eTrade 2004 Annual Report Download - page 40

Table of Contents
Index to Financial Statements
Brokerage interest income refers to interest income earned on margin loans, stock borrow balances, cash required to be segregated under
regulatory guidelines and fees on customer assets invested in money market funds. Brokerage interest income primarily depends on average
interest rates and average balances of assets upon which we earn interest. As interest rates fluctuate, so does the average rate that we earn on
these assets. The increase in brokerage interest income from 2003 to 2004 was due to significant increases in average margin and stock borrow
balances, partially offset by reduced margin rates earned. The decrease from 2002 to 2003 was primarily due to a reduction in average margin
interest rates earned, customer average money market fund balances and interest income associated replacing third-party managed funds with
our own. The reduction in customer average money market fund balances from 2002 to 2003 related to the sweep of customer money market
fund balances into the SDA product beginning in 2003. Revenues on the balances in the SDA product are reflected in the net interest spread. In
October 2002, we replaced third-
party managed money market funds offered to our customers with our own money market funds. As a result, a
portion of the third-party revenues we earned and previously recorded as brokerage interest income were subsequently recorded as proprietary
fund revenues and classified as other brokerage-related revenues as the revenues related to our management of the money market fund assets.
In early 2005, we provided investors notice that certain of these money market funds would be terminated and certain others would be managed
by a third-party.
Brokerage interest expense includes interest paid to customers on credit balances, interest paid to banks and interest paid to other broker-
dealers through our brokerage subsidiary’s stock loan program. Although we pay interest on most customer credit balances, we do not pay
interest on certain credit balances such as those that result from short sales. We include brokerage interest expense in net brokerage revenues
because it offsets gross brokerage interest income in the computation of net revenues. As with interest income, the key determinants of interest
expense are average interest rates and average balances upon which we are required to pay interest. The increase from 2003 to 2004 was due to
an increase in average stock loan and customer credit balances with a slight increase in average interest rates. The decrease from 2002 to 2003
was due to a decrease in average interest rates paid, partially offset by an increase in average stock loan and customer credit balances.
Banking Revenues
During 2004, net banking revenues, which represent approximately 40% of the Company’s net revenues, increased 8% to $603.8 million
primarily because of a $203.8 million increase in net banking interest income, partially offset by a $120.9 million reduction in the gains on
sales of originated loans. A 30% rise in our average balance of interest-earning assets, was the primary driver of a $219.9 million increase in
our banking interest income. In addition, our ability to sweep an average of $4.1 billion of additional lower-cost SDA funds was a key driver in
reducing interest expense and widening net interest spread by 57 basis points. Gains on sales of originated loans, which we generate when we
lend money and subsequently sell the loans, decreased primarily as a result of higher interest rates which depressed the volume of mortgage
refinancings made by E*TRADE Mortgage. Our banking interest income, interest expense and gain on sales of originated loans are each
largely dependent upon interest rates. If interest rates rise, origination volumes, and correspondingly, our gain on the sale of originated loans,
would likely decline and our net interest spread could increase. Conversely, if interest rates fall, we believe our revenues from mortgage
originations will likely increase and our net interest spread could decline. At December 2004, 2003 and 2002, active banking accounts were
626,673, 638,345 and 511,298, respectively. Deposit accounts are considered “active” if the account was initially funded, remains open and is
not abandoned or dormant under applicable Federal and State laws. Loan accounts are considered “active”
if the Company holds the underlying
obligations. Credit card accounts are “active” if the account has incurred a debit or credit within the prior month. The decline in customer
accounts in 2004 primarily reflects a decline in retail deposit accounts, primarily higher-cost certificates of deposit while the increase in 2003
reflects overall increases in banking accounts including the addition of credit card accounts.
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