By Andrew Welsch

The Securities and Exchange Commission is scrutinizing LPL Financial's practices regarding clients' uninvested cash, which it sweeps into bank accounts paying little interest.

Several retail investors have also filed lawsuits against LPL Financial, accusing the company of breach of fiduciary duty because it pays so little interest on customer cash in sweep accounts. Other banks and brokerage are confronting similar challenges as well as questions from the SEC.

LPL disclosed that in August the SEC asked for more information with regard to the company's cash management program for advisory accounts, according to LPL's newly filed 10-Q form, which was filed Monday. The disclosure provides little detail other than LPL says it is cooperating with the SEC's requests and that it believes that the request is part of an industry wide inquiry "based on the nature of the request."

Representatives for LPL and the SEC declined to comment.

Wolfe Research analyst Steven Chubak says in a Nov. 4 research note that LPL's disclosure is not surprising and that it appears to be an industry wide issue, with the SEC making similar information requests of other brokerage firms such as Morgan Stanley.

"LPLA appears quite comfortable with its approach to managing sweep deposit pricing as the firm received the "request for information" from the SEC in August and was still comfortable lowering sweep deposit pricing in Sept. following the initial 50bp Fed rate cut," he writes.

Chubak adds that LPL's "documentation on its cash sweep program appears to be compliant with SEC requirements surrounding disclosure, surveillance, and conflicts of interest." He rates LPL Outperform and has a price target of $338.

Shares of LPL showed little impact on Tuesday. They were up about 1% mid-day Tuesday and are up 21% this year, close to the performance of the S&P 500.

Brokerage firms have long swept clients' uninvested cash into sweep accounts that pay little interest. The practice can be profitable for companies, but it drew little attention from customers until interest rates began to soar in 2022. Customers then started moving billions of uninvested dollars to higher paying options, such as money-market funds, in a process known as cash sorting.

This summer customers filed a spate of lawsuits in federal courts against LPL Financial, Morgan Stanley, and other brokerage and wealth management companies over cash sweep practices. The investors generally accuse the companies of breaching their fiduciary obligations to customers by short-changing them in sweep accounts.

In one of several lawsuits filed against LPL, investor Daniel Peters' legal complaint says LPL required investors to enroll in the company's cash sweep programs. Peters' lawsuit says LPL designed the programs to ensure it always gets the lion's share of interest generated by customers' cash holdings while customers get "only a small fraction" of any profit.

"The programs are so indifferent to the needs of defendant's customer cash holdings that in most managed customer accounts, defendant's customers lose money on their cash positions while LPL reaps substantial profits from that cash," states the lawsuit, which was filed July 17 in a federal court in San Diego.

LPL has denied the allegations in Peters and other lawsuits. In its 10-Q filing with the SEC, LPL says it "intends to defend vigorously against the lawsuits."

Some brokerage and wealth managers, such as Morgan Stanley and Wells Fargo, have raised interest rates paid on some clients' uninvested cash. Those policy changes initially prompted concern among analysts and shareholders that more brokerage firms could follow suit, and net interest income could decline as a result.

Write to Andrew Welsch at andrew.welsch@barrons.com

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November 05, 2024 14:21 ET (19:21 GMT)

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