Charles Schwab 2011 Annual Report Download - page 101

THE CHARLES SCHWAB CORPORATION
Notes to Consolidated Financial Statements
(Tabular Amounts in Millions, Except Per Share Data, Option Price Amounts, Ratios, or as Noted)
- 73 -
securities from other broker-dealers to fulfill short sales by clients. The fair value of these borrowed securities was
$44 million and $113 million at December 31, 2011 and 2010, respectively.
Client trade settlement: The Company is obligated to settle transactions with brokers and other financial institutions even if
the Company’s clients fail to meet their obligations to the Company. Clients are required to complete their transactions on
settlement date, generally three business days after the trade date. If clients do not fulfill their contractual obligations, the
Company may incur losses. The Company has established procedures to reduce this risk by requiring deposits from clients in
excess of amounts prescribed by regulatory requirements for certain types of trades, and therefore the potential for Schwab to
make payments under these client transactions is remote. Accordingly, no liability has been recognized for these transactions.
Margin lending: The Company provides margin loans to its clients which are collateralized by securities in their brokerage
accounts and may be liable for the margin requirement of its client margin securities transactions. As clients write options or
sell securities short, the Company may incur losses if the clients do not fulfill their obligations and the collateral in client
accounts is not sufficient to fully cover losses which clients may incur from these strategies. To mitigate this risk, the
Company monitors required margin levels and clients are required to deposit additional collateral, or reduce positions to meet
minimum collateral requirements. Clients with margin loans have agreed to allow the Company to pledge collateralized
securities in their brokerage accounts in accordance with federal regulations and was allowed, under such regulations, to
pledge securities with a fair value of $14.7 billion and $15.0 billion at December 31, 2011 and 2010, respectively. The fair
value of client securities pledged to fulfill the short sales of its clients was $1.2 billion and $1.4 billion at December 31, 2011
and 2010, respectively. The fair value of client securities pledged to fulfill the Company’s proprietary short sales, which
resulted from facilitating clients’ dividend reinvestment elections, was $101 million and $99 million at December 31, 2011
and 2010, respectively. The Company has also pledged a portion of its securities owned in order to fulfill the short sales of
clients and in connection with securities lending transactions to other broker-dealers. The fair value of these pledged
securities was not material at December 31, 2011 or 2010. The Company may also pledge client securities to fulfill client
margin requirements for open option contracts established with the OCC. The fair value of these pledged securities to the
OCC was $1.3 billion and $1.2 billion at December 31, 2011 and 2010, respectively.
Financial instruments held for trading purposes: The Company maintains inventories in securities on a long and short basis
relating to its fixed income operations. The Company could incur losses or gains as a result of changes in the fair value of
these securities. To mitigate the risk of losses, long and short positions are marked to fair value and are monitored by
management to assure compliance with limits established by the Company.
Resale and repurchase agreements: Schwab enters into collateralized resale agreements principally with other broker-dealers,
which could result in losses in the event the counterparty fails to purchase the securities held as collateral for the cash
advanced and the fair value of the securities declines. To mitigate this risk, Schwab requires that the counterparty deliver
securities to a custodian, to be held as collateral, with a fair value in excess of the resale price. Schwab also sets standards for
the credit quality of the counterparty, monitors the fair value of the underlying securities as compared to the related
receivable, including accrued interest, and requires additional collateral where deemed appropriate. At December 31, 2011
and 2010, the fair value of collateral received in connection with resale agreements that are available to be repledged or sold
was $18.3 billion and $13.0 billion, respectively. Schwab utilizes the collateral provided under repurchase agreements to meet
obligations under broker-dealer client protection rules, which place limitations on its ability to access such segregated
securities. For Schwab to repledge or sell this collateral, it would be required to deposit cash and/or securities of an equal
amount into its segregated reserve bank accounts in order to meet its segregated cash and investment requirement.
Concentration risk: The Company has exposure to concentration risk when holding large positions of financial instruments
collateralized by assets with similar economic characteristics or in securities of a single issuer or industry. For discussion on
the Company’s exposure to concentration risk relating to residential mortgage-backed securities, see note “6 – Securities
Available for Sale and Securities Held to Maturity.”
The Company’s investments in corporate debt securities and commercial paper totaled $5.6 billion and $4.6 billion at
December 31, 2011 and 2010, respectively, with the majority issued by institutions in the financial services industry. These
securities are included in securities available for sale, securities held to maturity, cash and investments segregated and on