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Schwab gives investors seat at the table for new-issue municipal bonds with J.P. Morgan deal (updated)

San Francisco broker answers call of RIAs seeking to better serve retirement-minded Baby Boomers

Friday, April 23, 2010 – 6:03 AM by Brooke Southall
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Andy Gill: Clients understand what they're going to get with purchases of new issues of municipal bonds.

Responding to a surge in demand from affluent Baby Boomers seeking investments other than stocks, Charles Schwab & Co. has made a deal with giant municipal bond issuer J.P. Morgan Chase & Co. for access to its bonds and bond research.

The San Francisco-based broker already provided some indirect access to the New York-based investment bank’s bond inventory through various bond exchanges but the direct dealing will have lower costs and offer a wider selection for investors.

“If our game was a B-plus, now it’s an A-plus,” says Andy Gill, senior vice president of fixed income for Charles Schwab & Co.

Among the factors driving demand for munis among affluent investors and their RIAs include concerns about the ballooning national debt, which seems likely to force tax rates higher and a general belief that stocks have proven themselves to be risky investments in the past two years. Investors get returns on municipal bonds tax-free.

Seat at the table

Schwab’s alliance with J.P. Morgan gives its investors a seat at the table for new-issue municipal bonds. The beauty of these freshly minted fixed income securities is that they all get sold at the same price. This means that consumers who buy them avoid paying mark-ups that are charged for bonds sold on secondary markets. Schwab customers also are not charged a commission to purchase these new-issue municipal bonds. Schwab makes money because J.P. Morgan pays it a concession on the sale of the new issue.

Besides the savings, there’s also a big side benefit to RIAs working with clients to sell bonds whose prices are not complicated by mark-ups.

“It’s easy to explain to clients,” Gill says. “They understand what they’re going to get.”

J.P. Morgan also offers breadth and depth of inventory, he adds. When an RIA goes to build a bond ladder, he or she can be assured of a wide variety of maturities – 2 years, 10 years, 20 years – within the municipalities the RIA is seeking.

Demands of RIAs

Schwab’s decision to partner with J.P. Morgan largely stemmed from the demands of RIAs who complained that there wasn’t always enough inventory to effectively build bond ladders, Gill adds. This is a particular issue for RIAs — many of whom are seeking to diversify bond holdings on behalf of affluent Baby Boomers. A smaller investor might seek to gain that same diversification using bond mutual funds.

Previously, a Schwab RIA only had the option of searching for bond inventory on an exchange formed of 300 broker-dealers – more of a hit-or-miss process. Schwab provides access to more than 28,000 fixed income securities from those dealers, according to Schwab’s investor website.

J.P. Morgan is the third-largest municipal bond underwriter in the United States and in 2009 it underwrote $70 billion of bonds. J.P. Morgan’s business is concentrated in California and New York. These also happen to be the top two markets where Schwab serves affluent investors.

Update: Last June Pershing LLC struck a similar deal with Barclays Capital, which is a top-ten municipal bond underwriter. All of the former Lehman Bothers’ bond desk’s new issues are made available to Perhsing RIAs and registered reps working with its correspondent broker-dealers. Pershing also has 100 different broker-dealers it works with to get secondary offerings.

Fidelity’s inventory

Fidelity’s Steve Austin made this comment: “Fidelity Institutional Wealth Services provides its clients with direct access to an inventory of over 15,000 fixed income products — municipal and corporate — as well as new issue/syndicate offerings originated through Fidelity Capital Markets and external resources. RIAs also have access to dedicated and experienced fixed-income trading specialists from Fidelity Capital Markets.”

The interest by asset custodians in providing better opportunities to use individual bonds in a portfolio – as opposed to being part of a mutual fund or other product — is a positive development for RIAs, according to Brent Burns, CEO of Asset Dedication in Mill Valley, Calif. Asset Dedication helps financial advisors to build bond portfolios.

“The specter of rising interest rates and the inevitable negative impact on bond fund investors has many in the industry scrambling to introduce solutions that will minimize the possible damage,” he says. “A broader and more open architecture approach to accessing these markets will improve advisors’ ability to take advantage the benefits of individual bonds in a rising interest rate environment. We look forward to seeing RIAs take the opportunity to get to know this often-misunderstood corner of the marketplace.”


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