Morgan Stanley Sees Opportunity as Schwab Stock Falls After Record Quarter

Charles Schwab delivered one of its strongest quarters on record, but the market reaction was muted as shares fell about 2.5% following the results. The disconnect between robust financial performance and the stock's decline has drawn renewed attention from Morgan Stanley, which is doubling down on its positive outlook for Schwab. The firm argues that the selloff reflects investor positioning rather than any deterioration in Schwab's underlying business.

Trading and Lending Drive Growth

For the second quarter, Schwab reported adjusted earnings of $1.62 per share on record revenue of $7.07 billion, surpassing Wall Street expectations on both metrics. The company also raised its full-year revenue growth forecast to a range of 17.5% to 18.5%, up from the 14% to 15% guidance provided at its May investor day. Notably, this improved outlook was not based on higher net interest margin assumptions, which remain at 3.00% to 3.10% for the year, but rather on stronger client engagement and increased trading activity.

Daily average trades reached a record 11.9 million in the quarter, up 57% from a year earlier. Trading revenue climbed 28% year over year to approximately $1.2 billion, while bank loan balances rose to $67 billion, a 33% increase. Schwab's CEO, Rick Wurster, attributes the surge in trading to generational and technological shifts, including the influence of younger investors and artificial intelligence tools.

Shifting Balance Sheet Strategy

Morgan Stanley's analysis highlights a significant change in how Schwab is deploying its balance sheet. Instead of allocating excess cash primarily to securities, Schwab is channeling more funds into pledged asset lines and other client loans. These loans typically generate spreads more than 100 basis points above what the company would earn from bond investments. Pledged asset line balances jumped to $33.4 billion, up 59% from a year ago, with originations increasing by about 60%.

This lending strategy appeals to clients with large unrealized gains who want liquidity without triggering taxable events. Lending balances now represent about 0.5% of Schwab's total client assets, compared to roughly 4% across the broader industry, suggesting room for further growth. The shift marks a move away from reliance on passive, rate-sensitive income toward revenue streams tied more closely to client relationships.

Diversifying Revenue: Prediction Markets, Crypto, and AI

Schwab is also expanding into new business lines that could drive future growth. The company is working with Cboe Global Markets to develop binary options linked to financial and economic events, though it plans to avoid contracts tied to sports or entertainment. In the crypto space, Schwab recently launched direct spot trading for Bitcoin and Ether through its Schwab Crypto service and expects to pilot transfer functionality by the end of July. Allowing clients to move externally held digital assets onto the platform could help consolidate assets over time.

Schwab has also introduced Portfolio Insights, a generative AI tool for performance analysis, and is piloting Schwab Assistant internally. Management believes that AI-driven research is already contributing to higher trading activity, especially among younger clients. These initiatives reflect a broader effort to diversify Schwab's revenue mix beyond traditional interest income and trading commissions.

Valuation and Market Perception

Morgan Stanley has set a $133 price target for Schwab, based on a 16-times multiple of its estimated 2027 earnings per share of $8.32. That target implies about 30% upside from the stock's pre-earnings price near $102.54. The firm contends that investors continue to view Schwab primarily as a play on interest rates and balance sheet recovery, rather than recognizing the company's evolving business model and multiple revenue engines.

Schwab's post-earnings dip may appear concerning, but the underlying results point to a company whose earnings are becoming more diversified and less dependent on any single macroeconomic factor. Whether the market will begin to price in this shift remains an open question. This dynamic-where strong results do not always translate into immediate stock gains-has also been observed with other major companies, as seen when Intel's earnings beat failed to lift its stock despite high expectations.

According to Schwab's Q2 2026 earnings release, the company's net interest margin held steady at 3.00% to 3.10%, while total client assets continued to grow. The firm's focus on lending and trading, combined with new digital initiatives, positions it to capture a broader share of client activity and revenue in the years ahead.

For investors, Schwab's evolving business model highlights the importance of looking beyond headline interest rate sensitivity and considering the full range of factors that can drive long-term growth and profitability.

Schwab's approach to client lending, particularly through pledged asset lines, illustrates how brokerage firms can use their balance sheets to generate higher-margin revenue while meeting client needs for liquidity. Unlike traditional margin loans, pledged asset lines allow clients to borrow against their investment portfolios without selling appreciated assets, helping them avoid triggering capital gains taxes. This strategy can be especially attractive for high-net-worth clients seeking flexibility, but it also introduces credit risk and requires careful underwriting. As more brokerages compete in this space, the balance between growth, risk management, and regulatory oversight will remain a key issue for both firms and investors.