Merrill Lynch, Morgan Stanley, Smith Barney and Charles Schwab are being sued for claims they improperly directed their clients’s funds into lower paying deposit accounts at affiliate banks, enabling those banks to reap billions in extra profits. Attorneys for investors seek permission to add Wachovia, based on “sweep” accounts it will receive from AG Edwards in an impending merger.
Details of the suit, filed in January but amended last month, had not previously been reported. Bank deposit sweep programs “put the broker in a very conflicted position” said an attorney for the investors recently, adding “this is not what they should be doing as financial advisers.”
The claim states that the firms are positioning themselves as objective financial advisers, but send their customers’ funds into bank deposits paying far less than market rates, adding that the firms disclose to clients that more profitable accounts are available, but bury the disclosures in documents while failing to mention the magnitude of their profits.
Merrill’s savings bank, for example, holds $55 billion in deposits from Merrill’s customers, plus other assets, and earned over $2 billion last year, confirms Jon Holtaway, managing director of Danielson Associates Inc., a bank consulting firm in Rockville, Maryland. He added that Merrill earns a net interest margin of 3.6% – 6 to 7 times as much as the 0.5% to 0.6% firms make on money merket funds.
The suit claims that most of the firms’ banks initially paid interest rates competitive with money market funds, but changed to a “tiered” rate structure with yields of 1% or less to smaller customers. Morgan Stanley rolled out its program in 2005, with deposits growing by 30 times to $16.4 billion by February 2007, according to company reports.
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