Charles Schwab to Contest Unfair Allegations by New York State Attorney General

SAN FRANCISCO--(BUSINESS WIRE)--Charles Schwab & Co., Inc. issued the following statement today in response to allegations by the Attorney General of New York (NYAG) concerning the company’s sale of Auction Rate Securities (ARS).

The Attorney General’s allegations are without merit. They unfairly lay blame on our company for an illiquid market and improper behavior by the large Wall Street firms that created and then, despite their obligations, stopped supporting Auction Rate Securities.

Schwab did not create the products and had no involvement in the events that led to the collapse of the ARS market, events brought about by the Wall Street underwriters who manufactured, marketed and then simply abandoned their responsibility as lead managers for the auctions.

The NYAG presumes that Schwab somehow knew of a risk that the entire ARS market could seize up at any time, and failed to disclose that risk to its clients, which is preposterous. Schwab had no more idea that the entire market for ARS could fail than did the NYAG, the SEC or FINRA, those very regulators charged with overseeing the ARS market and regulating the firms that manufactured them and ran the auctions. Schwab brokers, while trained to levels beyond industry standards, could not be expected to foresee and disclose market risks that even regulators and market experts did not foresee, or that were intentionally veiled by the underwriters.

The seizure of the ARS market has caused hardship for many investors, including our own clients, and it is puzzling and simply wrong that the NYAG dropped its pursuit of the real culprits who profited immensely from these products and is focusing its efforts instead on companies and their shareholders who played no role in the creation and promotion of these securities or their downfall. When regulators hastily settled with many of these Wall Street firms, they let them off the hook by not requiring them to repurchase ARS that downstream investors bought. Those firms are now reporting record profits while many investors have been left in the lurch.

Schwab has taken an active role in helping clients who are unable to find buyers for these securities and has fully cooperated with the New York Attorney General’s investigation over the past several months. Contrary to the NYAG’s assertion, Schwab has voluntarily produced volumes of data and recordings of numerous customer calls. There are no regulations requiring that customer calls be recorded. Schwab does record some customer calls made or received at call centers. To the extent ARS transactions were made on recorded lines, those calls have been located voluntarily and provided to the NYAG. The fact that all transactions are not made on recorded lines does not mean that there was a records retentions violation, as the NYAG suggests.

We regret the Attorney General feels it is appropriate to try cases in the press rather than in the courts where all the facts can be presented. Schwab believes that it acted properly and was itself misled by the underwriters of these securities, and we intend to vigorously defend the company and are confident, based on the facts, we will win. Contesting this is in the best interest of our shareholders and the company’s reputation.

Taken as a whole, the NYAG’s actions are inconsistent with the law, basic fairness, and common sense. We believe the Attorney General should continue to focus its considerable powers and efforts on the firms that created and then abandoned these products, rather than financially punishing and damaging the reputation of others who acted in good faith. For Schwab clients and other investors who hold these auction rate securities, and who are suffering from the lack of liquidity that less than transparent underwriting and auction processes created, legal settlements should be pursued that require the dealers and auction agents to repurchase the securities at their original cost. We encourage the AG to aggressively pursue that path – the fair and appropriate path in this situation.

Additional Background:

• Schwab did not know until it occurred that the market for ARS was in danger of freezing up or that the underwriters could, and would, walk away from their obligation to support the liquidity of these securities.
• In fact, just days before the collapse, Schwab was told by one of the major Wall Street underwriters that investors would have access to liquidity; days later they simply walked away from the market.
• Schwab did not know that other broker dealers were routinely propping up the market for ARS, creating an artificial impression of liquidity.
• Schwab was not involved in the withdrawal of supporting bids for ARS that precipitated the market’s freezing.
• Based on the facts available and over two decades of historical precedent with ARS performance, Schwab, like other third-parties and the market regulators themselves, could not anticipate there was a risk of system-wide paralysis.
• Schwab’s limited participation in the ARS market was driven by client demand, not a desire for investment banking fees; roughly 90% of purchases were unsolicited trades.
• Schwab did not underwrite ARS or serve as an auction agent for ARS.
• Schwab did not trade in ARS on a proprietary basis or have an inventory of ARS that we then sold to clients .
• Schwab did not place proprietary bids in or artificially prop up the market for ARS.
• Schwab did not develop marketing materials or provide research to promote auction rate products.
• Schwab did not offer sales incentives relating to ARS transactions; indeed, Schwab did not compensate its Financial Consultants at all for ARS transactions.

About Charles Schwab

The Charles Schwab Corporation (Nasdaq:SCHW) is a leading provider of financial services, with more than 300 offices and 7.6 million client brokerage accounts, 1.5 million corporate retirement plan participants, 593,000 banking accounts, and $1.2 trillion in client assets. Through its operating subsidiaries, the company provides a full range of securities brokerage, banking, money management and financial advisory services to individual investors and independent investment advisors. Its broker-dealer subsidiary, Charles Schwab & Co., Inc. (member SIPC, http://www.sipc.org), and affiliates offer a complete range of investment services and products including an extensive selection of mutual funds; financial planning and investment advice; retirement plan and equity compensation plan services; referrals to independent fee-based investment advisors; and custodial, operational and trading support for independent, fee-based investment advisors through its Advisor Services division. The Charles Schwab Bank (member FDIC) provides banking and mortgage services and products. More information is available at www.schwab.com.