Jun 28, 2022. Violating antifraud provisions of the Advisers Act – File No. 3-20897
ADMINISTRATIVE PROCEEDING. The Securities and Exchange Commission today charged three Charles Schwab investment adviser subsidiaries for not disclosing that they were allocating client funds in a manner that their own internal analyses showed would be less profitable for their clients under most market conditions. The subsidiaries agreed to pay $187 million to harmed clients to settle the charges.
According to the SEC’s order, from March 2015 through November 2018, Schwab’s mandated disclosures for its robo-adviser product, Schwab Intelligent Portfolios, stated that the amount of cash in the robo-adviser portfolios was determined through a “disciplined portfolio construction methodology,” and that the robo-adviser would seek “optimal return[s].” In reality, Schwab’s own data showed that under most market conditions, the cash in the portfolios would cause clients to make less money even while taking on the same amount of risk. Schwab advertised the robo-adviser as having neither advisory nor hidden fees, but didn’t tell clients about this cash drag on their investment.
Schwab made money from the cash allocations in the robo-adviser portfolios by sweeping the cash to its affiliate bank, loaning it out, and then keeping the difference between the interest it earned on the loans and what it paid in interest to the robo-adviser clients.
The SEC’s order finds that Charles Schwab Investment Advisory, Inc. (“CSIA”) and Schwab Wealth Investment Advisory, Inc. violated Sections 206(2) and 206(4) of the Investment Advisers Act of 1940 and Rule 206(4)-7 thereunder, and that Charles Schwab & Co., Inc. (“CS & Co.”) violated Section 206(4) of the Advisers Act and Rules 206(4)-1(a)(5) and 206(4)-7 thereunder. Without admitting or denying the SEC’s findings, the companies agreed to the following: CSIA and CS & Co. will be subject to a cease-and-desist order prohibiting them from violating the antifraud provisions of the Advisers Act, and will retain an independent consultant to review their policies and procedures relating to their robo-adviser’s disclosures, advertising, and marketing, and to ensure that they are effectively following those policies and procedures. All three companies will be censured and will pay a total of approximately $52 million in disgorgement and prejudgment interest, and a $135 million civil penalty.
The SEC’s investigation was conducted by Ruth Hawley and John Roscigno and supervised by Jeremy Pendrey and Monique C. Winkler of the San Francisco Regional Office, with assistance from Selvin Akkus-Clemens and Dennis Hamilton of the Division of Economic and Risk Analysis. Examinations of the Charles Schwab entities conducted by Samuel Kim, Rhonda Fan, Nadia Brannon, Daniel Peso, and John Chee of the SEC’s Division of Examinations in the San Francisco Regional Office contributed to the investigation.
