News came last Friday that Silicon Valley Bank was taken over by the FDIC after it had a bank run. Silicon Valley Bank was the 16th largest bank in the country with over $200 billion in assets. Such a big bank failing so suddenly was a shock to the financial system.
Silicon Valley Bank primarily served business customers, not individuals. The FDIC insurance limit of $250,000 isn’t very meaningful to a business. As a result, over 90% of the deposits at Silicon Valley Bank were over the FDIC insurance limit. The government rushed to make an exception and guaranteed all deposits at Silicon Valley Bank to reduce systemic risks.
Most of us don’t have over $250,000 lying around in cash. Even if we need to keep more than $250,000 in cash at times, it’s easy to spread the money over several banks to keep it fully insured. The money is safe as long as you stay under the FDIC insurance limit.
The news of Silicon Valley Bank’s failure also affected Charles Schwab. Charles Schwab’s stock price dropped over 20% at one point today. Charles Schwab has a banking arm — Schwab Bank. Schwab Bank also has uninsured deposits and unrealized losses in long-term bonds on its balance sheet. Many people do have more than $250,000 in Schwab brokerage accounts. Just the other day a reader asked whether it’s safe to buy Treasuries in a brokerage account.
Customer Assets at a Broker
There’s a big difference between having money at a bank and having money at a broker such as Charles Schwab, Vanguard, or Fidelity. Money at a broker isn’t insured by the FDIC but it isn’t like uninsured deposits at a bank.
When you have money at a bank, you have a lender-borrower relationship with the bank. The bank borrows money from you and lends money to others. As George Bailey explained in It’s a Wonderful Life, the bank doesn’t have your money in a safe. It’s in “Joe’s house, and Kennedy’s house, and a hundred others.” Or in Silicon Valley Bank’s case, it’s in long-term bonds that the bank intended to hold to maturity but lost value after interest rates went up sharply.
When you have money at a broker, the broker is only buying and keeping things for you. They do have it in a safe so-to-speak. Your money is in stocks, bonds, mutual funds, ETFs, etc. There is an exact mapping between what the broker says you have in your account and what the broker keeps for you. The broker doesn’t invest your money in long-term bonds for itself.
Money Market Fund
When you have cash in a money market fund at a broker, the money market fund invests in very short-term bonds. When you’re getting a 4.5% yield in a money market fund, the yield is coming from the underlying holdings of the money market fund. It’s not coming from the broker.
The safety of a money market fund depends on the safety of its underlying holdings. The money market fund isn’t FDIC-insured but its underlying holdings may be issued by government entities. If the broker goes down, you still have shares in the money market fund and the money market fund still has its holdings.
The safest money market fund holds only Treasuries and other government bonds. Vanguard, Fidelity, and Charles Schwab all have a money market fund that invests only in Treasuries and government bonds. See my Guide to Money Market Funds.
If you can commit to a set term (the equivalent of buying a CD at a bank), you can also buy Treasuries in a brokerage account. You have a direct guarantee from the federal government for paying the principal and interest on Treasuries.
The big-3 brokers Charles Schwab, Vanguard, and Fidelity all make it very easy to buy Treasuries with no fee. You can buy Treasuries either as new issues or “pre-owned.” See How To Buy Treasury Bills & Notes Without Fee at Online Brokers and How to Buy Treasury Bills & Notes on the Secondary Market.
Madoff and MF Global
People lost money at brokers when the broker didn’t maintain the exact mapping between what it said customers had in their accounts and what the broker kept for the customers. Two recent examples are Bernie Madoff and MF Global.
Madoff falsified account records. He said he bought this and that for the customers but he really didn’t. It was a fraudulent scheme.
MF Global breached the legal separation between customer assets and broker assets. It “borrowed” from customer assets to cover failed speculations elsewhere. Customers were eventually made whole after MF Global went bankrupt but it took five years.
Brokerage accounts are insured by SIPC up to $500,000 but the insurance doesn’t cover the payback from your investments. It only covers missing assets if the broker goes down. If customer assets aren’t missing, the SIPC insurance isn’t needed.
When Lehman Brothers collapsed in 2008, Lehman’s brokerage customers didn’t lose anything. Lehman Brothers lost a lot of money from subprime loans but it didn’t steal from its brokerage customers. All the customer assets in Lehman’s brokerage accounts were properly segregated from Lehman’s assets and liabilities. The brokerage customers just transferred their holdings to another broker.
If you don’t suspect that Charles Schwab, Vanguard, or Fidelity will act illegally as Madoff and MF Global did, the safety of your money at these brokers doesn’t depend on the financial health of Charles Schwab, Vanguard, or Fidelity.
Most of my money is in brokerage accounts. I don’t worry about whether the account is over the SIPC insurance limit. Money at a broker is safer than uninsured deposits at a bank.
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Schwab also has additional insurance on top of SIPC from Lloyd’s of London. I suspect other brokers do too:
Barry Northrop says
Thanks for this useful matter-of-fact information. I forwarded it to two friends who asked me today about how to invest in T-Bills.
This is timely information. I’ve been asked multiple times in the last few days if there is insurance on brokerage accounts. CNBC today showed the dollar amounts that brokerage accounts are covered for but didn’t provide the details that you did. Thank you.
Thanks for the clarity and reassurance. I feel much better about a strategy of using brokerage government money market funds for savings.
Given the current lower interest levels being paid by bank savings accounts and how easy it is to move money to and from the brokerage account I’m essentially just using banks for checking facilities to manage short term cash inflows and outflows.
Harry Sit says
Fidelity brokerage accounts accept direct deposits and allow direct debits for bill payments. You don’t even have to move the money to and from a bank checking account.
So, are you also saying/inferring that FDIC insured bank brokered CDs purchased and held say in a Schwab account are also fully insured up to the $250,000 per issuing bank? These CDs have not lost their characterization by being bought and held through a brokerage account??
Harry Sit says
Brokered CDs have pass-through FDIC insurance. It’s aggregated with your other deposits at the same bank through all channels. If you have $100,000 in a brokered CD from say Capital One through Schwab, another $100,000 in a brokered CD from Capital One through Vanguard, and a $40,000 account held directly at Capital One, you have a total deposit of $240,000 at Capital One subject to the $250,000 FDIC insurance limit.
Brokered CDs usually don’t pay meaningfully more than Treasuries of the same term, especially after you take into consideration the state and local tax exemption in Treasuries. It’s unnecessary to mess with brokered CDs and watch out for the FDIC insurance limit when you have unlimited “insurance” in Treasuries.
Thank you Harry.
I will read your book that I did purchase a few months ago.
Your blog is always informative and much appreciated.
Are Brokered CDs held in a Joint (2 owners) Vanguard, Fidelity, etc. brokerage account covered for $500K (2 x $250K) per CD bank?
Dan A says
No. Joint is an entity, just as individual, IRA, trust, business accounts are.
Will SIPC be able to cover depositors if Schwab goes belly up with >$7T of customer assets? No.
Harry Sit says
If Schwab pulls a Madoff-style fraud, the SIPC insurance plus Lloyd’s of London won’t be enough. If all the customer assets are segregated as they should be, the SIPC insurance isn’t necessary. When Lehman Brothers collapsed in 2008, Lehman’s brokerage customers didn’t lose any of their investments held at Lehman Brothers.
Two questions on whether you think these are safe enough (not a question on tax treatment):
1. Prime MMFs like fzdxx for cash
2. Government MMFs that are mainly in repos not treasuries
On a separate but related note, sharing that I just learned Merril Edge has a preferred deposit program you call for that is FDIC insured but takes 100k cash deposit to get into, but with a currently very competitive rate with MMFs. Benefit over MMFs at ME from what I read is instant sale.
Harry Sit says
Dan – It’s all relative. Prime money market funds aren’t as safe as government money market funds, which aren’t as safe as Treasury-only money market funds, but I’m comfortable with Fidelity’s prime money market fund FZDXX. Pick your tradeoff between yield and safety. A government money market fund can be a good middle ground — safer than a prime money market fund while not losing much yield.
Madoff was a private entity, Schwab is publicly traded. In addition to the usual SEC scrutiny I can’t imagine the other large stockholders of Schwab aren’t reviewing audits and financial statements themselves. Fidelity is closely held by the Johnson family and Vanguard is mutually owned, I wouldn’t worry about any of the three but I would rank it in order of Schwab, Vanguard, and Fidelity in terms of risk, which again is sort of like the asteroids hitting the dinosaurs. If it did happen it would be an extinction level event for capitalism.
Margaret Lopez says
Harry I enjoy all of your posts and read every one even if it does not apply to me , I always learn something from you ! Your posts are clear and understandable and your projections on SS increase are always on the mark .. amazing .
I wanted to expand on the SIPC info , the 500 coverage goes a little further into “ separate capacity “ which provides 500 for each type of account. Like many I have rollovers , Roths and brokerage accounts . There is separate coverage for each type and it expands with joint accounts , trusts etc . However it does combine all accounts in the same capacity to your limit .
I discovered this last fall when I was researching FDIC and then found the SIPC site and how the coverage works . I was surprised to say the least as no one at Fidelity had ever discussed this with me .
On the additional insurance the brokerage’s carry I also delved into that and basically hit a wall . No one would give a firm answer on how much coverage they had or how it would be distributed.. I called corporate and I called my advisor and the opaque response was .. we have a very high level insurance policy and it’s never happened so don’t worry you’re fine . No numbers no defined plan of execution. I had another friend who has Wells Fargo Advisors call and got the same response.
In looking at the SIPC site more info can be found on that in their FAQs .. after the firm goes to liquidation you will find out if your eligible and the amount of recovery you can expect based on the policy .
If I was uninsured for 100.0 and recovered 25.0 I would not be happy to say the least . If I loose money because of how I invested that’s on me .
The more you know the better choices you can make .
Having another brokerage account to offset the risk is not such a big inconvenience so I will be moving 2 Roths to bring me under the threshold.
Not that I think Fidelity or Vanguard are in jeopardy but stranger things have happened and now I know .
Thanks again Harry for disseminating such useful information .
This goes into detail by account type ,
I looked into this MM today:
Schwab Value Advantage Money Fund® Investor Shares – SWVXX
They list 98% cash and only one bank.
I think they rushed to safety. But is cash really safe?
I’m under 250K, but my friend is way over that. He brags about not having market exposure, but I think he does.
Harry Sit says
If you don’t like what you see in Schwab Value Advantage Money Fund Investor Shares (SWVXX), it isn’t the only choice of money market funds at Charles Schwab. Schwab U.S. Treasury Money Fund Investor Shares (SNSXX) invests primarily in Treasuries.
@chris where do you see 98% cash for SWVXX? Looking at their info page, it lists about 60% weekly liquidity and viewing their portfolio holdings looks like they invest in many CDs
I think I will move it. I’m not sure if you agree on the risk or not.
I’m confident most people don’t expect any risk in a Money Market Fund.
I did have that document. I don’t the asset breakdown you mention. That one was from September 2022. I was concerned about the mention of Variable and Floating debt securities and Repurchase agreements. Some of it sounded like derivatives.
The holding % is from the TDA cite. CS bough them. They have not converted my account yet. I guess the biggest clients are going last. They said to make sure everything is smooth. But it sure seems like I get less support. If I’m getting bad info, that is unfortunate.
Chris just a comment. CS has high expense ratios of 0.35% on Money mkt. Vanguard is about 0.1%. So yields there are higher.
If you have flexibility, it be worth shopping around while you are at it. Good luck
can you answer this scenario. if i own a brokered cd lets say 50k (total under 250K limit) and the bank cd was for went under not the brokerage . , I’ve read that technically that the brokerage may be fdic insured up to 250k for all of there clients in totality, because its in the brokerage name, unless the records have the brokerage showing as an agent. so if the brokerage has a few million with that bank in brokered cds only 250k overall may be fdic and it may be treated like a security and may not get full principle bank. the fdic has specific wording to ask the brokerage but trying to get someone to answer this has been exhausting as they couldnt. I have brokered cds at citigroup, and Merril. the fdic has this on their website
ask your broker to confirm that the deposit account records for its brokered CDs reflect the broker’s role as an agent for its clients (for instance, by titling the account “XYZ Brokerage, as Custodian for Clients”). That way, each client who owns the CD can qualify for up to at least $250,000 in deposit insurance. This coverage is generally referred to as “pass-through” insurance because it bypasses the broker and is calculated based on the ownership interests of the individual depositors.
Harry Sit says
Brokers know the rules. A competent broker will register the CD in the right way to give you pass-through FDIC insurance. When a bank in Puerto Rico went bust in 2010, I received the FDIC payout for my brokered CD through the broker in a couple of days.
You can’t easily see how the broker registered the brokered CD with the bank though. If you’d like to avoid the off chance that the broker didn’t register it correctly, just buy Treasuries. See reply to comment #5.
the brokered cds were purchased online so is it safe to assume the major brokerage houses
merrill, etrade, citigroup are doing that?
I have treasuries as well, this is more about the ones i already have and dont want to cash them in on secondary market if the major brokerages are doing this method. i only use the major brokerage firms, not a small investment house
also they are in ira’s if that makes a difference
Harry Sit says
I would assume they know what they’re doing but of course I have no proof. It’s not worth selling your existing brokered CDs just for this worry that the broker didn’t do it right.
Schwab keeps your cash at Schwab Bank. To avoid this you can buy a money market fund. Schwab also has the capability to spread your cash among multiple banks. I invested in Schwab’s Treasury money market fund after reading Harry’s posts–thanks, Harry!
I read recently that Fidelity’s MM fund yields were net of fees. Yes?
Harry Sit says
All money market fund yields are quoted after fees are already deducted.
Harry, what’s your view on safety of so-called stable value funds found in high quality 401k plans? These are also designed to maintain a $1 per share NAV but invest beyond Treasuries. The one in the government’s Thrift Savings Plan is probably the best known example. Below is the description of my own, FWIW. Thanks, Michael
The Common Assets fund is a short- to medium-term fixed income fund. It targets a weighted average portfolio maturity of approximately one year. This average maturity is longer than that of money market funds, which are restricted to weighted average maturities of 60 days or less, but shorter than the Bond Fund, which has an average maturity of approximately eight years.
Investments in the fund are made in high quality fixed income securities, including U.S. government securities, U.S. government agency securities (some of which are not backed by the full faith and credit of the U.S. Government, but all of which are high quality), corporate /bank securities, and other high quality obligations. A portion of the Common Assets fund is invested in loans to participants.
U.S. Series I Savings Bonds are currently the largest fund investment. They pay a rate of interest based on the rate of inflation in the United States. A decline in the rate of inflation would reduce the portfolio yield. U.S. Savings Bonds have stated maturities of 30 years but can be redeemed after a 1 year holding period. They are considered as 1-year investments by the fund.
The Common Assets fund is managed with a target of maintaining a constant $1.00 per unit price. Although the Common Assets fund has maintained a constant unit price since its inception (and is thus considered a relatively conservative investment choice), there can be no assurance that it will always be able to do so (meaning you could lose money). The underlying assets in participants’ accounts are valued on the basis of cost rather than market value, which means the asset value does not include unrealized gains and losses.
Harry Sit says
Here we’re talking about safety related to the party holding and managing the assets. The stocks, bonds, mutual funds, and ETFs kept at Charles Schwab can still lose value from the fluctuations in the markets but it won’t be because Charles Schwab itself runs into financial trouble. This Common Assets fund you posted holds actual assets. Those assets can lose value but it isn’t affected by the financial health of whoever is managing the fund. Some other stable value funds only hold a promise from an insurance company. They are only as safe as the insurance company.