Charles Schwab & Co. is intensifying its efforts in the institutional market - both defined contribution plans and midsized money management firms.
The firm, which recently acquired TrustMark, a 401(k) record-keeping software company, hopes to be among the top five service providers in the defined contribution market within five years. Sounds like a lofty goal for a firm that oversees $4 billion for such plans - not even placing it among the top 10 providers.
As for establishing relationships with midsized institutional money managers, Schwab has begun marketing brokerage and custody as well as a new referral service to help firms attract private clients.
Its primary 401(k) distribution channel, Schwab's network of third-party administrators, has brought in $4 billion in defined contribution client assets in two years.
"We would like to accelerate it. It goes back to why we bought Trustmark. We must be a minimum of a top five player in the defined contribution business in five years," said John Philip Coghlan, executive vice president of Schwab Institutional, San Francisco. "If we double it every year for four or five years, we'll be fine. It's time for sharp elbows to come out, I think. It's a strategic imperative of the firm."
Mr. Coghlan said Schwab's growth as a firm depends on the 401(k) market.
"If you're not in that business, your retail business is imperiled. Individuals are putting a bigger piece of their personal savings in 401(k) plans." What's more, "scale will be more important to profitability as margins shrink. It's an extraordinary challenge to wrest those monies from competitors (such as market leader Fidelity) at the 401(k) stage. We need to get at the 401(k) assets before they are rolled over into IRAs."
Why does Mr. Coghlan think Schwab will attain such an ambitious goal? It has brand recognition, expertise in educating investors and 210 branch locations in the United States that operate in an integrated fashion, he said.
With such grand growth plans, Schwab is on a hiring binge. The likely targets: "top everything people" at big no-load mutual fund companies with demonstrated expertise in the defined contribution area. Such individuals would work in Schwab's headquarters doing management and marketing, product development or on a field sales force.
"Our goals are very ambitious. We can't do that by recruiting college grads," Mr. Coghlan said.
In the 401(k) market, "one of our main foci is the support of third-party administrators in the market. We could build it by allying with someone or using a service bureau."
Mr. Coghlan said one place where Schwab has a definite gap is in the small plan market.
"In the near term people are coming into Schwab every day and not finding an adequate solution," such as doctors wanting help in setting up a 401(k) plan.
To better serve these small businesses in establishing 401(k)s, Schwab plans to use its network of fee-only financial planners.
Schwab has 5,100 advisers with $41 billion in client assets, a rise of more than 40% from a year ago. Half of that money is invested in mutual funds; the rest is in stocks and bonds.
Schwab also is helping larger firms target smaller private clients and 401(k) clients using its back-office capabilities and mutual fund offerings.
"(These firms') little pieces of defined benefit plans are not growing. They have not figured out how to target 401(k) yet," Mr. Coghlan said.
Among the firms forming relationships with Schwab are: Yanni*Bilkey Investment Consulting, Pittsburgh; Brundage, Story & Rose, New York; and Nelson Capital Management, Palo Alto, Calif.
Yanni*Bilkey, one of the firms in Schwab's financial adviser network, has brought in $100 million in assets without any marketing. Clients with a minimum of $600,000 use Yanni*Bilkey for selection, asset allocation and monitoring of mutual fund investments.
"It's been a great practice - 45 clients in four years," including a number of tax-exempt funds, said James Yanni, principal. "In the past we just turned all that business away."
Nelson and Brundage recommend Schwab when clients ask for names of custodians. Nelson is also using Schwab's client referral service, which is being test-marketed on the West Coast. Brundage plans to come aboard when the service is expanded to the New York area.
Mr. Coghlan said instead of limiting their business to individuals with $2 million to $4 million to invest, firms should take advantage of Schwab's back office to attract smaller clients.
"There's not enough of those people being created. But people with $500,000 and up and 401(k) plan rollovers" are growing rapidly, he said.
Firms can electronically interface with Schwab using the firm's Schwablink software package. They also can maintain account information at Schwab and update it daily, he said.
"You can outsource and drop the costs of back office, enabling them to manage these accounts economically or use mutual funds through Schwab," said Mr. Coghlan.
Nelson is doing that with the referral service.
"The referral service is Schwab's response to wrap programs of big wirehouses. Schwab says 'we'll do what they do but a hell of a lot cheaper," said Brooks Nelson, president.
In exchange for a referral, managers pay Schwab a fee of 75% of the first year's investment management fee, payable over three years. "It's a typical marketing incentive fee that a firm might pay its own in-house marketers," Mr. Nelson said.
He said the clients, attracted through print and radio advertising and direct mailings, typically have $200,000 and up to invest and live near the office. It's not a big money-maker but it's worth it because "every 10th person who says they have $200,000 really has $1 million or more," Mr. Nelson said. "Some happen to turn into very good clients."
The firm has hired assistant portfolio managers to handle small clients, devising mutual fund investment strategies on their behalf.
Mr. Nelson said while his firm, which runs $275 million, is a small player in pension fund management, "to Schwab we're a big fish in a little pond. They're doing a great deal to pay attention to the details of having a relationship with an institutional manager."
Don Daly, a partner with Brundage, Story & Rose, which runs $5 billion, agreed. "Schwab gives us more attention than other brokerage firms. Clients pay 10 cents a share for transactions vs. 40 cents to 80 cents a share from full-service firms. We now have over 200 accounts on the Schwab system," for trading and custody.
Trading relationships are a priority for Schwab in the institutional market.
Mr. Coghlan said midsized money managers don't necessarily qualify to trade on the institutional desk of a big wirehouse firm.
Schwab is offering these firms "coverage trading" and a "prime broker" service, through which Schwab provides custody for the securities but the firm is still able to use research of other firms. "Instead of paying five to eight basis points for bank custody, they're paying zero at Schwab because they're trading through Schwab. It's built into the overall relationship pricing."
Nelson uses Schwab for trading, as its prime broker.
If the money manager insists on bank custody, Schwab can offer services through its subsidiary, the Charles Schwab Trust Co.
