri Lanka is the reliance on imports and the amount spent on them. Let’s take a look at the numbers:

  • 2021 total imports = $20.6 billion USD
  • 2022 total imports (to March) = $5.7 billion USD

In contrast, the most recent reported foreign currency reserve levels in the country were at an abysmal $50 million, having plummeted an astounding 99%, from $7.6 billion in 2019.

Some of the top imports in 2021, according to the country’s central bank were:

  • Refined petroleum = $2.8 billion
  • Textiles = $3.1 billion
  • Chemical products = $1.1 billion
  • Food & beverage = $1.7 billion

Of course, without the cash to purchase these goods from abroad, Sri Lankans face an increasingly drastic situation.

Additionally, the debt Sri Lanka has incurred is huge, further hampering their ability to boost their reserves. Recently, they defaulted on a $78 million loan from international creditors, and in total, they’ve borrowed $50.7 billion.

The largest source of their debt is by far due to market borrowings, followed closely by loans taken from the Asian Development Bank, China, and Japan, among others.

What it Means

Sri Lanka is home to more than 22 million people who are rapidly losing the ability to purchase everyday goods. Consumer inflation reached 39% at the end of May.

Due to power outages meant to save energy and fuel, schools are currently shuttered and children have nowhere to go during the day. Protesters calling for the president’s resignation have been camped in the capital for months, facing tear gas from police and backlash from president Rajapaksa’s supporters, but many have also responded violently to pushback.

India and China have agreed to send help to the country and the the International Monetary Fund recently arrived in the country to discuss a bailout. Additionally, the government has sent ministers to Russia to discuss a deal for discounted oil imports.

A Foreshadowing for Low Income Countries

Governments need foreign currency in order to purchase goods from abroad. Without the ability to purchase or borrow foreign currency, the Sri Lankan government cannot buy desperately needed imports, including food staples and fuel, causing domestic prices to rise.

Furthermore, defaults on loan payments discourage foreign direct investment and devalue the national currency, making future borrowing more difficult.

What’s happening in Sri Lanka may be an ominous preview of what’s to come in other low and middle-income countries, as the risk of debt distress continues to rise globally.

The Debt Service Suspension Initiative (DSSI) was implemented by G20 countries, suspending nearly $13 billion in debt from the start of the pandemic until late 2021.

Sri Lanka Economic Crisis - countries by level of debt distress

Some DSSI and LIC countries facing a high risk of debt distress include Zambia, Ethiopia, and Tajikistan, to name a few.

Going forward, Sri Lanka’s next steps in managing this situation will either serve as a useful example for other countries at risk or a warning worth heeding.

Note: The debt breakdown in the main visualization represents total outstanding external debt owed to foreign creditors rather total debt.

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Interest Rate Hikes vs. Inflation Rate, by Country

Inflation rates are reaching multi-decade highs in some countries. How aggressive have central banks been with interest rate hikes?

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Interest Rate Hikes vs. Inflation Rate, by Country

Imagine today’s high inflation like a car speeding down a hill. In order to slow it down, you need to hit the brakes. In this case, the “brakes” are interest rate hikes intended to slow spending. However, some central banks are hitting the brakes faster than others.

This graphic uses data from central banks and government websites to show how policy interest rates and inflation rates have changed since the start of the year. It was inspired by a chart created by Macrobond.

How Do Interest Rate Hikes Combat Inflation?

To understand how interest rates influence inflation, we need to understand how inflation works. Inflation is the result of too much money chasing too few goods. Over the last several months, this has occurred amid a surge in demand and supply chain disruptions worsened by Russia’s invasion of Ukraine.

In an effort to combat inflation, central banks will raise their policy rate. This is the rate they charge commercial banks for loans or pay commercial banks for deposits. Commercial banks pass on a portion of these higher rates to their customers, which reduces the purchasing power of businesses and consumers. For example, it becomes more expensive to borrow money for a house or car.

Ultimately, interest rate hikes act to slow spending and encourage saving. This motivates companies to increase prices at a slower rate, or lower prices, to stimulate demand.

Rising Interest Rates and Inflation

With inflation rates hitting multi-decade highs in some countries, many central banks have announced interest rate hikes. Below, we show how the inflation rate and policy interest rate have changed for select countries and regions since January 2022. The jurisdictions are ordered from highest to lowest current inflation rate.

JurisdictionJan 2022 InflationMay 2022 InflationJan 2022 Policy RateJun 2022 Policy Rate
UK5.50%9.10%0.25%1.25%
U.S.7.50%8.60%0.00%-0.25%1.50%-1.75%
Euro Area5.10%8.10%0.00%0.00%
Canada5.10%7.70%0.25%1.50%
Sweden3.90%7.20%0.00%0.25%
New Zealand5.90%6.90%0.75%2.00%
Norway3.20%5.70%0.50%1.25%
Australia3.50%5.10%0.10%0.85%
Switzerland1.60%2.90%-0.75%-0.25%
Japan0.50%2.50%-0.10%-0.10%

The Euro area has 3 policy rates; the data above represents the main refinancing operations rate. Inflation data is as of May 2022 except for New Zealand and Australia, where the latest quarterly data is as of March 2022.

The U.S. Federal Reserve has been the most aggressive with its interest rate hikes. It has raised its policy rate by 1.5% since January, with half of that increase occurring at the June 2022 meeting. Jerome Powell, the Federal Reserve chair, said the committee would like to “do a little more front-end loading” to bring policy rates to normal levels. The action comes as the U.S. faces its highest inflation rate in 40 years.

On the other hand, the European Union is experiencing inflation of 8.1% but has not yet raised its policy rate. The European Central Bank has, however, provided clear forward guidance. It intends to raise rates by 0.25% in July, by a possibly larger increment in September, and with gradual but sustained increases thereafter. Clear forward guidance is intended to help people make spending and investment decisions, and avoid surprises that could disrupt markets.

Pacing Interest Rate Hikes

Raising interest rates is a fine balancing act. If central banks raise rates too quickly, it’s like slamming the brakes on that car speeding downhill: the economy could come to a standstill. This occurred in the U.S. in the 1980’s when the Federal Reserve, led by Chair Paul Volcker, raised the policy rate to 20%. The economy went into a recession, though the aggressive monetary policy did eventually tame double digit inflation.

However, if rates are raised too slowly, inflation could gather enough momentum that it becomes difficult to stop. The longer high price increases linger, the more future inflation expectations build. This can result in people buying more in anticipation of prices rising further, perpetuating high demand.

“There’s always a risk of going too far or not going far enough, and it’s going to be a very difficult judgment to make.” — Jerome Powell, U.S. Federal Reserve Chair

It’s worth noting that while central banks can influence demand through policy rates, this is only one side of the equation. Inflation is also being caused by supply chain issues, a problem that is more or less outside of the control of central banks.

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