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What a vastly larger Charles Schwab could mean for Fidelity

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Fidelity Investments’ RIA division has been biting at the heels of Charles Schwab in terms of size — but if the already massive company’s acquisition of TD Ameritrade goes through, it won’t be for much longer.

Once approved by regulators and shareholders, Schwab’s expanded custodial division would grow to $2 trillion in RIA assets — 51% of the total RIA market, according to estimates by Cerulli Associates.

After the deal is closed, Fidelity’s RIA division, which keeps approximately $932 billion of advisory assets, according to Cerulli, will be less than half the size of the new Schwab entity.

To be sure, questions about the deal remain, such as whether clients will have to repaper and how service and tech stacks will change. But any way you look at it, Fidelity says, it’s going to be better off in the new landscape.

“We think that this is a tremendous opportunity,” says David Canter, who heads up Fidelity’s RIA division. He points to “a steady flow of unsolicited calls” as proof.

One advisor who custodies with Fidelity, TD Ameritrade and, most recently, Schwab, says he and his firm are optimistic about Fidelity, too.

“Fidelity may be the beneficiary in all this, because where there is disruption, there is the potential,” says Nick Giacoumakis, president of RIA New England Investment & Retirement Group, which has $605 million in assets, according to the firm.

The custodial landscape has shifted after several top players cut trading fees for equity, ETF and options in October. Schwab, TD Ameritrade and E-Trade all proclaimed they would take quarterly revenue cuts as a result of the change, and have laid out plans detailing how they plan to make up for the lost money.

Fidelity, a private company, did not release any anticipated changes in revenue and has declined to provide them, but Canter says that the cuts will not be dramatic. All custodians make money in a similar fashion, he says, and “commissions, you know, are a small part of that equation.” Canter pointed to shareholder servicing, net interest margin and margin lending as other drivers of revenue.

Schwab has started to rely more on cash over the past years — about 60% of its net revenue comes from interest, according to the company’s latest earnings report.

It is unlikely that Fidelity is making the same level of revenue off of cash. While client cash is swept into a FDIC-insured account with an APY of .06% at Schwab, retail client cash at Fidelity is swept into a money market fund with a 7-day yield of over 1%. RIAs can elect to sweep client cash into either a money market fund or Fidelity’s FDIC-insured account, which has an APY of .82%.

If the deal with TD Ameritrade is approved, Schwab estimates cost savings will be approximately $1.8 to $2 billion.

Giacoumakis thinks that Schwab and TD Ameritrade's cost savings could work against Fidelity.

“The combined firm of Schwab and TD together is considerably larger than Fidelity,” he says. “Where there's synergistic cost savings, that's really where I think Fidelity's going to have the most competitive disadvantage, because of the economies of scale that Schwab and TD combined bring to the table."

A Fidelity spokeswoman later said that the company passes its savings along to the customer and said that the firm has $2.8T in AUM.

Asked about all the price cuts and associated pressures, Canter says that the conversation should be less about fee compression and more about revenue-model structure.

“I think that when we talk about pricing, a lot of what can get left out of the discussion is all the value that [custodians] provide. It's more a question about revenue model than pricing,” he says, noting that custodians currently operate as a third-party model, in which advisors don’t pay for the services themselves.

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Leo Kelly, CEO of $1.4 billion RIA Verdence Capital Advisors, which primarily custodies with Schwab and Fidelity, expects a TD Ameritrade deal, as well as compressed revenue from dropping commissions, to boost the value proposition of the custodians for advisors.

“Schwab and Fidelity are not in the business for trade volume revenue — that's readily apparent from what they've just done,” he says. “There's other ways that they make money, and having the assets in-house will be important to them to execute on that. For us, that just means that they're going to provide more and more value-added services and then attempt to make revenue from other locations. They have to.”

Kelly expects this deal will push Fidelity and other firms to become more innovative in order to attract clients. “They're all so massive right now. I think now it's just who can come up with a better mousetrap,” he says.

Fidelity’s success as a result of Schwab’s acquisition will be tied to how Schwab and TD Ameritrade would execute a regulatory approved merger, according to Giacoumakis.

“We’re really hoping that these accounts don’t need to be repapered. That’s a ton of work,” he says. “It’s quite disruptive to a shop when you’re running an RIA when you have to go out and track people down to get more paperwork.”

Competitors like E-Trade and Shareholder Services Group are already seeing interest from advisors as a result of disruption.

“Let's just say that our pipeline has increased by about 50% in just the last week and a half,” Gabe Garcia, senior vice president of E-Trade’s RIA division, which custodies assets for 225 RIAs, told Financial Planning the first week of December.

Canter says he doesn’t expect the pace of change to slow down anytime soon.

“I think, going forward, we all should be keeping an eye on how fast this world is spinning and what could change and what's next,” he says.

Canter declined to comment on whether Fidelity would consider making its own acquisition in coming months.

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