Charles Schwab Paying More Than $186 Million in Settlement Over Robo-Adviser Business

Charles Schwab Paying More Than $186 Million in Settlement Over Robo-Adviser Business

WASHINGTON—

Charles Schwab


SCHW 1.44%

& Co. Inc. will pay more than $186 million to settle a regulatory investigation that found it didn’t adequately disclose how keeping a big share of clients’ assets in cash could hurt investment returns.

The Securities and Exchange Commission said Schwab’s robo-adviser portfolios kept between 6% and 29.4% of assets in cash, instead of investing the money in stocks or other securities. The practice made money for Schwab’s affiliated bank, which lent out the cash, and the investment adviser made “false and misleading statements” in regulatory brochures about the conflict of interest, the SEC said in a settlement order.

“Schwab claimed that the amount of cash in its robo-adviser portfolios was decided by sophisticated economic algorithms meant to optimize its clients’ returns when in reality it was decided by how much money the company wanted to make,” said SEC enforcement director Gurbir S. Grewal.

Schwab agreed to resolve the investigation and pay penalties without admitting or denying misconduct. Schwab didn’t charge clients a fee for the uninvested portion of their assets, which Schwab marketed as an advantage because clients would keep more of their money, the SEC said.

Schwab disclosed last year that it would pay about $200 million to settle the SEC investigation over its Schwab Intelligent Portfolios, a robo-adviser product that picked a mix of exchange-traded funds and a cash allocation for clients.

Schwab said Monday that its robo-adviser product remains an important tool for clients. And cash remains a key piece of a diversified investment strategy that accounts for changes in market trends, it said.

“We are proud to have built a product that allows investors to elect not to pay an advisory fee in return for allowing us to hold a portion of the proceeds in cash, and we do not hide the fact that our firm generates revenue for the services we provide,” the company said in a statement.

Schwab and other money managers used cash accounts in recent years to boost their own business. The companies’ affiliated banks paid a small interest rate on deposits, and earned more than double or even triple that yield by lending out funds. The percentage of a particular client’s portfolio held in cash varied according to how aggressively or conservatively the person wanted to invest, the SEC said.

The SEC said the misconduct occurred from 2015 to 2018. Schwab changed its marketing and regulatory brochures in 2015 after two media articles criticized the cash program as a drag on returns, the SEC said.

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The revised brochures said cash percentages were set according to a formula that balanced risk tolerance and investing time frame, according to the SEC. But the cash levels were actually set “to reach minimum revenue targets” for Schwab, the regulator said.

Schwab’s latest regulatory brochure for its Intelligent Portfolios product, dated March, says a client’s cash allocation will range from 6% to 30% of an account’s value. The disclosure also notes that practice can result in “lower overall portfolio performance, for example when other riskier assets outperform cash.”

The penalties Schwab agreed to pay include a $135 million fine and about $51 million in ill-gotten profits that it must give back. The total of $186.5 million may be directed to harmed investors, the SEC said.

As part of the settlement, Schwab agreed to cooperate with the SEC on related investigations and to hire an independent compliance consultant to review how it ensures client disclosures are accurate.

Write to Dave Michaels at dave.michaels@wsj.com

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Appeared in the June 14, 2022, print edition as ‘Schwab Settles SEC Probe Of Cash Disclosures to Investors.’

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