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TD Ameritrade Holding Corporation (NYSE:AMTD)

Q1 2014 Earnings Call

January 21, 2014 8:30 am ET

Executives

Fred Tomczyk – President, Chief Executive Officer

Bill Gerber – Chief Financial Officer

Bill Murray – Managing Director, Investor Relations

Analysts

Rich Repetto – Sandler O’Neill

Michael Carrier – Bank of America Merrill Lynch

Alex Kramm – UBS

Kenneth Hill – Barclays

Steven Chubak – Nomura Securities

Chris Allen – Evercore

Joel Jeffrey – KBW

Chris Harris – Wells Fargo Securities

Alex Blostein – Goldman Sachs

Devin Ryan – JMP Securities

Bill Katz – Citi

Chris Shutler – William Blair

Mac Sykes – Gabelli

Gaston Ceron – Morningstar Equity

Rob Rutschow – CLSA

Operator

Good day everyone and welcome to the TD Ameritrade Holding Corporation’s December quarter earnings results conference call. This call is being recorded. With us today from the company is President and Chief Executive Officer, Fred Tomczyk, and Chief Financial Officer, Bill Gerber. At this time, I’d like to turn the call over to Bill Murray, Managing Director of Investor Relations. Please go ahead, sir.

Bill Murray

Thank you Operator and good morning once again to everyone, and welcome to the December quarter earnings call. Please refer to our press release and December quarter earnings presentations, which can be found on amtd.com. Our Safe Harbor statement and reconciliation of certain non-GAAP financial measures to the most comparable GAAP financial measures are included in the slide presentation. As well, descriptions of risk factors are included in our most recent financial reports, Forms 10-Q and 10-K.

As usual, this call is intended for investors and analysts and may not be reproduced in the media in whole or in part without prior consent of TD Ameritrade. As is our usual custom, please limit your questions to two so that we can cover as many analysts as possible within the allotted time.

With that, we have Fred Tomczyk, our CEO and Bill Gerber, our CFO here to review our December quarter results and major accomplishments. And with that, I’ll turn the call over to Fred.

Fred Tomczyk

Thank you Bill and good morning everyone, and welcome to our first quarter earnings call for fiscal 2014. We started fiscal 2014 with a strong first quarter, leveraging our continued strong organic growth as the retail investor re-engaged with the markets. With less uncertainty in Washington, an improving macroeconomic environment and the beginning of Fed tapering, retail investors are making their way back to the markets, leaving us with a lot to feel good about.

Let’s take a look at the quarter’s key highlights on Slide 3. Our average client trades per day for the quarter were 414,000, an activity rate of 6.9%, the best quarter for trading in more than two years. Net new client assets were $14.5 billion, a 10% annualized growth rate. Client assets are closing in on a record $600 billion, ending the quarter up 24% over last year. We grew fee-based balances to a record $136 billion, up 31% year-over-year. Interest-sensitive assets remained at a record $97 billion despite clients cycling cash back into the markets. Net revenues came in at a record $752 million, an annualized run rate of $3 billion, up 16% over last year. This brings us to diluted earnings per share for the quarter of $0.35, up 30% over last year. That’s a strong start to fiscal 2014.

Let’s now take a closer look at how each piece of that strategy fared, starting with asset gathering on Slide 4. This quarter was our second-best ever for asset gathering as we brought in $14.5 billion in net new client assets, a 10% annualized growth rate. As it has been for some time, we are seeing encouraging signs from both our retail and our institutional channels. On the retail side, our sales funnel, which covers our engagement with prospective clients through the account opening process, continues to perform well. Visits to our public marketing site, new application starts, new online account openings, and new account fundings were all up nicely from the same quarter a year ago.

Assets gathered from call center referrals to our sales teams continue to be strong despite average daily call volumes being down 13% over last year. Our teams continue to maximize opportunities to bring in new assets and asset retention overall remains very good. We’re encouraged by these results and will continue to focus on building stronger relationships with our clients throughout all phases of their experience with us.

The institutional side of our business remains a strong contributor to our quarterly net new client assets. Our pipelines remain very strong, both in terms of existing advisor and breakaway broker prospects. Our national conference is next week in Orlando and we are expecting a record number of current and prospective RIAs to attend, and we look forward to introducing several new technology enhancements that we believe will be well received.

We remain pleased with our asset gathering results. We’re off to a good start in 2014 and we’ll continue to use the momentum we’ve built to further improve our efforts throughout the rest of the fiscal year.

Now let’s turn to trading on Slide 5. As I said at the start of this call, investors this quarter were more engaged and more bullish on the markets than they’ve been in years. Average unique client account log-ins per day were up 9% over last year. The average number of accounts that traded in the quarter was up 19%. Client margin balances are growing and hit record levels last week. Our investor movement index ended the quarter at its highest level in the four years we’ve been tracking it, and as a result trades per day were up 24% year-over-year. Our quarterly activity rate of 6.9% is the highest we’ve seen since the fourth quarter of fiscal 2011, and the high engagement continues into January. Trades per day month-to-date are 467,000, the highest average trades per day to start a calendar year in our history.

In the midst of this reengagement, we launched a completely enhanced client website, our first since the integration with TD Waterhouse. The new site, which was developed using client feedback every step of the way, is more intuitive, more customizable, and better delivers real-time news and information to help investors make timely, confident trading decisions.

Any time you introduce a completely new web experience to a large client base, it can present a number of challenges. I’m proud to say that the implementation, which was phased in over several weeks, occurred virtually without incident and with plenty of positive comments from our clients.

Derivative trades were at a record for the quarter, coming in at 41% of our daily trades, and we continue to see good growth in mobile, which accounted for a record 12% of our daily trades in the quarter. In fact, we believe one of the reasons why we did not see the typical holiday slowdown was mobile as people were able to continue monitoring their investments and trade anywhere, anytime. Half of our mobile trades now come from clients that are 100% engaging with their account via mobile devices. As smartphones and tablets continue to take share from PCs, the growth in this space will continue, and we are well positioned to capitalize on that secular trend.

Now let’s turn to investment product fees on Slide 6. We continue to see strong growth in investment product balances with strong sales results and a strong market. Average balances are up 30% year-over-year and 7% sequentially. Investment product fees were $72 million, an annualized run rate of approximately $300 million. We remain pleased with sales for both Advisor Direct and Amerivest. As investors re-engage more broadly with the markets, we’re seeing a rotation and interest with respect to our Amerivest portfolios. For several quarters, the Amerivest supplemental income portfolios were the most popular. Now, we’re seeing increased interest in the opportunistic portfolios which are more actively managed based on what’s happening in the markets. Our strategy is to offer a series of portfolios for a variety of investment needs and strategies.

Now let’s turn to Slide 7. The macroeconomic environment continues to improve. Washington was able to come up to an agreement on the federal budget, and while there is still much work to be done, there is less uncertainty for investors to worry about, and as we all know, investors do not like uncertainty. As a result, the trading environment has improved. Our broader base of investors has re-engaged, boosting trading activity and contributing to the strength of our quarter and the strong numbers so far in January. The yield curve also continues to rise. A year ago, the difference between the two- and seven-year rates was just 92 basis points. Today, it’s more than double that at 199 basis points.

We continue to maintain our strong asset gathering momentum. Our focus remains on our sales funnels both in retail and in institutional, improving processes and optimizing our efforts to achieve better results. We continue to see strong growth in investment product fees, again driven by continual improvements to our sales processes, the strong market, and the increasing desire for guidance on the part of retail investors. At nearly 10% of our net revenue, this has become a viable revenue stream, further building out our long-term earning power.

We continue to return capital with a $0.12 quarterly dividend, up 33% from last year, and our second special dividend of $0.50 per share. Combined, we’ve paid $342 million in dividends to our shareholders during the quarter. Finally, we signed an amendment to our stockholders agreement, extending it through to January 24, 2021.

In closing, we’re pleased with our start to fiscal 2014. We had a strong quarter and we’ve had a strong start to our second quarter, and we feel good about how the year is shaping up. Virtually ever metric we measure and manage is trending in the right direction so far this year. Having said that, the management team remains focused on building long-term value for our clients, our shareholders, and our associates.

With that, I’ll turn the call over to Bill.

Bill Gerber

Thank you Fred and good morning everyone. We are off to a good start to our fiscal year with strong results this quarter driven by a combination of strong asset-based revenues and improved trading. Activity rates and DART numbers are at levels we’ve not seen in over two years. Organic growth continues to be a primary focus of ours. We once again delivered double-digit net new asset growth, and at $14.5 billion this was the second-best quarter in the company’s history. In all, this was a good quarter and we have a lot to be proud of.

With that, let’s begin the financial overview on Slide 8. We’ll start with the December to December comparisons on the left side of the page. On Line 1, transaction-based revenue is up $71 million or 28%, driven by 80,000 more trades per day and two more trading days. The commission rate continued to remain strong at $12.56 driven by elevated derivatives trading and strong payment for order flow. Derivatives trades made up 41% of the total. Options were 34%, futures were 6%, and foreign exchange was 1%.

On Line 2, asset-based revenue is up $30 million or 8% due to the growth in fee-based investment balances and continued growth in spread-based balances. As a result, revenue was up $101 million or 16% year-over-year to a record $752 million.

On Line 5, operating expenses excluding advertising are up $25 million or 7%, primarily due to increased headcount, clearing expenses related to the increased trading volumes, and professional services as we continued to focus on value-added projects.

On Line 6, advertising expenses are up $11 million primarily driven by an increase in digital media and new account promotions to take advantage of the momentum we are seeing with net new asset growth. We also began our planned Winter Olympics spend. Because of the Olympics, the net new asset momentum as well as the typical retirement season, we expect to spend about $95 million in advertising in the March quarter; however, we still believe our full-year guidance of $230 million to $275 million is appropriate as we expect to spend significantly less in advertising in the latter half of the year. The net result of all this was net income of $192 million and earnings per share of $0.35, or $0.37 when excluding the impact of our intangible amortization. On Line 15, EBITDA was a strong $354 million or 47% of revenue.

Moving to the sequential quarter comparisons on the right side, revenue was up $43 million as trading revenue received a lift from elevated trading resulting in a pick-up of $22 million, and asset-based revenue remained resilient, up $20 million. On Line 7, total operating expenses are up $15 million primarily due to an increase in headcount as we gear up for the tax season, and seasonally higher advertising. The net result was earnings per share down $0.01; however, if you exclude the investment gains recognized from the night transaction during the September quarter, we were actually up $0.05 or 17% sequentially.

Now let’s turn to spread-based revenue on Slide 9. On a year-over-year basis, this quarter we finished at $335 million in revenue, up $14 million or 4% from last year. Balances averaged $90 billion in the quarter, up $11 billion or 14% from last year. This growth was offset by 13 basis points of rate compression. On a sequential basis, revenue increased $15 million or 5% as both balances and net interest margin increased. Of note, margin lending revenue is up $7 million due to $800 million of higher balances. Margin balances ended the quarter at $9.7 billion but have since reached record levels in January, exceeding $10 billion.

Now let’s discuss the IDA on the next slide. As we’ve said many times in the past, it is difficult to outrun interest rate compression. On a year-over-year basis, revenue is up $3 million or 1% as average balances are up $9 billion or 14%, contributing $27 million of higher revenue offset by a 13 basis point decline in net yield, driving $24 million less revenue. Sequentially, revenue is up $7 million or 3% due to both balances and net yields rising as rates rose.

We continue to closely monitor the yield curve and make prudent extension decisions. In the appendix, we included a trends chart of the yield curve. As you will see, the two- versus seven-year spread is up over 100 basis points year-over-year and up nearly 30 basis points sequentially. These movements bode well for future extensions and related growth yields.

Let’s now turn to the next slide and discuss interest rate-sensitive assets. Interest rate-sensitive asset balances are up $7 billion or 8% from last year due to organic growth. We are now at a record $97 billion of interest rate-sensitive assets. IDA balances continue to be the biggest driver of the increase as ending balances came in at approximately $74 billion, which is up 9% from last year. Within the IDA, floating balances for the quarter ended at approximately $16.7 billion versus $15.5 billion last quarter.

Client cash balances did slightly increase in the quarter despite $12 billion of client net buying. Client cash as a percentage of total assets was 15.6% at the end of December, down slightly from September, which was driven primarily by client asset growth; however, this is still within our historical range of 15 to 20%.

Please recall that last quarter we introduced you to a new metric, consolidated duration, which we believe is a more complete picture of our aggregate interest rate sensitivity. This factors in not just the duration of the IDA portfolio but also the overnight money on our brokered dealer balance sheet. To reiterate, our targeted consolidated duration is 1.75 to 2.75 years. We are still currently sitting at 2.3 years and we remain very well positioned for rising rates.

Now let’s turn to the final slide. We are off to a good start to the fiscal year. As reported earlier, the investment movement index hit the highest level in its four-year history last month, indicating that retail investor engagement was up. Asset gathering remains strong with our second-best quarter at $14.5 billion. Sales in Amerivest, Advisor Direct and mutual funds, and the strong market are fueling increased investment product fees and balance growth. We continue to deploy capital to our stockholders through our $0.12 per share quarterly dividend along with a $0.50 per share special dividend. In all, we’ve paid more than $340 million in cash dividends to stockholders in the last three months. Lastly, we signed an amended stockholder agreement, extending it to 2021.

Again, we are very proud of this first quarter. Currently, all of the metrics that matter to us are pointing in the right direction. Our strategy is paying off and we will focus on maintaining our momentum as we move forward.

With that, I’ll turn the call back over to the Operator for Q&A.

Question and Answer Session

Operator

[Operator instructions]

Our first question will come from Rich Repetto from Sandler O’Neill. Please go ahead.

Rich Repetto – Sandler O’Neill

Yes, good morning Fred, good morning Bill. I guess my question comes—you know, with all the client metrics that you feel are important improving, whether it’s DARTs, margin loan balance, net new assets, I guess the more difficult question, Fred, is the sustainability of the momentum that you’re seeing in retail client engagement. I’d just like to get your views as best you can – I know it’s difficult to predict – but what you see as the sustainability of these improved client engagement metrics.

Fred Tomczyk

Yes, that’s always difficult to call, Rich, and I don’t have a crystal ball here of what the future holds, and that’s really the relevant question. But I would say that I think that the economy seems to be in better shape than it’s been in quite a while. That doesn’t mean it’s a strong, healthy, booming economy. I think it’s just increased growth. I do think not having an event out of Washington has made a big difference in terms of people’s confidence, and there’s no question whether you’re listening to the banks or other players in the market or companies, I think you’re seeing some consumer spending come back. You’re also seeing businesses start to—business loans start to increase and increased interest in businesses investing. So all that in my mind bodes well to an improved environment.

Having said that, I think we all know that these things are never straight lines all the way up, and we are following a year when the S&P 500 was up 30% year-over-year. So while we are generally bullish and optimistic here, I would not be surprised to see a correction. It wouldn’t take much to see a correction, but I think then we’ll continue on our path.

Rich Repetto – Sandler O’Neill

Understood, that’s helpful, Fred. My one follow-up would be on the float balances, Bill. It seems like float increased, and I’m just trying to, I guess, draw this a little bit more clearly. Even with the IDA up, that you still have the flexibility if rates were to go up higher later in the year, or even on the short end next year, that you’ll be able to still—you’ll still have that flexibility to leverage the longer term rates, given that the float is high, even though IDA—the spread went up quarter to quarter.

Bill Gerber

Well, that’s generally true. We follow pretty sophisticated asset liability management techniques, which TD has been a helpful partner with us, and when we look through everything and we would say our asset liability profile – and that includes fixed float but also includes duration and cash maturity schedules – all look to be right around where we would like them to be for the environment we see ourselves in. We do look at this as a marathon, not as a sprint, so I think the most important thing right now in this type of environment is to be patient and manage for the long term, and not extend would be our view at this point. Extend on a normal basis, but not stretch it for short-term earnings.

Rich Repetto – Sandler O’Neill

Got you. Congrats on a strong quarter, guys.

Fred Tomczyk

Thanks Rich.

Operator

Our next question is from Michael Carrier from Bank of America Merrill Lynch. Please go ahead.

Michael Carrier – Bank of America Merrill Lynch

Thanks guys. Maybe just a question – when you look at most of the metrics, like the net new assets margin, DARTs, everything is pretty favorable. We typically see the seasonal increase in advertising. The additional pick-up that you mentioned heading into this quarter, is it more of an offensive strategy, meaning the trends are very favorable that you think you can take some market share, or is it just kind of the one-off events like the Olympics, that it’s just kind of a little different this year?

Fred Tomczyk

It’s really a combination of both of those, Mike. You know, certainly the Olympics in and of themselves will add spend, and our experience last time we did the Olympics was that it was very strong for our brand, so that’s why we did it again. But right now as we said, the net new asset momentum, all the metrics that we cited, we think now is the time to tap the gas pedal a little harder on advertising, and this obviously is a very important time of the year for investors as well as this is a very big time of the year for people who are engaged, particularly in the Olympics but in the markets. So we think the combo of all those things is what makes us look to add to the monies that we’re going to spend this quarter.

Michael Carrier – Bank of America Merrill Lynch

Okay, thanks. And then just as a follow-up, I guess a question on net new assets but focused on the investment products. It looks like this quarter, and granted one quarter it’s tough to tell a trend, but it looks like the fee rate ticked up a bit. I think on the sensitivity that you usually—that you’ve put in the appendix, it looks like the amount ticked down a bit that you need in order to gain earnings. Just wanted to see, is there some product shift? I know, Fred, you mentioned more from an income, to an opportunistic strategy in terms of where money’s flowing, so does that help you? And then is there any shift in terms of the RIA growth in net new assets to retail that’s also driving that shift in terms of the investment products?

Fred Tomczyk

Well the first point, there’s no question that you will have higher management fees on, for example, an equity-type portfolio with the opportunistic portfolios are much more asset allocation and more balanced with an orientation towards equities in this type of environment, and you know, supplemental income will be a lower management fee. I’m not sure that impacted the numbers in the quarter that much. The sales trends do bode well from a fee rate.

And to be quite honest, I think between retail and institutional, both have been strong. The mix on net new client assets remained about the same as it was last year – you know, roughly three-quarters institutional, a quarter retail, so it wasn’t a shift there. But you know, as your assets continue to grow, you can work at your 12V1s from the various providers, and we do that on a continual basis.

Michael Carrier – Bank of America Merrill Lynch

Okay, thanks guys.

Operator

Our next question is from Alex Kramm of UBS. Please go ahead.

Alex Kramm – UBS

Hey, good morning. Maybe just coming back to one of the expense comments you just made. Can you give us a little bit more detail about the projection over the next few quarters? It seems like this quarter surprised a lot of us in particular on the comm side, and I think you talked about the number of employees; but I think in the second quarter, you should get some of the—you’re beginning tax things too, so is it going to be another step up, and where else should we expect the trajectory towards the end of the year?

Bill Gerber

Well Alex, last quarter we talked about that we were going to be about $380 million. We came in at $382 million, and obviously there were—if you look, the clearing expenses were up, which was really due to volume. So we felt like we hit pretty close to exactly what we were trying to do.

We did—over the past several quarters and continuing, we had—we converted a lot of professional services to permanent staff. We on-shored items that we used to offshore. We had more sales people, and we’re gearing up for tax season, so all those things were combined. We’re still looking at the same range in our outlook, so I wouldn’t see it really deviating very far off this 380 level for the next few quarters.

Alex Kramm – UBS

Okay, good. And then secondly, maybe just on capital return, obviously you just paid that special dividend a month ago, or announced it. Just thinking how we should be thinking about this more going forward. It seems like you call it a special dividend, and when you say special, it’s not really part of your return strategy per se, so just wondering if you’ve talked to the board about maybe instituting something that’s more recurring, given that you have so much free cash flow, because I think investors—you know, when you call it special, they don’t really give you credit. But I think if you do it a little bit different, I think you might get a little bit more credit for it if you actually make it part of your return strategy. So just wondering if your thinking is evolving a little bit or if you still have other things in mind when it comes to the free cash that’s generated.

Fred Tomczyk

Our view on return of capital hasn’t changed, and it has been—we regularly vet it with the board, but we continue to look at things and say we do think we’re in the seventh inning in a nine-inning baseball game in terms of acquisitions, so you do want to the ability to keep some firepower back in case you want it. Having said that, we don’t see anything on the horizon in the foreseeable future, quite clearly, so therefore when we end the year, we basically look at our balance sheet and our free cash flow, and we’ve always said between $500 million and $1 billion of excess liquid assets over management’s target. And if you look at the special, it tends to—to the extent we’re over that, we’ve paid it out.

But we’ll consider all available uses, whether it’s investing in growth, making acquisitions, whether it’s buybacks, whether it’s recurring dividends, one-time dividends. I do think paying down debt, we’re right on where we want to be in terms of one times EBITDA, so we don’t see the need and we don’t have any desire to pay down our debt further. I think we consider that sort of our permanent capital structure. But we’ll continue to adapt and adjust based on market conditions, but our view is just do the right thing and if we have excess capital, we should be repatriating it to our shareholders in one way, shape or form.

Alex Kramm – UBS

All right, very good. Thanks.

Operator

Our next question is from Kenneth Hill of Barclays. Please go ahead.

Kenneth Hill – Barclays

Hey, good morning Fred and Bill. You saw some good activity trends clearly for the quarter. You saw some more improvement here in January. Given you guys have about 41% of DARTs coming from derivative trades, I was wondering what inning you guys think you’re in as far as customers using derivatives as part of their portfolio, and what kind of things you’re doing to kind of keep that as an increasing portion, whether it’s either education or on the technology side.

Fred Tomczyk

Yes, I think on the trading side we had very strong numbers, and very strong numbers in January. The derivatives question is going to be depends who you ask. If you ask Steve Quirk, who runs our trading business, our trading side, basically he would say derivatives are going to continue to grow. And as it allows people to trade in any type of market, they expire so they have a resiliency and annuity-type of revenue stream to them, much more so than cash equities; and once people start on them, they get used to them and they like them, whether it’s a primary strategy or a secondary part of their investing strategy. We’ve seen that – once people get used to them, they start to get more sophisticated and try more things.

In terms of what we do, we continue to work at the education side, but I think we’re getting rewarded here for all the work we’ve done over the last three to five years on upgrading our platforms, consolidating our platforms, putting in new features, new functionalities, new websites, new trading tools, new information, new content. We continually work at that and you’re seeing that across the board.

So I definitely think the investments we’ve continuously made over the last three to five years in the technology platforms has really, really worked well for us. I can’t say enough – to introduce a whole new client website, your main website, to 6 million account holders, that’s not easy. People don’t like change, but I have to say we’ve got a lot of good feedback. It allows people to get there one step at a time and it positions them very well for this type of environment.

Kenneth Hill – Barclays

Okay. I just wanted to follow up, then, on the breakaway broker trends. You mentioned they were still remaining pretty strong. Wondered if you’re seeing any change in kind of recent history there – is it more from independents still, or any kind of progress from the warehouses as of late?

Fred Tomczyk

I think it pretty much continues to be from the independents. Well, it’s both, but the part that is elevated from what we have seen three years ago is the independent channel.

Kenneth Hill – Barclays

Okay, thanks very much.

Operator

Our next question is from Steven Chubak of Nomura Securities. Please go ahead.

Steven Chubak – Nomura Securities

Hi, good morning. Clearly, you and your competitors benefit significantly from interest rate tailwinds, and when we go through the exercise of attempting to overlay the revenue and earnings upside, it suggests that pre-tax margins could exceed peak levels really not seen since 2005 – somewhere in the low to mid-50% range in what was clearly a favorable operating backdrop. I didn’t know if you could speak to some of the potential threats or headwinds to the pre-tax margin growth, assuming we get to that normalized earnings and interest rate environment, whether it be more aggressive marketing, higher payouts for RIAs, or simply maybe even the re-emergence of commission price wars.

Fred Tomczyk

Yeah. That’s hard to call, but I would say barring any unforeseen events, which has to be, I think, your base case, as interest rates rise and we continue to grow and manage all the various dimensions and metrics, they will expand and they will expand significantly. I think we look at it separately, whether if there’s investments in growth that make sense, our standalone base will make them but at a pace basis, but pre-tax margins should return to historic highs as interest rates increase. But you know, that will take time. It’s not going to happen in the short term – it takes a while.

It’s hard for me—you know, whether we’re going to have another round of commission price wars, who knows? I would hope the industries all learned from the last one that basically it’s a zero sum game, and we are down now to five players in the industry and we should all just focus on competing in other dimensions, which will be much more marketing, incentive base, technology platforms, new investment products, whatever it may be. It’s a very competitive business, but to start on price any more, I think—you know, hopefully everybody recognizes it’s a zero sum game at this point of the industry maturation.

Steven Chubak – Nomura Securities

Thanks. That color was very helpful. And then just one more from me – I’m not sure if you mentioned this earlier, but clearly the margin balance growth in the quarter was quite robust. The growth in recent years has clearly lagged what has been very strong market appreciation. I didn’t know if you could speak to expectations for margin balance growth in light of what appears to be improving retail sentiment.

Fred Tomczyk

You know, margin balances typically and historically have followed buying power, which follows market, so it’s basically the market inside the margin accounts. I think the exception where it lagged a bit here is we did have one stock that got to be an awfully big percentage of our margin balances, and that stock – which was Apple, which was the most widely held stock – went from, I don’t know, over $700 down to under $500, and that definitely made a difference in margin balances, for TD Ameritrade anyway. So I think going forward here, it should be much more a function of buying power, which is a function of the market.

Steven Chubak – Nomura Securities

Okay. Do you think we saw maybe a little bit of a catch-up, at least this past quarter?

Fred Tomczyk

I wouldn’t call it a catch-up. I mean, the S&P 500 was up 30% last year. It was a strong year, so you would expect margin loans to rise.

Steven Chubak – Nomura Securities

Okay, fair enough. Thank you for taking my questions.

Operator

Our next question is from Chris Allen of Evercore. Please go ahead.

Chris Allen – Evercore

Morning guys. Just wanted to ask about investment product balances of about $30 billion on a year-over-year basis. Wonder if you could break down how much of the growth was market related and how much was driven through sales.

Fred Tomczyk

Yes, I think it was 130—

Bill Gerber

One-thirty, yes – 130.

Fred Tomczyk

--balances. I mean, I don’t have that split – I’m sorry, Chris, but I would say in a quarter, inside a quarter, it’s going to be more driven by the market than any other single thing.

Chris Allen – Evercore

Got it. And when we think about the outlook for this year, was it just kind of a normal market return embedded in the outlook?

Bill Gerber

Yes.

Fred Tomczyk

Yes.

Chris Allen – Evercore

Okay, good. Thanks a lot guys, that’s it.

Operator

Our next question is from Joel Jeffrey from KBW. Please go ahead.

Joel Jeffrey – KBW

Hey, good morning guys. Just a follow-up on the margin question. The rate keeps coming down a little bit, and I’m assuming that’s probably due to mix as more active traders are paying a slightly lower rate. With typical retail traders getting back into the market, do you expect this to rise, and if so, how soon might that happen?

Fred Tomczyk

Now that’s difficult to call. I think that you can take away from it there’s no question in the quarter we saw the biggest percentage growth in margin balances from the more active traders. They’ll typically have a more—a lower rate, so that really is what happened in the quarter. You would expect that as the average client gets back into the market, but again it all depends on the mix and how much of the increase is in a difference client group, and that’s hard to forecast.

Joel Jeffrey – KBW

Okay. And then just as a follow-up to one of the comments you made earlier, you talked a little bit about sort of the value in the additional ad spend around the Olympics. Can you give us any kind of metrics on kind of do you see the growth in new accounts, do you see it from existing accounts and doing more activity with the spend? How do you think about where the benefits are going to come from?

Fred Tomczyk

Well the first—we look at two things. We definitely look at new accounts and new assets and all that kind of stuff, but we also measure awareness and brand consideration kind of metrics. The one thing—you know, we’ve done a lot of things to try and get brand consideration because we have changed from being solely an active trader firm to an active trader and a long-term investor firm and an asset gatherer. The thing that we noticed when we did the Olympics, which we did the last time and it was the first time we’d ever done it, was that around that time, we got an increase in brand recognition and brand consideration that we hadn’t seen from anything else we’d done. So that was the driving reason, and it is the most watched event in the world so basically we would expect some uptick in new accounts. But I think it’s mainly—the thing that we saw the last time was mainly driven by brand recognition and brand consideration.

Joel Jeffrey – KBW

Great, thanks for taking my questions.

Operator

Our next question is from Chris Harris of Wells Fargo Securities. Please go ahead.

Chris Harris – Wells Fargo Securities

Thanks. Hey guys. So when we look at customer engagement, I know everybody has been talking about it already, and I know one month doesn’t make a trend; but in January, the rate looks to be over 7.5% - this is the activity rate I’m talking about. It’s interesting to me because your business is so much different now than it used to be. The advisor business is so much larger, so one would think that maybe the activity rate should be a little bit lower given advisors are so much bigger. So can you maybe speak to that dynamic a little bit? Is it maybe a false assumption to assume that maybe advisors aren’t as active as the retail segment, or is the retail segment just so much more robust maybe now than it was in, say, ’06?

Fred Tomczyk

You know, there’s no question the activity rate in the institutional channel is lower than the activity rate in the retail channel. Having said that, if you look year-over-year at increase in trades, both are up nicely year-over year, but actually the institutional channel trades per day are actually up higher—a higher percentage year-over-year than the retail side. About a year and a half, two years ago, we introduced StrategyDesk and thinkpipes to the RIA channel and that has done very well for us, and a segment of the advisors that work with us and have custody of their assets with us have embraced that, and that’s allowed us to move up into some bigger RIAs.

Chris Harris – Wells Fargo Securities

Okay, great. Completely unrelated question – the new stockholder agreement with TD Bank, obviously those guys extending, they’re clearly committed to the relationship. Were there any material amendments to the agreement, and if there were, could you maybe walk us through some of the highlights?

Fred Tomczyk

You know, I think for all intents and purposes and in all material respects, it’s all published so it’s publicly available. But having said that, there’s no significant changes from the old shareholders agreement to the new one from our perspective. One exception is that after January of 2016, which is the expiry date of the original stockholders agreement, the Ricketts parties lose their rights under the terms of the stockholders agreement but they retain their rights as significant shareholders, but they would lose, for example their board seat rights that they have and they would cease to be a—while it’s an amended stockholders agreement that the Ricketts are a party to, they will basically fall away after January of ’16 in terms of the stockholders agreement. But for all intents and purposes, the rest of it is pretty much the same.

Chris Harris – Wells Fargo Securities

Okay, excellent. Thanks.

Operator

Our next question is from Alex Blostein of Goldman Sachs. Please go ahead.

Alex Blostein – Goldman Sachs

Thanks. Hey everybody, good morning. Just a question on the dynamic of rising in derivative trades and mobile trades. I was hoping you guys could just talk through profitability of that business relative to your more kind of traditional business. Is it more profitable, less profitable? Did it cost you guys more to provide services to those type of investors, or it’s kind of similar to the rest of the business?

Fred Tomczyk

Well from a revenue perspective, an option trade is a richer commission per trade than an equity trade, number one. Number two is an option—somebody that’s a regular option trader, their trading patterns are much more resilient. They tend to be more active. They can trade in any type of market. Options expire, so it is definitely a more profitable part of the trading business.

With respect to when you get to mobile, we have metrics that clearly demonstrate that people that use mobile trade more frequently than people that don’t, and when they adopt mobile they tend to trade more than they did before, so it definitely helps with trade lift. You know, whether you want to attribute the cost of keeping up with all the various mobile devices against that, to be quite honest, I think we don’t have a choice and nobody in this industry has a choice. It is a secular trend that’s going on. It’s quite noticeable – it’s been noticeable for a while. You can see it in the technology industry, so from our perspective you have no choice but to keep up with the trends in mobile devices as part of your business generally.

Alex Blostein – Goldman Sachs

Got you. And then a separate question in the IDA, and I think somebody tried that already, but when you think about the spread right now, and I think you guys mentioned whether you look at the 5-to-2 or 7-to-2 on the (indiscernible) curve, it’s at the wider level it’s been in several years. Where do you need that to go to actually make a decision and start to extend duration a bit?

Fred Tomczyk

Well to try and reiterate what I said earlier is—you know, we follow pretty sophisticated asset liability management techniques, and whether that’s fixed-float mix or what we call extended duration or overall duration, we would say for the environment we see ourselves in, we are in a very good position. So we don’t see ourselves increasing duration a whole lot from here. That’s not to say it won’t go up or down on a tactical basis as net interest margins won’t move up or down inside a quarter a small amount, but we don’t see—you’ve got to keep in mind this is a marathon, not a sprint, and we’re very much—we would say we’re on the asset liability managed profile we think we should be.

Alex Blostein – Goldman Sachs

Got you. Great, thanks guys.

Operator

Our next question is from Devin Ryan of JMP Securities. Please go ahead.

Devin Ryan – JMP Securities

Hey, good morning. I have a question around client cash. Client cash to total assets, it’s still within the normal 15 to 20% range but it looks like it ticked down to the lowest level since the financial crisis, which I guess makes sense just as sentiment is improving here. But from a financial perspective, I’m assuming that whether this is a positive or negative really depends on where the money is flowing, so can you speak a little bit to how a changing mix impacts your yield on those assets, meaning would you rather that money stay in cash or were moved to other products.

Fred Tomczyk

You know, I think you have to look at this and say, just do the right thing for the client and let the client do what they think is right. So whether they take it out of cash or put it back in cash is really up to them. We really—there’s not something we’re recommending. It’s very much what either the RIA is recommending or the client is doing on their own, so you kind of go with the dynamic.

You know, this has happened before and the fact that client cash—you know, you can look at the percentage of client assets. That will, inside a quarter or even a year, is going to depend more on what happens to the denominator than the numerator, and that’s really what you’re seeing as going to the bottom because the market is up so much. But you look at the balances – we’ve seen this before where typically we’ll trend up in, let’s call it the mid-teen range, based on the asset gathering, then it will slow down for a quarter or maybe even two quarters but then it comes back and starts to pick up again.

The fact, I think, that during the quarter we had something like $12 billion of net buys by our clients moving into the market, and our client cash still was—still rose, we feel pretty good about that.

Devin Ryan – JMP Securities

Right, and I appreciate that color. I guess what I’m trying to get to is for Ameritrade, is any shift in terms of maybe cash moving out of—or cash moving to other products, is that more profitable to the firm or is it more profitable to have a higher cash balance and that money stay in cash?

Fred Tomczyk

That’s going to depend on the interest rate environment and where they move. I understand the question – I’m not trying to evade it. It’s just we’re not going to take any action to encourage people to stay in cash or not stay in cash. I think people make their own decisions and it will be what it will be. From a purely economic perspective, client cash is very profitable, but if they’re moving it from cash into being very active traders, then you can make a lot of money doing that.

Devin Ryan – JMP Securities

Right. I appreciate the color. Just with respect to the improving investor sentiment that we’ve been speaking about, clearly conceding your results and kind of the core business drivers, has there been anything that you would point to where you’d say, this is where we saw the meaningful change in activity, or has it just been more of a steady improvement in recent quarters? Just trying to put some more context around all the comments – I mean, margin balances are at a record, activity rate is quite high. You know, we’re coming off of a low base, but does it still feel like there’s quite a ways to go in terms of that momentum?

Fred Tomczyk

You know, I would say we saw this improving all through the last quarter. We saw a strong October, a strong November. We expected a pull-back in December and we didn’t get it, and even during the holiday weeks when you would normally expect trading to soften, it really didn’t soften. So I think that catch us a little bit by surprise, and then clearly as we started the year, I don’t think we would have predicted how strong trading has been so far in January, and it’s been pretty consistent. So I think January has consistently been very robust.

Devin Ryan – JMP Securities

Okay, great. Thank you.

Operator

Our next question is from Bill Katz of Citi. Please go ahead.

Bill Katz – Citi

Okay, thanks very much for taking my questions. First question – just coming back to margins overall for the company, if you look at the last couple quarters, it’s been relatively flattish despite what seems to be a nice improvement in the top line. So absent interest rate changes, what would be the key driver to incremental margin improvement for the franchise?

Fred Tomczyk

Trading.

Bill Gerber

Certainly trading will build, and as we look at—as I mentioned to an earlier question, we expect the expenses are going to stay relatively flat in this area for a while. We obviously always look for improvements in that, so—but exactly to your point, as you’re getting more asset growth, that’s going to help even if rates don’t move. Trading levels will increase margins – that’s true. The investment product fees, the things that we’re doing in that area, all these things are going to help. I mean, I don’t think there’s any magic bullet in here, but each one of those that we are trying to drive is important, as well as trying to make the efficiencies and the expense side to either reduce or redeploy the expenses into more client-facing salespeople and/or technologies that we think will drive further growth as well.

So it is a combination of a lot of things. There’s not one or two I think that we should easily focus on.

Bill Katz – Citi

Okay. And just as a follow-up, you mentioned you have healthy growth in sort of the FAs. Could you comment a little bit about the acquisition costs or any change in trends around pricing to bring in the FAs?

Fred Tomczyk

You mean the branch people or the—

Bill Katz – Citi

No, no – breakaway brokers. What do you see in terms of acquisition costs to bring these brokers onto your platforms?

Fred Tomczyk

We haven’t seen any real shifts. It’s a competitive business but it continues to be very much a relationship business from our perspective.

Bill Katz – Citi

Okay, thank you.

Operator

Our next question is from Chris Shutler from William Blair. Please go ahead.

Chris Shutler – William Blair

Good morning. Just hoping that you could dive into some of the underlying trends that you’re seeing in terms of client asset allocation, so any differences you’re seeing in terms of behavior between RIAs and retail investors, and particularly just on the domestic equity side.

Fred Tomczyk

I would say on the retail side, we are primarily an equity and option house, and we’re very small fixed income book. But there’s no question you would see people pretty bullish on equities generally. It shows up in just about every metric. It shows up in Amerivest flows, and even in the mutual fund allocations. If you went to the RIA side, they have been fully invested all the way through. They’re very low—they’re sort of the lowest client cash—allocation to client cash that we’ve seen, and again they would be fairly bullish on equities.

Chris Shutler – William Blair

And no huge shifts in terms of preference between domestic and international equities on the RIA side that you’ve seen?

Fred Tomczyk

I’m looking around the table here, because I haven’t seen anything noticeable.

Chris Shutler – William Blair

Okay. And then a totally different topic. Just wanted to get your thoughts on payment of order flow. I know that some exchanges over the last year have been pretty vocal on their views related to that topic, and if there’s any risks or considerations you think that we should be thinking about going forward.

Fred Tomczyk

This is an area that seems—I don’t know what it is. Every few years, there is some noise around it. It’s something that’s gone on since I’ve been involved with the company and I think since Bill Gerber’s been involved in the company, which is longer than I. You know, if an exchange wants to change the metric on their exchange, that’s their choice. I think our interests are very much the general market structure, and we would say that the retail investor today is getting better execution at lower cost than at any time in history.

So if we have a market structure thing we want to debate as an industry or with the SEC, let’s start with, okay, tell me what the issues are, because the retail investor is getting very good execution at low cost. Our interests are very much that it remains a competitive market, that there’s lots of venues. I think all of us have seen technology events, and we think it’s important that there’s multiple venues in the market for people like us to move our flow around to make sure that we get timely and good execution, and that’s first and foremost on our mind is good execution. But if an exchange wants to do something on their own, that’s clearly up to them. They’re a business just like we’re a business, and we will respond accordingly. But everything that I’ve seen is that the market structure generally is an area of interest but I’m not sure there’s universal agreement what problem we’re trying to solve.

Chris Shutler – William Blair

Okay, great. Thanks a lot guys.

Operator

Our next question is from Mac Sykes of Gabelli. Please go ahead.

Mac Sykes – Gabelli

Good morning gentlemen and congratulations on the strong quarter. Quick question here – it seems like we’re in an accelerating age of security technology. I read this weekend that even your Bluetooth kitchen appliance can get spammed, so in light of Target’s breach and other events recently, do you think we are entering a phase where the user experience could be impacted by more stringent security requirements and the potential for more fraud, and is mobile—the way that’s set up, is that any different than typical online trading?

Fred Tomczyk

Yes, mobile is a little bit more tricky. You have to be more careful from an IT security perspective. I’m not sure we’re seeing a shift, per se. I think we’ve just seen a very big breach, and any time you have a breach of that size, it’s going to create a lot of headlines and awareness. But you can rest assured that we haven’t lost sight of it, even when it’s quiet. This is an area that you have to continuously invest. You have to have good people, and as we always say, you’ve got to have best-in-class preventative controls that you don’t have an infiltration or somebody get inside.

Number two is you’ve got to have best-in-class detective controls so that if it happens, you have to assume that—you know, the first line of defense is preventative, your second line is detective, and that when you see it, when it gets in, you’ve got to be able to see it quick. I think one of the issues with the Target breach, at least based on what I’ve read in the papers, is they got in and it took a long time to detect it. That’s when it gets to be a big breach.

Thirdly, you’ve got to have remediation controls, so if it happens and you detect it, you’ve got to be able to dismantle it and disarm it as quickly as you can. This is a never-ending battle. It’s a global problem and the only thing you can do is continue to invest and make sure that you’re at the front of the pack in terms of those three levels of controls.

Mac Sykes – Gabelli

Great, thank you.

Operator

Our next question is from Gaston Ceron of Morningstar Equity. Please go ahead.

Gaston Ceron – Morningstar Equity

Hi, good morning. I wanted to follow up a little bit on some of the mobile trends that you guys have been seeing. I think you said during your prepared remarks that—something to the effect that that kind of helped—the rising use of mobile kind of helped you kind of offset some of the traditional lull that you might have seen otherwise in December. I know it’s early days, maybe just hoping here, but just curious if you think that that kind of offsetting effect, that it could possibly extend to other seasonal lull periods, like the summer months for example or things like that, or if it’s just too early to say at this point.

Fred Tomczyk

You know, I think it could and I think it does. I think what you saw here was you went into the holiday season, people had mobile devices, and you had an active market, the market moving around and things like that. So I’m not sure it’s going to cause somebody to trade when they wouldn’t have otherwise, unless—but it allows them to go in and to monitor, and when they monitor, they will adjust based on what they see in the market. So you need the combination of the mobile device and some market movement during that time, and I think that’s what we saw over the holiday season.

Gaston Ceron – Morningstar Equity

Okay. And then lastly, you’ve talked a little bit about some of—we’ve talked a lot about the positive trends you’re seeing. Just curious – with the industry here in the U.S. kind of still evolving but somewhat mature at this point, what is your outlook for what I guess you would call sort of long-term organic account growth? I mean, I think in the last few quarters you’ve been growing at, what, 1% or so each quarter, right, so what would be kind of your long-term outlook?

Fred Tomczyk

I do think account growth is going to be a low single digit gain. Having said that, I think while we focus on account growth, we are more focused on the things that drive revenue these days; for example, we used to report new accounts. We don’t report new accounts anymore; we just don’t think it’s as meaningful a metric as it was early in the history of the industry, and today it’s much more about getting the right type of accounts, making sure they’re either active or they have better assets—or not better assets but bigger assets. So in our view, it’s as much if not more so about the quality of the account than just raw accounts.

Gaston Ceron – Morningstar Equity

Right, thank you very much.

Operator

And our next question is from Rob Rutschow of CLSA. Please go ahead.

Rob Rutschow – CLSA

Hey, good morning everybody. Most of my questions have been asked, but in terms of the client payables balances on your balance sheet, presumably that’s mostly derivatives. Is there any reason the cost on those liabilities would increase as rates go up?

Bill Gerber

Certainly we are in control of that, and so we have a lot of ability to move that around, but it’s something that will go up. I wouldn’t say it’s going to go up materially over any time in the near future. I just don’t see that moving very much in rate.

Rob Rutschow – CLSA

Okay, great. Appreciate it.

Operator

This concludes our question and answer session. I’d like to turn the conference back over to Mr. Tomczyk for any closing remarks.

Fred Tomczyk

Well thanks everyone. In closing the call, I would say that the economy, the markets and the retail investor engagement is much better than it’s been in the last four or five years. This improving environment has certainly helped us to get off to a strong start to fiscal 2014. We feel very good about how we’re positioned for this environment and the management team remains focused on executing our strategy and building out our long term earning power. We’ll see you next quarter. Thank you.

Operator

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.

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