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Schwab Appeal Rebuffed; Bond Index Fund Suit to Continue

With the rejection of The Charles Schwab Corporation 's SCHW appeal to dismiss the lawsuit concerning risky investments by the U.S. Supreme Court, troubles for the brokerage firm seem to pile up. The suit claiming breach of contract by Schwab was reinstated by the 9th U.S. Circuit Court of Appeals in March this year.

Schwab was said to have undertaken more risk than allowed while investing in its bond index mutual fund. The court allowed Northstar Financial Advisors, Inc. to sue Schwab on behalf of its clients. Other claims in the original lawsuit are still pending.

In August 2008, Schwab was first indicted by Northstar Financial Advisors on behalf of shareholders (from Aug 31, 2007 onwards) of the Schwab Total Bond Market Fund. The investment advisory and financial planning firm accused Schwab of violation of fiduciary duty by deviating from the strategy to follow the Lehman Brothers U.S. Aggregate Bond Index.

The plaintiff alleged that Schwab invested in the riskier non-U.S. agency collateralized mortgage obligations (CMOs), undertaking considerably higher risk than it would have faced by matching the index. Also, the Schwab fund did not follow the investment guidelines by concentrating around 37% of its total assets in U.S. agency and non-agency mortgage-backed securities (MBS) and CMOs.

The breach of contract cost tens of millions of dollars in losses to the shareholders driven by a fall in the value of non-agency MBS. Moreover, the fund incurred a negative total return of 1.09% for the period from Sep 4, 2007 to Aug 27, 2008, compared with a positive return of 5.92% for the Index over the same period.

The case was later dismissed in 2011 by a California district judge, which stated that Northstar was not entitled to file suit on the investors' behalf. However, with the case revived and Schwab's appeal snubbed, shareholders stand a chance to obtain compensation for the unfair investments.

Currently, Schwab holds a Zacks Rank #5 (Strong Sell). Some better-ranked investment brokerage firms include E*TRADE Financial Corporation ETFC , FXCM Inc. FXCM and GAIN Capital Holdings, Inc. GCAP . All these stocks hold a Zacks Rank #2 (Buy).

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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