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Sweeping Up

HAVING TROUBLE PRINTING?
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Excess cash in your brokerage account may be swept into a money market fund or third-party bank account.  Some brokerages offer a choice to customers.  This reporter's did when a new account was recently opened.  Some don't.  Some may change the way they handle excess cash without requesting new consent forms.  Brokerages often reason that customer agreements allow them to change the cash sweep plan or implement a new one without further consent required from the customer.

The NYSE isn't sure that practice is always fair.  On February 16, 2005, the NYSE published Information Memo 5-11 advising member organizations as to how they might disclose changes to their sweep plans.  The memo expressed concern that some changes might be beyond those the customer reasonably anticipated when customer agreements were originally signed or might be so significant that the prior customer agreement did not seem sufficient notice.

This might be true, for example, if a third-party bank to which funds are swept might offer an interest rate significantly different than that in a money-market account into which the cash was previously swept.  Even if rates are comparable, perhaps the rate offered by the bank might be a short-term or promotional rate.  The member organization's plan might include a lower future rate to customers.  Brokerages are not normally required to seek the highest rate possible for their customers, and may in fact receive money from the bank for the cash swept into that bank.  The bank sometimes compensates by offering a lesser rate.  Brokerages changing plans to sweep into a money market account from a bank may eliminate FDIC coverage of customer cash, and those planning on sweeping into a bank account rather than a money-market account may eliminate SIPC coverage.

Information Memo 5-11 advised that member organizations should submit new plans for review.  Customers should be advised if brokerages receive payment from banks for sweeping funds into those banks, among other potential conflicts of interest.  In a one- or two-page document in plain English, the difference in interest rates in those accounts and those that might be obtained in a money-market account should be revealed to customers.  If the brokerage plans to sweep funds in excess of $100,000 into a single bank, FDIC coverage will be affected on the funds in excess of $100,000.  If the bank accepts customers other than the brokerage's sweep account, prior accounts at that bank may impact insurance coverage, too.  The customer needs to know about all these issues, the NYSE argues.

The exchange asks that member organizations prominently post information about sweep plans on their websites, update that information frequently, and also mail information if they have no websites.  Representatives should be trained to discuss the impact of the various choices made by the brokerage or available to the customer, if choices are offered to the customer.  Failure of the member organizations to adequately follow the suggestions set forth in Information Memo 5-11 can be considered conduct inconsistent with good business practice under various exchange rules. 

Member organizations that had previously made changes to their sweep plans that might have been significant are urged to disclose such changes to their customers as soon as possible, but at least within three months of the publication of Memo 5-11.  Some brokerages could conceivably be just now informing customers of disadvantageous changes in their sweep plans.  If brokerages were rushing to provide that information on their websites, however, it wasn't prominently displayed or readily found on quick searches of major brokerages with websites.

Traders might pay particular attention to those disclosure statements that might arrive in the mail, considering how sweep plans might impact them financially.  Are choices now offered and which might be best?  For traders who need tax-free income, a tax-free money-market fund might offer some advantages.  A trader's financial advisor will be the best person to consult for more information.  If the excess cash will not be needed immediately, options might widen more than for those who need more liquidity.  Having FDIC coverage might be of prime concern to some brokerage customers, and those with more than $100,000 in excess cash would then want to ensure that a brokerage that sweeps cash into third-party banks sweeps into more than one bank or into the same bank in separate capacities.  Interactive Brokers notes that "[C]ustomer securities accounts . . . are protected up to $30 million (including up to $1 million for cash.)" by securities account protection provided by Securities Investor Protection Corporation (SIPC) and Lloyd's of London insurers.

Fast execution, readily available customer support and easy-to-follow trade and account information may be more important to some traders than a difference in interest rates available for swept funds.  However, most traders would want to know if their brokerages were engaging in conflicts of interest.  Traders should check into the methods their brokerages use for sweeping.
 

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