SWS (SWS) 10-Q 2011 Q3 Quarterly report

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

Form 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 25, 2011

OR

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from            to            

Commission file number 000-19483

SWS GROUP, INC.

(Exact name of registrant as specified in its charter)

Delaware	75-2040825
(State or other jurisdiction of	(I.R.S. Employer
incorporation or organization)	Identification No.)
1201 Elm Street, Suite 3500, Dallas, Texas	75270
(Address of principal executive offices)	(Zip Code)

Registrant’s telephone number, including area code (214) 859-1800

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.     Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ¨    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer	¨	Accelerated filer	x
Non-accelerated filer	¨  (Do not check if a smaller reporting company)	Smaller reporting company	¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

As of April 29, 2011, there were 32,568,359 shares of the registrant’s common stock, $.10 par value, outstanding.

SWS GROUP, INC. AND SUBSIDIARIES

INDEX

PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Statements of Financial Condition March 25, 2011(unaudited)and June  25, 2010	1
Consolidated Statements of Loss and Comprehensive Loss For the three and nine-months ended March  25, 2011 and March 26, 2010 (unaudited)	2
Consolidated Statements of Cash Flows For the nine-months ended March 25, 2011 and March  26, 2010 (unaudited)	3
Notes to Consolidated Financial Statements (unaudited)	5
Item  2. Management’s Discussion and Analysis of Financial Condition and Results of Operations	41
Item 3. Quantitative and Qualitative Disclosures About Market Risk	79
Item 4. Controls and Procedures	79
PART II. OTHER INFORMATION
Item 1. Legal Proceedings	79
Item 1A. Risk Factors	80
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	81
Item 3. Defaults Upon Senior Securities	81
Item 4. (Removed and Reserved)	81
Item 5. Other Information	81
Item 6. Exhibits	82
SIGNATURES	83
EXHIBIT INDEX	84

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

SWS Group, Inc. and Subsidiaries

CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION

March 25, 2011 and June 25, 2010

(In thousands, except par values and share amounts)

	March			June
	(Unaudited)
Assets
Cash and cash equivalents	$	274,022		$	27,190
Assets segregated for regulatory purposes		232,021			284,827
Receivable from brokers, dealers and clearing organizations		2,169,587			1,889,400
Receivable from clients, net		243,348			216,574
Loans held for sale		67,818			424,055
Loans, net		912,881			1,154,065
Securities owned, at market value		266,592			245,587
Securities held to maturity		35,525			87,140
Securities purchased under agreements to resell		57,974			30,507
Goodwill		7,552			7,552
Securities available for sale		1,813			1,388
Other assets		154,504			162,406
	$	4,423,637		$	4,530,691
Liabilities and Stockholders’ Equity
Short-term borrowings	$	185,400		$	110,000
Payable to brokers, dealers and clearing organizations		2,083,918			1,819,995
Payable to clients		390,089			420,672
Deposits		1,120,090			1,488,804
Securities sold under agreements to repurchase		7,217			12,389
Securities sold, not yet purchased, at market value		93,736			67,594
Drafts payable		27,233			27,346
Advances from Federal Home Loan Bank		96,809			132,821
Other liabilities		61,714			67,676
		4,066,206			4,147,297
Stockholders’ equity:
Preferred stock of $1.00 par value. Authorized 100,000 shares; none issued		—			—
Common stock of $0.10 par value. Authorized 60,000,000 shares; issued 33,312,140 and outstanding 32,324,008 shares at March 25, 2011; issued 33,312,140 and outstanding 32,342,190 shares at June 25, 2010		3,331			3,331
Additional paid-in capital		326,525			326,462
Retained earnings		35,115			61,893
Accumulated other comprehensive income – unrealized holding loss, net of tax of $255 at March 25, 2011 and $81 at June 25, 2010		637			304
Deferred compensation, net		3,282			3,176
Treasury stock (988,132 shares at March 25, 2011 and 969,950 shares at June 25, 2010, at cost)		(11,459	)		(11,772	)
Total stockholders’ equity		357,431			383,394
Commitments and contingencies
Total liabilities and stockholders’ equity	$	4,423,637		$	4,530,691

See accompanying Notes to Consolidated Financial Statements.

1

SWS Group, Inc. and Subsidiaries

CONSOLIDATED STATEMENTS OF LOSS AND COMPREHENSIVE LOSS

For the three and nine-months ended March 25, 2011 and March 26, 2010

(In thousands, except per share and share amounts)

(Unaudited)

	For the Three-Months Ended						For the Nine-Months Ended
	March 25, 2011			March 26, 2010			March 25, 2011			March 26, 2010
Revenues:
Net revenues from clearing operations	$	2,805		$	2,476		$	8,065		$	7,832
Commissions		32,915			35,215			110,010			119,979
Interest		31,606			36,224			107,180			118,397
Investment banking, advisory and administrative fees		7,271			7,895			31,537			26,183
Net gains on principal transactions		10,544			7,776			30,386			32,251
Other		4,352			5,661			13,898			17,017
Total revenue		89,493			95,247			301,076			321,659
Interest expense		11,566			12,246			35,196			44,028
Net revenues		77,927			83,001			265,880			277,631
Non-interest expenses:
Commissions and other employee compensation		52,841			53,032			168,884			174,860
Occupancy, equipment and computer service costs		8,375			8,607			25,320			25,696
Communications		3,254			3,370			9,811			9,925
Floor brokerage and clearing organization charges		1,112			1,008			3,296			2,939
Advertising and promotional		702			881			2,057			3,056
Provision for loan loss		4,727			25,000			50,967			34,420
Other		10,317			9,402			39,937			31,102
Total non-interest expenses		81,328			101,300			300,272			281,998
Loss before income tax benefit		(3,401	)		(18,299	)		(34,392	)		(4,367	)
Income tax benefit		(1,254	)		(6,759	)		(11,167	)		(1,779	)
Net loss		(2,147	)		(11,540	)		(23,225	)		(2,588	)
Net gain/(loss) recognized in other comprehensive loss, net of tax of $(57) and $(3) for the three-months ended March 25, 2011 and March 26, 2010, respectively and $174 and $4 for the nine-months ended March 25, 2011 and March 26, 2010, respectively.		(110	)		1			333			(22	)
Comprehensive loss	$	(2,257	)	$	(11,539	)	$	(22,892	)	$	(2,610	)
Loss per share – basic
Net loss	$	(0.07	)	$	(0.35	)	$	(0.71	)	$	(0.09	)
Weighted average shares outstanding – basic		32,501,344			32,544,021			32,510,570			29,489,035
Loss per share – diluted
Net loss	$	(0.07	)	$	(0.35	)	$	(0.71	)	$	(0.09	)
Weighted average shares outstanding – diluted		32,501,344			32,544,021			32,510,570			29,489,035

See accompanying Notes to Consolidated Financial Statements.

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SWS Group, Inc. and Subsidiaries

CONSOLIDATED STATEMENTS OF CASH FLOWS

For the nine-months ended March 25, 2011 and March 26, 2010

(In thousands)

(Unaudited)

	For the Nine-Months Ended
	March 25, 2011			March 26, 2010
Cash flows from operating activities:
Net loss	$	(23,225	)	$	(2,588	)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
Depreciation and amortization		5,477			5,232
Amortization of premiums/discounts on loans purchased		(106	)		(138	)
Amortization of premiums /discounts on investment securities		146			4
Provision for doubtful accounts on firm receivables		405			720
Provision for loan loss and write downs on real estate owned properties		64,316			38,029
Deferred income tax benefit		(4,388	)		(5,251	)
Allowance for deferred tax asset		844			—
Deferred compensation for deferred compensation plan and restricted stock plan		3,402			4,382
Loss (gain) on sale of loans		661			(902	)
Loss on disposition/sale of fixed assets		6			5
Loss on sale of real estate		3,027			1,549
Gain on the sale of investment securities		(81	)		—
Gain on issuer’s redemption of investment securities		(1,078	)		—
Equity in earnings of unconsolidated ventures		(177	)		(1,687	)
Gain on the sale of securities available for sale		—			(16	)
Dividend received on investment in Federal Home Loan Bank stock		(19	)		(12	)
Shortfall for taxes on vesting of restricted stock		314			120
Change in operating assets and liabilities:
Decrease in assets segregated for regulatory purposes		52,806			10,940
Net change in broker, dealer and clearing organization accounts		(16,264	)		(73,792	)
Net change in client accounts		(57,762	)		(13,643	)
Net change in loans held for sale		363,452			(59,320	)
Increase in securities owned		(21,005	)		(59,110	)
Increase in securities purchased under agreements to resell		(27,467	)		(12,044	)
Increase in other assets		(11,385	)		(13,800	)
Increase (decrease) in drafts payable		(113	)		3,137
Increase in securities sold, not yet purchased		26,142			15,436
Decrease in other liabilities		(8,818	)		(9,102	)
Net cash provided by (used in) operating activities		349,110			(171,851	)
Cash flows from investing activities:
Purchase of fixed assets and capitalized improvements on real estate owned properties		(2,399	)		(5,788	)
Proceeds from fixed asset transactions		—			86
Proceeds from the sale of real estate		41,748			20,400
Proceeds from the sale of loans		40,895			—
Loan originations and purchases		(283,513	)		(304,379	)
Loan repayments		384,976			215,277
Cash paid on investments		(35,525	)		(83,447	)
Proceeds from the sale of investment securities		75,555			2,925
Proceeds from the issuer’s redemption of investment securities		7,347			—
Proceeds from the cash received on investments		5,557			650
Proceeds from the sale of Federal Home Loan Bank stock		2,886			267
Purchases of Federal Home Loan Bank stock		(1,460	)		—
Net cash provided by (used in) investing activities		236,067			(154,009	)

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	For the Nine-Months Ended
	March 25, 2011			March 26, 2010
Cash flows from financing activities:
Payments on short-term borrowings	$	(4,278,782	)	$	(2,168,900	)
Cash proceeds from short-term borrowings		4,349,782			2,265,900
Cash proceeds from other financing activities		4,400			—
Increase (decrease) in deposits		(368,714	)		146,102
Advances from the Federal Home Loan Bank		418,644			997
Payments on advances from the Federal Home Loan Bank		(454,656	)		(8,579	)
Payment of cash dividends on common stock		(3,578	)		(8,285	)
Shortfall for taxes on vesting of restricted stock		(314	)		(120	)
Cash receipts on securities sold under agreements to repurchase		(5,172	)		3,411
Net proceeds from secondary offering		—			54,700
Proceeds related to the deferred compensation plan		385			499
Purchase of treasury stock related to the deferred compensation plan		(340	)		(228	)
Net cash (used in) provided by financing activities		(338,345	)		285,497
Net increase (decrease) in cash and cash equivalents		246,832			(40,363	)
Cash and cash equivalents at beginning of period		27,190			96,253
Cash and cash equivalents at end of period	$	274,022		$	55,890
Supplemental schedule of non-cash investing and financing activities:
Granting of restricted stock	$	670		$	1,461
Foreclosures on loans	$	40,089		$	41,485
Transfer of securities from held to maturity to available for sale	$	42,519		$	—
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest	$	33,237		$	46,718
Income taxes	$	1,635		$	7,055

See accompanying Notes to Consolidated Financial Statements.

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SWS Group, Inc. and Subsidiaries

Notes to Consolidated Financial Statements

Three and Nine-Months Ended March 25, 2011 and March 26, 2010

(Unaudited)

GENERAL AND BASIS OF PRESENTATION

The interim consolidated financial statements as of March 25, 2011, and for the three and nine-months ended March 25, 2011 and March 26, 2010, are unaudited; however, in the opinion of management, these interim statements include all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the financial position, results of operations and cash flows. These financial statements should be read in conjunction with the audited consolidated financial statements and related notes as of and for the fiscal year ended June 25, 2010 filed on Form 10-K. Amounts included for June 25, 2010 are derived from the audited consolidated financial statements as filed on Form 10-K. All significant inter-company balances and transactions have been eliminated.

The consolidated financial statements include the accounts of SWS Group, Inc. (“SWS Group”) and the consolidated active subsidiaries listed below (collectively with SWS Group, “SWS” or the “Company”):

Southwest Securities, Inc.	“Southwest Securities”
SWS Financial Services, Inc.	“SWS Financial”
Southwest Financial Insurance Agency, Inc.
Southwest Insurance Agency, Inc.
Southwest Insurance Agency of Alabama, Inc.	collectively, “SWS Insurance”
SWS Banc Holdings, Inc.	“SWS Banc”
Southwest Securities, FSB	“Bank”

Southwest Securities is a New York Stock Exchange (“NYSE”) member broker/dealer and Southwest Securities and SWS Financial, both registered investment advisors, are members of the Financial Industry Regulatory Authority (“FINRA”). Each is registered with the Securities and Exchange Commission (the “SEC”) as a broker/dealer under the Securities Exchange Act of 1934 (“Exchange Act”) and as registered investment advisors under the Investment Advisors Act of 1940.

SWS Insurance holds insurance agency licenses in forty-six states for the purpose of facilitating the sale of insurance and annuities for Southwest Securities and its correspondents. The Company retains no underwriting risk related to the insurance and annuity products that SWS Insurance sells.

The Bank is a federally chartered savings bank regulated by the Office of Thrift Supervision (“OTS”). With the passage of the Dodd-Frank Wall Street Reform Consumer Protection Act, or the Dodd-Frank Act, effective July 21, 2011 (unless extended by up to six months), the OTS will be abolished and the Office of Comptroller of the Currency (“OCC”) will take over supervision and regulation of the Bank and the Federal Reserve Board (“FRB”) will take over supervision and regulation of SWS Group and SWS Banc, which was incorporated as a wholly owned subsidiary of SWS Group and became the sole stockholder of the Bank in 2004.

Consolidated Financial Statements. The quarterly consolidated financial statements of SWS are customarily closed on the last Friday of the month. The Bank’s third quarter financial statements are prepared as of March 31, 2011. Any individually material transactions are reviewed and recorded in the appropriate quarterly period. All significant inter-company balances and transactions have been eliminated.

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Change in Accounting Estimate. Prior to the third quarter of fiscal 2010, the Bank’s provision for loan loss computation used a three year rolling average of historical loan losses by product type to assess losses in the Bank’s loan portfolio. Product types consist of 1-4 family residential loans, 1-4 family residential construction loans, land and land development loans, commercial real estate loans, commercial loans and consumer loans. Due to accelerated deterioration in the Bank’s loan portfolio, depressed appraised values for collateral, continued high unemployment rates in Texas and deteriorating banking industry loss statistics, the Bank’s management reevaluated its use of historical loan losses in its provision for loan loss computation. As a result of this reevaluation, in the third quarter of fiscal 2010, management reduced the historical loan loss look back period from three years to four quarters.

Due to continued deterioration in the Bank’s loan portfolio, depressed appraised values for collateral, continued high unemployment rates in Texas and deteriorating banking industry loss statistics in the first quarter of fiscal 2011, the Bank’s management reevaluated its problem loan volume trend component in its provision for loan loss computation. The problem loan volume trend component now includes two separate calculations for criticized and classified loans. Prior to the first quarter of fiscal 2011, the Bank had one calculation for these loans. To more appropriately assess these loans, the Bank segregated these loans and applied two separate historical loss ratios, one being the regular historical loan loss ratio applied to criticized and classified loans and the other being based on distressed sale charge-off levels applied to criticized and classified loans. Also, due to the significant increase in classified loans and the Bank’s need to provide a heavier weighting for these types of loans in the Bank’s allowance calculation, the Bank segregated the assets and used the “distressed sell mark,” which is the fair value adjustment made on the loans placed in an auction, as a basis for the additional emphasis in the model.

Amortization Expense. The Company has recorded a customer relationship intangible which is amortized over a five year period at a rate based on the estimated future economic benefit of the customer relationships. See additional discussion in“Intangible Assets.”

Income Taxes.SWS and its subsidiaries file a consolidated federal income tax return. Income taxes are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.

The Company records net deferred tax assets to the extent the Company believes these assets will more likely than not be realized. In making such determination, the Company considers all available positive and negative evidence, including future reversals of existing taxable temporary differences, projected future taxable income, tax planning strategies and recent financial operations. A valuation allowance is established against deferred tax assets that do not meet the criteria for recognition. In the event the Company were to determine that it would be able to realize deferred income tax assets in the future in excess of their net recorded amount, the Company would make an adjustment to the valuation allowance which would reduce the provision for income taxes.

The portion of deferred tax assets derived from operating losses are realized when the Company generates consolidated taxable income within the carry-back and carry-forward periods. Based on the Company’s history of generating taxable income and the Company’s projection for future taxable income over the carry-forward period, management believes that it is more likely than not that the Company will realize all of its deferred tax assets derived from operating losses. However, the amount of deferred tax assets considered realizable could be reduced if estimates of future taxable income during the carry-forward period are reduced.

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Certain deferred tax assets are derived from capital losses, which depend on having sufficient capital gain income within the carry-back and carry-forward period available under the tax law. The Company’s deferred tax assets include $844,000 which reflects the benefit of capital losses associated with its investments in certain partnership assets. In the first quarter of fiscal 2011, the Company established a valuation allowance in the amount of $844,000. As of March 25, 2011, the Company did not believe it was more likely than not that sufficient capital gain income would be generated to offset these capital losses.

At March 25, 2011, the Company had approximately $1,329,000 of unrecognized tax benefits. The Company’s net liability increased $208,000 from June 25, 2010 to March 25, 2011 due to unrecognized tax benefits related to tax positions taken on previously filed returns and returns expected to be filed in the current year. While the Company expects that the net liability for uncertain tax positions will change during the next twelve months, the Company does not believe that the change will have a significant impact on its consolidated financial position or results of operations.

The Company recognizes interest and penalties on income taxes in income tax expense. Included in the net liability was accrued interest and penalties, net of federal benefit, of $254,000 as of March 25, 2011 and $273,000 as of June 25, 2010. The total amount of unrecognized income tax benefits that, if recognized, would reduce income tax expense, net of federal benefit, was approximately $1,075,000 as of March 25, 2011 and $848,000 as of June 25, 2010.

With limited exceptions, the Company is no longer subject to U.S. federal, state or local tax audits by taxing authorities for tax years preceding 2006. The examination of the Company’s returns by a state agency for the tax years ended December 31, 2006 through 2008 was concluded with no material adjustments.

Income tax benefit for the three and nine-month periods ended March 25, 2011 and March 26, 2010 (effective rate of 36.9% and 36.9% in the three-month periods ended March 25, 2011 and March 26, 2010, respectively, and 32.5% and 40.7% in the nine-month periods ended March 25, 2011 and March 26, 2010, respectively) differs from the amount that would otherwise have been calculated by applying the federal corporate tax rate (35% in fiscal 2011 and 2010 ) to loss before income tax benefit and is comprised of the following (in thousands):

	Three-Months Ended						Nine-Months Ended
	2011			2010			2011			2010
Income tax benefit at the statutory rate	$	(1,190	)	$	(6,404	)	$	(12,037	)	$	(1,528	)
Tax exempt interest		(231	)		(184	)		(651	)		(558	)
Tax exempt income from company-owned life insurance (“COLI”)		(148	)		(114	)		(614	)		(545	)
State income taxes, net of federal tax benefit		24			(93	)		464			710
Non-deductible meals and entertainment		48			78			125			218
Non-deductible compensation		245			—			630			—
Valuation allowance		—			—			844			—
Other, net		(2	)		(42	)		72			(76	)
	$	(1,254	)	$	(6,759	)	$	(11,167	)	$	(1,779	)

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The tax effects of temporary differences that give rise to the deferred tax assets and deferred tax liabilities as of March 25, 2011 and June 25, 2010 are presented below (in thousands):

	March			June
	2011			2010
Deferred tax assets:
Employee compensation plans	$	11,380		$	11,787
Allowance for probable loan losses		18,235			12,625
Bad debt reserve		1,724			1,847
Deferred rent		1,666			1,675
Fixed assets, net		—			202
Gain on sale of loans deferred		686			804
Investment in unconsolidated ventures		123			384
State taxes		1,446			1,155
Other		860			643
Total gross deferred tax assets	$	36,120		$	31,122
Deferred tax liabilities:
Securities available for sale	$	(319	)	$	(145	)
Extraordinary gain		(239	)		(239	)
Fixed assets, net		(639	)		—
Other		(70	)		(99	)
Total gross deferred tax liabilities		(1,267	)		(483	)
Valuation allowance		(844	)		—
Net deferred tax assets – included in other assets on the consolidated statements of financial condition	$	34,009		$	30,639

FAIR VALUE OF FINANCIAL INSTRUMENTS

Fair value accounting establishes a framework for measuring fair value and expands disclosures about fair value measurements. Under fair value accounting, fair value refers to the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants in the primary market in which the reporting entity transacts. The standard clarifies the principle that fair value should be based on the assumptions market participants would use when pricing the asset or liability. In support of this principle, the standard establishes a fair value hierarchy that prioritizes the information used to develop those assumptions. The fair value hierarchy gives the highest priority to quoted prices in active markets and the lowest priority to unobservable data. Under the standard, fair value measurements are separately disclosed by level within the fair value hierarchy. The standard describes three levels of inputs that may be used to measure fair value:

• Level 1 —Quoted prices in an active market for identical assets or liabilities. Assets and liabilities utilizing Level 1 inputs include the following: (a) the Company’s investment in U.S. Home Systems, Inc. (“USHS”) common stock; (b) the Company’s deferred compensation plan’s investment in Westwood Holdings Group, Inc. (“Westwood”) common stock; (c) the Company’s investment in government guaranteed bonds purchased under the Temporary Liquidity Guarantee Program (“TLGP”); and (d) certain inventories held in the Company’s securities owned and securities sold, not yet purchased portfolio. Valuation of these instruments does not require a high degree of judgment as the valuations are based on quoted prices in active markets that are readily available.

• Level 2 —Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Assets and liabilities utilizing Level 2 inputs include certain inventories held in

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the Company’s securities owned and securities sold, not yet purchased portfolio. These financial instruments are valued using quoted prices that are less frequent than those in active markets or by models that use various assumptions that are derived from or supported by data that is generally observable in the marketplace. Valuations in this category are inherently less reliable than quoted market prices due to the degree of subjectivity involved in determining appropriate methodologies and the applicable underlying observable market assumptions.

• Level 3 —Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets and liabilities. Assets and liabilities utilizing Level 3 inputs include certain inventories held in the Company’s securities owned portfolio. These financial instruments have significant inputs that cannot be validated by readily determinable market data and generally involve considerable judgment by management.

The following is a description of the valuation methodologies used for instruments measured at fair value on a recurring basis and recognized in the accompanying balance sheet, as well as the general classification of such instruments pursuant to the valuation hierarchy.

Assets Segregated for Regulatory Purposes. Because quoted market prices are available in an active market, these securities are classified within Level 1 of the valuation hierarchy. These securities consist of government bonds purchased under the TLGP.

Securities Available for Sale. Because quoted market prices are available in an active market, the Company’s investment in USHS common stock and the Company’s deferred compensation plan’s investment in Westwood common stock are classified within Level 1 of the valuation hierarchy.

Securities Owned and Securities Sold, Not Yet Purchased Portfolio.Securities classified as Level 1 securities primarily consist of financial instruments whose value is based on quoted market prices such as corporate equity securities and U.S. government obligations.

Securities classified as Level 2 securities include financial instruments that are valued using models or other valuation methodologies. These models are primarily industry standard models that consider various assumptions, including time value, yield curve, volatility factors, current market and contractual prices for the underlying financial instruments, as well as other relevant economic measures. Substantially all of these assumptions are observable in the marketplace, can be derived from observable data or are supported by observable levels at which transactions are executed in the marketplace. Securities in this category include corporate debt, certain U.S. government and government agency obligations and municipal obligations.

Securities classified as Level 3 securities are securities whose fair value is estimated based on internally developed models or methodologies, including discounted cash flow, utilizing significant inputs that are generally less readily observable. Included in this category are certain corporate equity securities and municipal auction rate securities.

The Company held one municipal auction rate bond with a par amount of $23,300,000 that was classified as a Level 3 security at both March 25, 2011 and June 25, 2010. This security is an investment grade credit, was valued at 95.7% of par, or $22,298,000, at both March 25, 2011 and June 25, 2010, and yielded less than 1% per year for both periods. The interest rate on the bond is based on the LIBOR rate. The discount on the value of the bond is due to a lack of marketability. While management does not expect any reduction in the cash flow from this bond, the disruption in the credit markets has led to auction failures. The Company currently

9

has the ability to hold this investment until maturity. While the Company expects the issuer of this bond to refinance the debt when LIBOR interest rates rise, there can be no certainty that this refinancing will occur. The Company believes the valuation of this bond at 95.7% of par at March 25, 2011 reflected an appropriate discount for the current lack of liquidity in this investment.

The following tables summarize by level within the fair value hierarchy “Assets segregated for regulatory purposes,” “Securities available for sale,” “Securities owned, at market value” and “Securities sold, not yet purchased, at market value” as of March 25, 2011 and June 25, 2010.

March 25, 2011
(in thousands)
	Level 1		Level 2		Level 3		Total
Assets segregated for regulatory purposes
U.S. government guaranteed obligations	$	55,879	$	—	$	—	$	55,879
	$	55,879	$	—	$	—	$	55,879
Securities available for sale
USHS common stock	$	1,643	$	—	$	—	$	1,643
Westwood common stock		170		—		—		170
	$	1,813	$	—	$	—	$	1,813
Securities owned, at market value
Corporate equity securities	$	5,038	$	—	$	1,225	$	6,263
Municipal obligations		—		95,288		22,298		117,586
U.S. government agency obligations		13,749		11,413		—		25,162
Corporate obligations		—		102,904		—		102,904
Other		877		13,800		—		14,677
	$	19,664	$	223,405	$	23,523	$	266,592
Securities sold, not yet purchased, at market value
Corporate equity securities	$	880	$	—	$	—	$	880
U.S. government agency obligations		59,890		2,101		—		61,991
Corporate obligations		—		30,289		—		30,289
Other		32		544		—		576
	$	60,802	$	32,934	$	—	$	93,736
Grand total	$	16,554	$	190,471	$	23,523	$	230,548
June 25, 2010
(in thousands)
	Level 1		Level 2		Level 3		Total
Assets segregated for regulatory purposes
U.S. government guaranteed obligations	$	62,167	$	—	$	—	$	62,167
	$	62,167	$	—	$	—	$	62,167
Securities available for sale
USHS stock	$	1,146	$	—	$	—	$	1,146
Westwood stock		242		—		—		242
	$	1,388	$	—	$	—	$	1,388

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	Level 1		Level 2		Level 3		Total
Securities owned, at market value
Corporate equity securities	$	10,893	$	—	$	1,841	$	12,734
Municipal obligations		—		109,844		22,298		132,142
U.S. government agency obligations		13,710		5,808		—		19,518
Corporate obligations		—		70,844		—		70,844
Other		994		9,355		—		10,349
	$	25,597	$	195,851	$	24,139	$	245,587
Securities sold, not yet purchased, at market value
Corporate equity securities	$	925	$	—	$	—	$	925
Municipal obligations		—		17		—		17
U.S. government agency obligations		45,225		101		—		45,326
Corporate obligations		—		20,867		—		20,867
Other		31		428		—		459
	$	46,181	$	21,413	$	—	$	67,594
Grand total	$	42,971	$	174,438	$	24,139	$	241,548

There were no transfers between Level 1 and Level 2 for the nine-months ended March 25, 2011.

The following table provides a reconciliation of the beginning and ending balances for the major classes of assets and liabilities measured at fair value using significant unobservable inputs (Level 3):

(in thousands)	Corporate Equity Securities			Municipal Obligations		Total
Beginning balance at June 25, 2010	$	1,841		$	22,298	$	24,139
Unrealized gains		2			—		2
Ending balance at September 24, 2010		1,843			22,298		24,141
Sales/redemption		(18	)		—		(18	)
Ending balance at December 31, 2010		1,825			22,298		24,123
Sales/redemption		(600	)		—		(600	)
Ending balance at March 25, 2011	$	1,225		$	22,298	$	23,523

Changes in unrealized gains (losses) and realized gains (losses) for corporate and municipal obligations and corporate equity securities are presented in “Net gains on principal transactions” on the consolidated statements of loss and comprehensive loss.

The total unrealized gain included in earnings that related to assets still held for the three and nine-month periods ended March 25, 2011 was $0 and $2,000, respectively.

Substantially all of SWS’s brokerage assets and liabilities are carried at market value or at amounts which, because of their short-term nature, approximate current fair value.

EMPLOYEE BENEFITS

Stock Option Plans. There were no active stock option plans at March 25, 2011. All outstanding options under the SWS Group, Inc. Stock Option Plan (the “1996 Plan”) may still be exercised until their contractual expiration date occurs. Options granted under the 1996 Plan have a maximum ten-year term, and all options are fully vested.

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Restricted Stock Plan. The Restricted Stock Plan allows for awards of up to 1,250,000 shares of SWS Group’s common stock to SWS’s directors, officers and employees. No more than 300,000 of the authorized shares may be newly issued shares of common stock. The Restricted Stock Plan terminates on August 21, 2013. The vesting period is determined on an individual basis by the Compensation Committee of the Board of Directors. In general, restricted stock granted to employees under the Restricted Stock Plan vests pro-rata over a three year period, and restricted stock granted to non-employee directors vests on the one year anniversary of the date of grant.

During the first nine months of fiscal 2011, the Board of Directors approved grants to various officers and employees totaling 64,151 shares with a weighted average market value of $6.16 per share. In the first nine months of fiscal 2010, the Board of Directors approved grants to various officers and employees totaling 146,844 shares with a weighted average market value of $14.76 per share. SWS recorded deferred compensation in “Additional paid-in capital” of approximately $395,000 in fiscal 2011 and $2,016,000 in fiscal 2010. For the three and nine-months ended March 25, 2011, SWS recognized compensation expense related to restricted stock grants of approximately $354,000 and $901,000, respectively. For the three and nine-months ended March 26, 2010, SWS recognized compensation expense related to restricted stock grants of approximately $530,000 and $2,151,000, respectively.

At March 25, 2011, the total number of unvested shares outstanding under the Restricted Stock Plan was 213,274 and the total number of shares available for future grants was 351,531.

CASH AND CASH EQUIVALENTS

For the purpose of the consolidated statements of cash flows, SWS considers cash to include cash on hand and in bank accounts. In addition, SWS considers funds due from banks and interest bearing deposits in other banks to be cash. Highly liquid debt instruments purchased with original maturities of three months or less, when acquired, are considered to be cash equivalents. The Federal Deposit Insurance Corporation (“FDIC”) insures accounts up to $250,000. In accordance with the Dodd-Frank Act, non-interest bearing transaction accounts are temporarily covered under FDIC insurance until December 31, 2012. At March 25, 2011 and June 25, 2010, cash balances included $751,000 and $13,988,000, respectively, that were not federally insured because they represented amounts in individual accounts above the federally insured limit for each such account. This at-risk amount is subject to fluctuation on a daily basis, but management does not believe there is significant risk with respect to such deposits.

The Bank is required to maintain balances on hand or with the Federal Reserve Bank. At March 31, 2011 and June 30, 2010, these reserve balances amounted to $4,099,000 and $10,776,000, respectively.

INVESTMENTS

SWS has interests in three investment partnerships that are accounted for under the equity method, which approximates fair value. One is a limited partnership venture capital fund to which SWS has committed $5,000,000. As of March 25, 2011, SWS had fulfilled its $5,000,000 commitment. Based on a review of the fair value of this limited partnership investment, SWS determined that its share of the investments made by the limited partnership should be valued at $2,114,000 as of March 25, 2011. SWS recorded a net gain on this investment for the three-months ended March 25, 2011 of $7,000 and a net loss on this investment for the nine-months ended March 25, 2011 of $180,000. In comparison, during the three and nine-months ended March 26, 2010, SWS recorded net gains of $885,000 and $1,263,000, respectively, on this investment.

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The other two investments are limited partnership equity funds to which the Bank committed $3,000,000 in fiscal 2007 and $2,000,000 in fiscal 2009 as a cost effective way of meeting its obligations under the Community Reinvestment Act of 1977 (“CRA”). As of March 31, 2011, the Bank had invested $3,000,000 of its aggregate $5,000,000 commitment to the two funds. During the three and nine-months ended March 31, 2011, the Bank recorded net gains of $493,000 and $357,000, respectively, related to these two investments. In comparison, during the three and nine-months ended March 31, 2010, the Bank recorded losses of $1,000 and gains of $334,000, respectively, related to these two investments. During the three and nine-months ended March 31, 2011, the Bank received a $306,000 distribution from one of these investments.

SECURITIES HELD TO MATURITY

Securities held to maturity consist of the following;

(in thousands)	March 31, 2011				June 30, 2010
	Recorded Value		Fair Value		Recorded Value		Fair Value
GNMA securities	$	35,525	$	35,525	$	80,875	$	82,149
Municipal bonds		—		—		6,265		6,948
Total	$	35,525	$	35,525	$	87,140	$	89,097

On March 31, 2011, the Bank purchased GNMA securities at a cost of $35,525,000 including a premium of $525,000. The premium is amortized over an average life of 15 years using the interest method. These securities are classified as held to maturity and are accounted for at amortized cost.

In the third quarter of fiscal 2010, the Bank purchased GNMA securities at a cost of $83,047,000 including a premium of $837,000. The premium was being amortized over an average life of four years using the interest method. The Bank recorded $0 and $151,000 in amortization of the premium during the three and nine-month periods ended March 31, 2011, respectively. During the three and nine-month periods ended March 31, 2011, the Bank received $26,000 and $6,234,000 of principal and interest payments, respectively, recording $26,000 and $983,000 in interest, respectively. In December 2010, the Bank sold $32,955,000 of the GNMA securities for $32,976,000, generating a realized gain of $21,000. The Bank sold these securities in order to increase the Bank’s capital ratios by reducing the Bank’s asset base. As a result of this sale, it was determined that the remaining balance of the GNMA securities was no longer held to maturity and was reclassed to securities available for sale. These securities were marked to market with any unrealized gain/loss being recorded to other comprehensive income. The remaining balance of the GNMA securities was sold in January 2011, yielding a gain of $60,000.

In addition, at June 30, 2010, the Bank held municipal bonds from state and political subdivisions. The Bank recorded amortization of the discount on these securities of $0 and $7,100 for the three-months ended March 31, 2011 and 2010, respectively. The Bank recorded amortization of the discount on these securities of $4,900 and $20,900 for the nine-months ended March 31, 2011 and 2010, respectively. During the first half of fiscal 2011, $6,004,000 of these securities were redeemed, resulting in a gain of $1,078,000. In February 2011, the remaining $265,000 of these securities were redeemed at no gain.

The amortized cost and estimated fair value of investments held to maturity at March 31, 2011, by contractual maturity, are shown below (in thousands). Expected maturities may differ from contractual maturities because borrowers may have the right to call or repay obligations with or without call or prepayment penalties.

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	Securities Held to Maturity
	Amortized Cost		Fair Value
Due in one year or less	$	—	$	—
Due from one year to five years		35,525		35,525
	$	35,525	$	35,525

ASSETS SEGREGATED FOR REGULATORY PURPOSES

At March 25, 2011, SWS held TLGP bonds with a market value of $55,879,000 and cash of approximately $176,142,000 segregated in special reserve bank accounts for the exclusive benefit of customers under Exchange Act Rule 15c3-3. SWS had no reserve deposits in special reserve bank accounts for the Proprietary Accounts of Introducing Brokers (“PAIB”) at March 25, 2011.

At June 25, 2010, SWS held TLGP bonds with a market value of $62,167,000 and cash of approximately $222,660,000 segregated in special reserve bank accounts for the exclusive benefit of customers under Exchange Act Rule 15c3-3. SWS had no reserve deposits in special reserve bank accounts for the PAIB at June 25, 2010.

SECURITIES AVAILABLE FOR SALE

SWS Group owns shares of common stock of USHS and Westwood, which are classified as securities available for sale. The unrealized holding gains (losses), net of tax, related to these securities are recorded as a separate component of stockholders’ equity on the consolidated statements of financial condition.

The following table summarizes the cost and market value of these investments at March 25, 2011 and June 25, 2010 (dollars in thousands):

	Shares		Original		Gross Unrealized		Gross Unrealized		Market
	Held		Cost		Gains		Losses		Value
March 25, 2011
USHS		357,154	$	914	$	729	$	—	$	1,643
Westwood		4,216		7		163		—		170
Securities available for sale			$	921	$	892	$	—	$	1,813

	Shares		Original		Gross Unrealized		Gross Unrealized		Market
	Held		Cost		Gains		Losses		Value
June 25, 2010
USHS		357,154	$	914	$	232	$	—	$	1,146
Westwood		6,383		89		153		—		242
Securities available for sale			$	1,003	$	385	$	—	$	1,388

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RECEIVABLE FROM AND PAYABLE TO BROKERS, DEALERS AND CLEARING ORGANIZATIONS

At March 25, 2011 and June 25, 2010, SWS had receivable from and payable to brokers, dealers and clearing organizations related to the following (in thousands):

	March		June
Receivable
Securities failed to deliver	$	17,533	$	11,096
Securities borrowed		2,066,510		1,798,910
Correspondent broker/dealers		40,849		44,998
Clearing organizations		30,618		20,958
Other		14,077		13,438
	$	2,169,587	$	1,889,400
Payable
Securities failed to receive	$	18,232	$	17,705
Securities loaned		2,041,780		1,775,693
Correspondent broker/dealers		12,283		11,669
Other		11,623		14,928
	$	2,083,918	$	1,819,995

SWS participates in the securities borrowing and lending business by borrowing and lending securities other than those of its clients. SWS obtains or releases collateral as prices of the underlying securities fluctuate. At March 25, 2011, SWS had collateral of $2,066,404,000 under securities lending agreements, of which SWS had repledged $1,993,459,000. At June 25, 2010, SWS had collateral of $1,798,791,000 under securities lending agreements, of which SWS had repledged $1,732,411,000.

LOANS HELD FOR SALE

Loans held for sale consist of originated loans that were held for investment that management subsequently decided to sell as well as purchased loans held for sale.

Originated loans that are now available for sale (referred to as “other loans held for sale”) are valued at the lower of cost or market as determined by the negotiated sales price or if no sales price is yet determined, at an agreed upon acceptance price as determined by a third party valuation and management.

Other loans held for sale were transferred to the held for sale category in anticipation of immediate disposition. These were classified loans that were being marketed through an international marketing campaign. The fair value of these loans was determined using a discounted cash flow model to reflect the return required for immediate disposition of a distressed loan. These loans were valued using Level 3 valuation methodologies, see further discussion of Level 3 methodologies in “Fair Value of Financial Instruments.”

Loans in the mortgage purchase program are valued at the lower of cost or market as determined by outstanding commitments from investors or current investor yield requirements calculated on the aggregate note basis. The purchased loans are pre-sold by the mortgage company to secondary investors who have been approved by the Bank. Purchased loans consist of first mortgage loans and home improvement loans, which have been purchased or originated but not yet sold in the secondary

15

market. Gains and losses on the sale of loans held for sale in the mortgage purchase program are determined using the specific identification method.

The recorded and fair values of loans held for sale were as follows:

(in thousands)

	March 31, 2011				June 30, 2010
	Recorded Value		Fair Value			Recorded Value		Fair Value
Mortgage purchase program	$	60,603	$	60,737		$	424,055	$	424,986
Other loans held for sale		7,215		7,215			—		—
Total	$	67,818	$	67,952		$	424,055	$	424,986

LOANS AND ALLOWANCE FOR PROBABLE LOAN LOSSES

The Bank grants loans to customers primarily within Texas and New Mexico. Although the Bank has a diversified loan portfolio, a substantial portion of its debtors’ ability to honor their loans is dependent upon the general economic conditions of Texas and New Mexico.

Loans receivable, excluding held for sale, at March 31, 2011 and June 30, 2010 are summarized as follows (in thousands):

	March			June
Loans receivable:
Construction	$	79,420		$	128,552
Lot and land development		70,602			121,214
Residential mortgage		127,525			153,031
Commercial real estate		431,294			515,274
Multi-family		55,344			75,481
Commercial loans		192,851			191,694
Consumer loans		3,673			4,692
		960,709			1,189,938
Unamortized premiums and discounts		(514	)		(732	)
		960,195			1,189,206
Allowance for probable loan losses		(47,314	)		(35,141	)
	$	912,881		$	1,154,065

In the second quarter of fiscal 2011, the Company adopted Accounting Standards Update (“ASU”) 2010-20, “Disclosures about the Credit Quality of Financing Receivables and the Allowance for Credit Losses.” The information requested by this ASU is included in the tables below.

The allowance for probable loan loss is increased by charges to income and decreased by charge-offs (net of recoveries). Management periodically evaluates the adequacy of the allowance on the Bank’s past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral and current economic conditions. In determining the appropriate balance at the balance sheet date, management evaluated the Bank’s historical loss percentage, concentrations of risk in the portfolio, estimated changes in the value of underlying collateral as well as changes in the volume and growth in the portfolio.

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The analysis of the allowance for loan losses for the three and nine-months ended March 31, 2011 and 2010 and the recorded investment in loans receivable at March 31, 2011 and 2010 was as follow (in thousands):

	Three-Months Ended March 31, 2011									Three-Months Ended March 31, 2010
	Real-Estate			Non-Real Estate			Total			Real-Estate			Non-Real Estate			Total
Allowance for credit losses:
Balance at beginning of period	$	43,141		$	3,900		$	47,041		$	15,661		$	1,940		$	17,601
Charge-offs		(4,298	)		(298	)		(4,596	)		(12,094	)		(155	)		(12,249	)
Recoveries		130			12			142			39			4			43
Net charge-offs		(4,168	)		(286	)		(4,454	)		(12,055	)		(151	)		(12,206	)
Additions charged to operations		3,993			734			4,727			24,326			674			25,000
Balance at end of period	$	42,966		$	4,348		$	47,314		$	27,932		$	2,463		$	30,395
Ending balance: individually evaluated for impairment	$	1,275		$	209		$	1,484		$	36		$	33		$	69
Ending balance: collectively evaluated for impairment	$	41,691		$	4,139		$	45,830		$	27,896		$	2,430		$	30,326
Financing receivables:
Balance at end of period	$	763,640		$	196,555		$	960,195		$	990,958		$	192,275		$	1,183,233
Ending balance: individually evaluated for impairment	$	82,278		$	4,806		$	87,084		$	33,605		$	384		$	33,989
Ending balance: collectively evaluated for impairment	$	681,362		$	191,749		$	873,111		$	957,353		$	191,891		$	1,149,244
	Nine-Months Ended March 31, 2011									Nine-Months Ended March 31, 2010
	Real-Estate			Non-Real Estate			Total			Real-Estate			Non-Real Estate			Total
Allowance for credit losses:
Balance at beginning of period	$	32,257		$	2,884		$	35,141		$	13,412		$	1,319		$	14,731
Charge-offs		(37,299	)		(1,976	)		(39,275	)		(17,579	)		(1,271	)		(18,850	)
Recoveries		425			56			481			61			33			94
Net charge-offs		(36,874	)		(1,920	)		(38,794	)		(17,518	)		(1,238	)		(18,756	)
Additions charged to operations		47,583			3,384			50,967			32,038			2,382			34,420
Balance at end of period	$	42,966		$	4,348		$	47,314		$	27,932		$	2,463		$	30,395

The allowance to ending loan balance ratio as of March 31, 2011 and March 31, 2010 was 4.93% and 2.57%, respectively.

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Loans receivable on non-accrual status as of March 31, 2011 and June 30, 2010 were as follows (in thousands):

	March 31, 2011		June 30, 2010
Real estate:
1-4 family	$	3,334	$	6,065
Lot and land development		20,261		8,776
Multi-family		16,633		2,394
Residential construction		7,345		3,809
Commercial real estate		24,607		16,911
Non-real estate:
Commercial loans		3,673		462
Consumer loans		81		11
	$	75,934	$	38,428

Loans are classified as non-performing when they are 90 days or more past due as to principal or interest or when reasonable doubt exists as to timely collectability. The Bank uses a standardized review process to determine which loans should be placed on non-accrual status. At the time a loan is placed on non-accrual status, previously accrued and uncollected interest is reversed against interest income. Interest income on non-accrual loans is subsequently recognized to the extent cash payments are received for loans where ultimate full collection is likely. For loans where ultimate collection is not likely, interest payments are applied to the outstanding principal and income is only recognized if full payment is made. The average recorded investment in non-accrual loans was approximately $61,633,000 during the nine-months ended March 31, 2011 and $29,653,000 during the nine-months ended March 31, 2010. The Bank did not recognize any income on non-accrual loans during the three and nine-months ended March 31, 2011 and March 31, 2010.

The following tables highlight the Bank’s recorded investment and unpaid principal balance for impaired loans by type as well as the related allowance, average recorded investment and interest income recognized as of March 31, 2011 and June 30, 2010 (in thousands):

	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment(*)		Interest Income Recognized(#)
March 31, 2011 With no related allowance recorded:
1-4 family	$	3,181	$	3,510	$	—	$	6,933	$	—
Lot and land development		21,320		24,007		—		11,508		50
Multi-family		16,633		16,815		—		8,666		—
Residential construction		7,345		7,816		—		2,508		—
Commercial real estate		19,766		22,318		—		14,163		—
Commercial loans		3,359		4,136		—		1,428		—
Consumer loans		80		217		—		118		—
		71,684		78,819		—		45,324		50

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	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment(*)		Interest Income Recognized(#)
With an allowance recorded:
1-4 family	$	2,372	$	2,372	$	387	$	3,370	$	115
Lot and land development		170		170		5		1,505		9
Multi-family		—		—		—		4,835		—
Residential construction		232		232		2		78		12
Commercial real estate		11,259		11,259		881		14,121		536
Commercial loans		1,367		1,366		209		414		61
		15,400		15,399		1,484		24,323		733
Total
1-4 family		5,553		5,882		387		10,303		115
Lot and land development		21,490		24,177		5		13,013		59
Multi-family		16,633		16,815		—		13,501		—
Residential construction		7,577		8,048		2		2,586		12
Commercial real estate		31,025		33,577		881		28,284		536
Commercial loans		4,726		5,502		209		1,842		61
Consumer loans		80		217		—		118		—
	$	87,084	$	94,218	$	1,484	$	69,647	$	783

^(*)  Represents the average of each month-end recorded investment for the nine-months ended March 31, 2011.

^(#) Represents interest income recognized on impaired loans for the nine-months ended March 31, 2011. No material amount of interest income was recognized on impaired loans for the nine-months ended March 31, 2010.

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	Recorded Investment		Unpaid Principal Balance		Related Allowance		Average Recorded Investment(*)		Interest Income Recognized(#)
June 30, 2010 With no related allowance recorded:
1-4 family	$	6,177	$	6,915	$	—	$	4,091	$	—
Lot and land development		9,514		10,040		—		5,879		127
Multi-family		2,394		4,896		—		802		—
Residential construction		3,839		4,039		—		4,377		—
Commercial real estate		9,350		12,983		—		7,626		—
Commercial loans		462		997		—		1,297		—
Consumer loans		11		17		—		4		—
		31,747		39,887		—		24,076		127
With an allowance recorded:
1-4 family		—		—		—		1,352		—
Lot and land development		1,626		1,626		450		2,082		—
Multi-family		—		—		—		1,207		—
Residential construction		—		—		—		1,543		—
Commercial real estate		7,561		7,574		2,761		3,130		—
Commercial loans		—		—		—		456		—
Consumer loans		—		—		—		5		—
		9,187		9,200		3,211		9,775		—
Total
1-4 family		6,177		6,915		—		5,443		—
Lot and land development		11,140		11,666		450		7,961		127
Multi-family		2,394		4,896		—		2,009		—
Residential construction		3,839		4,039		—		5,920		—
Commercial real estate		16,911		20,557		2,761		10,756		—
Commercial loans		462		997		—		1,753		—
Consumer loans		11		17		—		9		—
	$	40,934	$	49,087	$	3,211	$	33,851	$	127

^(*) Represents the average recorded investment for the twelve-months ended June 30, 2010.

^(#)Represents interest income recognized on impaired loans for the twelve-months ended June 30, 2010.

In compliance with the Order to Cease and Desist, Order No. WN-11-003, effective on February 4, 2011 (the “Order”), the Bank implemented processes to continuously monitor the credit quality of the loan portfolio as well as compliance with both internal policies and regulatory guidance. These processes include an internal credit review department and the use of external credit review consultants. Reports provided by these groups to management and the Board assist in overall risk

20

mitigation for the loan portfolio and with compliance with the Order. See “Cease and Desist Order with the Office of Thrift Supervision.”

The Bank prepares a criticized and classified loan report that it uses to assist in calculating an adequate allowance for loan losses. The following tables summarize this report and highlight the overall quality of the Bank’s financing receivables, excluding loans held for sale, as of March 31, 2011 and June 30, 2010 (in thousands):

	Pass		Special Mention(*)		Substandard(#)		Total
March 31, 2011
1-4 family	$	106,619	$	46	$	20,684	$	127,349
Lot and land development		31,209		—		39,310		70,519
Multi-family		33,163		6,255		15,907		55,325
Residential construction		31,618		1,565		16,467		49,650
Commercial real estate		342,307		3,321		115,169		460,797
Commercial loans		179,329		257		13,296		192,882
Consumer loans		3,665		—		8		3,673
	$	727,910	$	11,444	$	220,841	$	960,195
	Pass		Special Mention(*)		Substandard(#)		Total
June 30, 2010
1-4 family	$	138,470	$	876	$	13,449	$	152,795
Lot and land development		90,870		—		30,213		121,083
Multi-family		64,169		16,440		2,394		83,003
Residential construction		70,178		—		10,285		80,463
Commercial real estate		463,019		13,462		78,944		555,425
Commercial loans		187,344		—		4,401		191,745
Consumer loans		4,681		—		11		4,692
	$	1,018,731	$	30,778	$	139,697	$	1,189,206

^(*) These loans are currently protected by the current sound worth and paying capacity of the obligor, but have a potential weakness that would create a higher credit risk.

^(#) These loans exhibit well defined weaknesses that could jeopardize the ultimate collection of all or part of the debt. Substandard loans are inadequately protected by the current sound worth and paying capacity of the obligor or of the collateral pledged. They are characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected. Loss potential, while existing in the aggregate for substandard assets, does not have to exist in individual assets classified as “Substandard”.

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The following tables highlight the age analysis of the Bank’s financing receivables as of March 31, 2011 and June 30, 2010 (in thousands):

Age Analysis of Past Due Financing Receivables

As of March 31, 2011

	30-59 Days Past Due		60-89 Days Past Due		90 Days and Greater		Total Past Due		Current		Total Financing Receivables		Recorded Investment >90 Days and Accruing
March 31, 2011
1-4 family	$	2,776	$	866	$	1,326	$	4,968	$	122,381	$	127,349	$	—
Lot and land development		799		1,686		2,717		5,202		65,317		70,519		—
Multi-family		1,576		—		2,260		3,836		51,489		55,325		—
Residential construction		289		722		3,945		4,956		44,694		49,650		—
Commercial real estate		2,674		4,127		4,993		11,794		449,003		460,797		—
Commercial loans		2,773		295		700		3,768		189,114		192,882		—
Consumer loans		76		—		109		185		3,488		3,673		—
Total	$	10,963	$	7,696	$	16,050	$	34,709	$	925,486	$	960,195	$	—

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Age Analysis of Past Due Financing Receivables

As of June 30, 2010

	30-59 Days Past Due		60-89 Days Past Due		90 Days and Greater		Total Past Due		Current		Total Financing Receivables		Recorded Investment >90 Days and Accruing
June 30, 2010
1-4 family	$	2,384	$	1,158	$	3,302	$	6,844	$	145,951	$	152,795	$	29
Lot and land development		1,150		4,134		2,708		7,992		113,091		121,083		—
Multi-family		—		—		2,394		2,394		80,609		83,003		—
Residential construction		—		367		1,701		2,068		78,395		80,463		—
Commercial real estate		168		2,845		6,181		9,194		546,231		555,425		—
Commercial Loans		32		—		263		295		191,450		191,745		—
Consumer loans		1		—		—		1		4,691		4,692		—
Total	$	3,735	$	8,504	$	16,549	$	28,788	$	1,160,418	$	1,189,206	$	29

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During the three-months ended March 31, 2011, the Bank sold $4,400,000 of participations in certain loans subject to small business administration (“SBA”) guarantees with a total unpaid principal balance of $4,563,000. The guaranteed portion of these loans are subject to a 90-day recourse period related to the borrower’s timely payments, and sale accounting for the participations has been deferred until this recourse period has expired. As such, included in the Bank’s loan and short-term borrowing balances at March 31, 2011, was $4,400,000 of loans sold prior to March 31, 2011. The amounts sold represent the guaranteed portion of the SBA loans. The non-guaranteed portion of the loans was retained by the Bank. Additionally, loan origination fees of $380,000 received by the Bank related to the guaranteed portion of these loans will be deferred until the 90-day recourse period has expired, at which time this amount will be recognized as income.

Fair values of loans receivable are estimated for portfolios of loans with similar characteristics. Loans are segregated by type, such as real estate, commercial and consumer, which are further segregated into fixed and adjustable rate interest terms. The fair value of loans receivable is calculated by discounting scheduled cash flows through the estimated maturity using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. Loan fair value estimates include judgments regarding future expected loss experience and risk characteristics. The fair value of loans receivable was $988,014,000 and $1,264,675,000 at March 31, 2011 and June 30, 2010, respectively.

REAL ESTATE OWNED (“REO”) AND OTHER REPOSSESSED ASSETS

REO and other repossessed assets are valued at the lower of cost or market, less a selling discount, and are included in other assets on the consolidated statement of financial condition. REO and other repossessed assets are valued using Level 3 valuation methodologies, see further discussion of Level 3 methodologies in “Fair Value of Financial Instruments.” For those investments where the REO is valued at market, the value is determined by third party appraisals, or if the REO is being sold in an auction, by accepted bid amount. For those REO assets that are in an auction and a bid has not been accepted, a fair value estimate is derived by utilizing market data including appraised value adjusted for distressed sales. In certain circumstances, the Company adjusts appraised values to more accurately reflect the economic conditions of the area at the time of valuation. These adjustments are largely based on the historical loss on sales of REO properties. Included in other repossessed assets are land leases which are valued using a discounted cash flow analysis. The fair value of REO and other repossessed assets was $28,144,000 and $46,194,000 at March 31, 2011 and June 30, 2010, respectively. The amount of additional write-downs required to reflect current fair value was $1,806,000 and $13,349,000 for the three and nine-months ended March 31, 2011, respectively, and $1,687,000 and $3,608,000 for the three and nine-months ended March 31, 2010, respectively.

SECURITIES OWNED AND SECURITIES SOLD, NOT YET PURCHASED

Securities owned and securities sold, not yet purchased at March 25, 2011 and June 25, 2010, which are carried at market value, consist of the following (in thousands):

	March		June
Securities owned
Corporate equity securities	$	6,263	$	12,734
Municipal obligations		117,586		132,142
U.S. government agency obligations		25,162		19,518
Corporate obligations		102,904		70,844
Other		14,677		10,349
	$	266,592	$	245,587

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	March		June
Securities sold, not yet purchased
Corporate equity securities	$	880	$	925
Municipal obligations		—		17
U.S. government agency obligations		61,991		45,326
Corporate obligations		30,289		20,867
Other		576		459
	$	93,736	$	67,594

Certain of the above securities were pledged to secure short-term borrowings and as security deposits at clearing organizations for SWS’s clearing business. See additional discussion in “Short-Term Borrowings.” Securities pledged as security deposits at clearing organizations were $2,749,000 and $2,899,000 at March 25, 2011 and June 25, 2010, respectively. Additionally, at March 25, 2011 and June 25, 2010, SWS had pledged firm securities valued at $914,000 and $1,089,000, respectively, in conjunction with securities lending activities.

SECURITIES PURCHASED UNDER AGREEMENTS TO RESELL

Transactions involving purchases of securities under agreement to resell (“reverse repurchase agreements”) are accounted for as collateralized financings except where SWS does not have an agreement to sell the same or substantially the same securities before maturity at a fixed or determinable price. At March 25, 2011, SWS held reverse repurchase agreements totaling $57,974,000, collateralized by U.S. government and government agency obligations with a market value of approximately $57,531,000. At June 25, 2010, SWS held reverse repurchase agreements totaling $30,507,000, collateralized by U.S. government and government agency obligations with a market value of approximately $30,465,000.

GOODWILL

SWS performed its annual assessment of the fair value of goodwill during fiscal 2010 in June 2010 and, based on the results of the assessment, SWS’s goodwill balance was not impaired. SWS bases its assessment of the fair value of the business units with goodwill on a weighted average of a discounted cash flow model estimate of fair value and a market multiple approach to fair value.

There were no events in the nine-months ended March 25, 2011 that would trigger an interim assessment of the fair value of goodwill. SWS’s goodwill balance was $7,552,000 at March 25, 2011, of which $4,254,000 was in the clearing segment and $3,298,000 was in the institutional segment.

INTANGIBLE ASSETS

On March 22, 2006, the Company entered into an agreement with TD Ameritrade Holding Corporation (“Ameritrade”), to transfer its correspondent clients to the Company. This transaction closed in July 2006. Of the maximum agreed upon purchase price of $5,800,000, $2,382,000 was paid upon closing with the remainder paid on the one year anniversary of the closing date. SWS paid an additional $2,678,000 in July 2007 under the terms of the agreement. As a result of these transactions, the Company recorded a customer relationship intangible of $5,060,000. The intangible asset is amortized over a five year period at a rate based on the estimated future economic benefit of the customer relationships. SWS recognized approximately $196,000 and $589,000, respectively, and $236,000 and $707,000, respectively, of amortization expense for the three and nine-months ended March 25, 2011 and March 26, 2010. The net intangible asset of $203,000 is included in other assets on the consolidated statements of financial condition. SWS performed its annual analysis of the impairment of its intangible asset in June 2010 and, based on its analysis, SWS’s intangible asset balance was not impaired. Nothing came to SWS’s attention in the first nine-months of fiscal 2011 that would require SWS to reperform this analysis.

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SHORT-TERM BORROWINGS

Brokerage.Southwest Securities has credit arrangements with commercial banks, which include broker loan lines up to $300,000,000. These lines of credit are used primarily to finance securities owned, securities held for correspondent broker/dealer accounts, receivables in customers’ margin accounts and underwriting activities. These lines may also be used to release pledged collateral against day loans. These credit arrangements are provided on an “as offered” basis and are not committed lines of credit. These arrangements can be terminated at any time by the lender. Any outstanding balance under these credit arrangements is due on demand and bears interest at rates indexed to the federal funds rate. At March 25, 2011, the amount outstanding under these secured arrangements was $136,000,000, which was collateralized by securities held for firm accounts valued at $167,949,000. At June 25, 2010, the amount outstanding under these secured arrangements was $110,000,000, which was collateralized by securities held for firm accounts valued at $167,564,000.

SWS had $250,000 outstanding under unsecured letters of credit at March 25, 2011 and June 25, 2010, pledged to support its open positions with securities clearing organizations. The letters of credit bear a 1% commitment fee and are renewable semi-annually.

At June 25, 2010, SWS had an additional unsecured letter of credit issued for a sub-lease of space previously occupied by Mydiscountbroker.com, a subsidiary of SWS that was dissolved in July 2004, in the amount $143,000. This letter of credit expired September 10, 2010.

SWS also had $500,000 outstanding under an unsecured letter of credit at March 25, 2011 and June 25, 2010, pledged to support its underwriting activities. The letter of credit bears a 1% commitment fee and is renewable annually at SWS’s option.

In addition to the broker loan lines, at March 25, 2011 and June 25, 2010, SWS had a $20,000,000 unsecured line of credit that is due on demand and bears interest at rates indexed to the federal funds rate. This credit arrangement is provided on an “as offered” basis and is not a committed line of credit. The total amount of borrowings available under this line of credit is reduced by the amount outstanding on the line and under any unsecured letters of credit at the time of borrowing. At March 25, 2011, there were no amounts outstanding on this line, other than the $750,000 under unsecured letters of credit referenced above. At June 25, 2010, there were no amounts outstanding on this line, other than the $893,000 under unsecured letters of credit referenced above. At March 25, 2011 and June 25, 2010, the total amount available for borrowing was $19,250,000 and $19,107,000, respectively.

At both March 25, 2011 and June 25, 2010, SWS had an irrevocable letter of credit agreement aggregating $55,000,000 pledged to support customer open options positions with an options clearing organization. The letter of credit bears interest at the brokers’ call rate (0.5% at March 25, 2011), if drawn, and is renewable semi-annually. The letter of credit is fully collateralized by marketable securities held in client and non-client margin accounts with a value of $80,535,000 and $80,946,000 at March 25, 2011 and June 25, 2010, respectively.

On January 29, 2010, Southwest Securities entered into an agreement with an unaffiliated bank for a $50,000,000 committed revolving credit facility. The facility includes up to $15,000,000 in unsecured credit. The commitment fee is 37.5 basis points and when drawn, the interest rate is equal to the federal funds rate plus 75 basis points. The agreement provides that Southwest Securities must maintain tangible net worth of $150,000,000. On January 28, 2011, Southwest Securities renewed this facility. The new facility provides up to $45,000,000 of secured borrowings. As of March 25, 2011, there was $45,000,000 outstanding under the committed revolving credit facility. The $45,000,000 of secured borrowings was collateralized by securities with a value of $72,652,000 at March 25, 2011.

In addition to using customer securities to collateralize bank loans, SWS also loans client securities as collateral in conjunction with SWS’s securities lending activities. At March 25, 2011,

26

approximately $318,712,000 of client securities under customer margin loans was available to be pledged, of which SWS had pledged $48,321,000 under securities loan agreements. At June 25, 2010, approximately $275,260,000 of client securities under customer margin loans was available to be pledged, of which SWS had pledged $41,629,000 under securities loan agreements.

Banking. At June 30, 2010, the Bank had an agreement with an unaffiliated bank for a $30,000,000 unsecured line of credit for the purchase of federal funds with a floating interest rate. The unaffiliated bank was not obligated by this agreement to sell federal funds to the Bank. The proceeds from the line of credit were used by the Bank to support short-term liquidity needs. In December 2010, this agreement was cancelled. At June 30, 2010, there were no amounts outstanding on this line of credit.

In the second quarter of fiscal 2010, the Bank entered into a secured line of credit agreement with the Federal Reserve Bank of Dallas. This line of credit is secured by the Bank’s commercial loan portfolio. This line is due on demand and bears interest at a rate equal to the federal funds target rate plus 100 basis points. At March 31, 2011, the total amount available under this line was $83,767,000 and there was no amount outstanding.

The Bank sold $4,400,000 of participations in certain loans subject to SBA guarantees with a total unpaid principal balance of $4,563,000, during the three-months ended March 31, 2011. The guaranteed portion of these loans are subject to a 90-day recourse period related to the borrower’s timely payments, and sale accounting for the participations has been deferred until this recourse period has expired. As such, included in the Bank’s loan and short-term borrowing balances at March 31, 2011, was $4,400,000 of loans sold prior to March 31, 2011. The amounts sold represent the guaranteed portion of the SBA loans. The non-guaranteed portion of the loans was retained by the Bank. Additionally, loan origination fees of $380,000 received by the Bank related to the guaranteed portion of these loans will be deferred until the 90-day recourse period has expired, at which time this amount will be recognized as income.

DEPOSITS

Deposits at March 31, 2011 and June 30, 2010 are summarized as follows (dollars in thousands):

	March					June
	Amount		Percent			Amount		Percent
Non-interest bearing demand accounts	$	72,753		6.5	%	$	80,590		5.4	%
Interest bearing demand accounts		11,616		1.0			99,529		6.7
Savings accounts		956,014		85.4			1,197,659		80.5
Limited access money market accounts		26,911		2.4			37,929		2.5
Certificates of deposit, less than $100,000		29,052		2.6			38,861		2.6
Certificates of deposit, $100,000 and greater		23,744		2.1			34,236		2.3
	$	1,120,090		100.0	%	$	1,488,804		100.0	%

The weighted average interest rate on deposits was approximately 0.13% at March 31, 2011 and 0.25% at June 30, 2010.

27

At March 31, 2011, scheduled maturities of certificates of deposit were as follows (in thousands):

	1 Year or Less		> 1 Year Through 2 Years		> 2 Years Through 3 Years		> 3 Years Through 4 Years		Thereafter		Total
Certificates of deposit, less than $100,000	$	20,625	$	3,271	$	1,078	$	3,072	$	1,006	$	29,052
Certificates of deposit, $100,000 and greater		16,218		3,127		539		3,236		624		23,744
	$	36,843	$	6,398	$	1,617	$	6,308	$	1,630	$	52,796

The Bank is funded primarily by core deposits, with interest bearing checking accounts and savings accounts from Southwest Securities’ customers making up a significant source of these deposits.

The fair value of deposits with no stated maturity, such as interest-bearing checking accounts, passbook savings accounts and advance payments from borrowers for taxes and insurance, are equal to the amount payable on demand (carrying value), as these deposits are very liquid and can reprice immediately. The fair value of certificates of deposit is based on the discounted value of contractual cash flows. The discount rate is estimated using the rates currently offered for deposits of similar remaining maturities. The fair value of certificates of deposit was $53,447,000 and $74,155,000 at March 31, 2011 and June 30, 2010, respectively. The fair value of other deposits was $1,067,377,000 and $1,415,528,000 at March 31, 2011 and June 30, 2010, respectively.

SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE

Securities sold under repurchase agreements, which are secured borrowings, generally mature within one to four days from the transaction date. Securities sold under repurchase agreements are reflected at the amount of cash received in connection with the transactions. The Company may be required to provide additional collateral based on the fair value of the underlying securities. The Company monitors the fair value of the underlying securities on a daily basis. Securities sold under repurchase agreements at March 25, 2011 and June 25, 2010 were $7,217,000 and $12,389,000, respectively.

ADVANCES FROM THE FEDERAL HOME LOAN BANK

At March 31, 2011 and June 30, 2010, advances from the Federal Home Loan Bank (“FHLB”) were due as follows (in thousands):

	March		June
Maturity:
Due within one year	$	4,872	$	33,714
Due within two years		14,160		9,376
Due within five years		39,267		48,050
Due within seven years		3,224		6,274
Due within ten years		9,754		5,486
Due within twenty years		25,532		29,921
	$	96,809	$	132,821

At March 31, 2011 (calculated at December 31, 2010), the advances from the FHLB had interest rates ranging from 2% to 7% and were collateralized by approximately $370,000,000 of collateral value (as defined) in qualifying loans. At June 30, 2010 (calculated at March 31, 2010), the advances from the FHLB had interest rates from 0.1% to 7% and were collateralized by approximately $483,000,000 of collateral value in qualifying loans.

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The fair value of advances from the FHLB is based on the discounted value of contractual cash flows. The discount rate is estimated using the rates currently offered for borrowings of similar remaining maturities. The fair value of advances from the FHLB was $107,222,000 and $146,560,000 at March 31, 2011 and June 30, 2010, respectively.

REGULATORY CAPITAL REQUIREMENTS

Brokerage. The Company’s broker/dealer subsidiaries are subject to the SEC’s Uniform Net Capital Rule (the “Rule”), which requires the maintenance of minimum net capital. Southwest Securities has elected to use the alternative method, permitted by the Rule, which requires that it maintain minimum net capital, as defined in Rule 15c3-1 of the Exchange Act, equal to the greater of $1,000,000 or 2% of aggregate debit balances, as defined in Rule 15c3-3 of the Exchange Act. At March 25, 2011, Southwest Securities had net capital of $114,231,000, or approximately 35.5% of aggregate debit balances, which was $107,787,000 in excess of its minimum net capital requirement of $6,444,000 at that date. Additionally, the net capital rule of the NYSE provides that equity capital may not be withdrawn or cash dividends paid if resulting net capital would be less than 5% of aggregate debit items. At March 25, 2011, Southwest Securities had net capital of $98,122,000 in excess of 5% of aggregate debit items.

SWS Financial follows the primary (aggregate indebtedness) method under Exchange Act Rule 15c3-1, which requires the maintenance of the larger of minimum net capital of $250,000 or 1/15 of aggregate indebtedness. At March 25, 2011, the net capital and excess net capital of SWS Financial was $926,000 and $676,000, respectively.

Banking.The Bank is subject to various regulatory capital requirements administered by federal agencies. Quantitative measures, established by regulation to ensure capital adequacy, require maintaining minimum amounts and ratios (set forth in the table below) of total and Tier I capital (as defined in 12 CFR 565 and 12 CFR 567) to risk-weighted assets (as defined ) and of Tier I (core) capital (as defined) to adjusted assets (as defined). Federal statutes and OTS regulations have established five capital categories for federal savings banks: well-capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized. The federal banking agencies have jointly specified by regulation the relevant capital level for each category. An institution is defined as well-capitalized when its total risk-based capital ratio is at least 10.00%, its Tier I risk-based capital ratio is at least 6.00%, its Tier I (core) capital ratio is at least 5.00%, and it is not subject to any federal supervisory order or directive to meet a specific capital level.

On February 4, 2011, the Board of Directors of the Bank signed a Stipulation and Consent to Issuance of Order to Cease and Desist (the “Stipulation”) and the OTS issued the Order. Accordingly, as a result of the issuance of the Order, effective February 4, 2011, the Bank was deemed to be “adequately capitalized” and no longer met the definition of “well capitalized” under federal statutes and OTS regulations even though its capital ratios met or exceeded all applicable requirements under Federal law, OTS regulations and the Order. See additional discussion in“Cease and Desist Order with the Office of Thrift Supervision.”As of June 30, 2010, the Bank met all capital requirements to which it was subject and satisfied the requirements to be defined as a well-capitalized institution. As of March 31, 2011, the Bank’s total risk-based capital ratio was 14.5%, resulting in $24,947,000 in excess capital over the Order’s total risk-based capital requirement of $117,517,000, and its Tier I risk-based capital ratio was 13.3% and its Tier I (core) capital ratio was 9.6%, resulting in $21,831,000 in excess capital over the Order’s Tier I (core) capital requirement of $108,391,000.

29

The Bank’s actual capital amounts and ratios are presented in the following tables (dollars in thousands):

	Actual					For Capital Adequacy Purposes					To Be Well Capitalized Under Prompt Corrective Action Provisions					Order’s Capital Requirements
	Amount		Ratio			Amount		Ratio			Amount		Ratio			Amount		Ratio
March 31, 2011:
Total risk-based capital	$	142,464		14.5	%	$	78,345		8.0	%	$	97,931		10.0	%	$	117,517		12.0	%
Tier I risk-based capital		130,222		13.3			39,172		4.0			58,759		6.0			78,345		8.0
Tier I (core) capital		130,222		9.6			54,196		4.0			67,745		5.0			108,391		8.0
June 30, 2010:
Total risk-based capital	$	172,483		12.2	%	$	113,015		8.0	%	$	141,268		10.0	%
Tier I risk-based capital		154,824		11.0			56,507		4.0			84,761		6.0
Tier I (core) capital		154,824		8.7			71,958		4.0			89,948		5.0

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LOSS PER SHARE (“EPS”)

A reconciliation between the weighted average shares outstanding used in the calculation of basic and diluted EPS is as follows for the three and nine-month periods ended March 25, 2011 and March 26, 2010 (in thousands, except share and per share amounts):

	Three-Months Ended						Nine-Months Ended
	March 25, 2011			March 26, 2010			March 25, 2011			March 26, 2010
Net loss	$	(2,147	)	$	(11,540	)	$	(23,225	)	$	(2,588	)
Dividends on estimated forfeitures-restricted Stock		—			3			2			8
Adjusted net loss	$	(2,147	)	$	(11,537	)	$	(23,223	)	$	(2,580	)
Weighted average shares outstanding – basic(*)		32,501,344			32,544,021			32,510,570			29,489,035
Effect of dilutive securities:
Assumed exercise of stock options		—			—			—			—
Weighted average shares outstanding – Diluted		32,501,344			32,544,021			32,510,570			29,489,035
Loss per share – basic
Net loss	$	(0.07	)	$	(0.35	)	$	(0.71	)	$	(0.09	)
Loss per share – diluted
Net loss	$	(0.07	)	$	(0.35	)	$	(0.71	)	$	(0.09	)

^(*) Unvested share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents (paid or unpaid) are treated as participating securities and are factored into the calculation of EPS, except in periods with a net loss, when they are excluded.

At March 25, 2011, there were options to acquire approximately 198,000 shares of common stock outstanding under the 1996 Plan. At March 26, 2010, there were options to acquire 425,000 shares of common stock outstanding under the 1996 Plan and the SWS Group, Inc. 1997 Stock Option Plan. See “Employee Benefits.” As a result of the net loss in the three and nine-months ended March 25, 2011 and March 26, 2010, respectively, all options were anti-dilutive and were not included in the calculation of diluted weighted average shares outstanding and diluted earnings per share.

Dividends per share for the three-months ended March 25, 2011 and March 26, 2010 were $0.01 and $0.09, respectively.

OFFERING OF COMMON STOCK

On October 16, 2009, the Company filed a shelf registration statement with the SEC in the amount of $150,000,000. On December 9, 2009, the Company closed a public offering of 4,347,827 shares of its common stock at a price of $11.50 per share. On December 16, 2009, the underwriters for the public offering exercised their option to purchase an additional 652,174 shares of SWS Group common stock to cover over-allotments. The Company generated net proceeds from these common stock offerings, after deducting underwriting discounts and commissions, of approximately $54,354,000.

REPURCHASE OF TREASURY STOCK

Periodically, SWS repurchases common stock under a plan approved by the Board of Directors. Currently, SWS is authorized to repurchase 500,000 shares of common stock from time to time in the open market, expiring February 28, 2012. No shares were repurchased by SWS under this program during the nine-months ended March 25, 2011. As of March 26, 2010, no shares were repurchased by SWS under the program in place as of that date.

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Additionally, the trustee under SWS’s deferred compensation plan periodically purchases common stock in the open market in accordance with the terms of the plan. This stock is classified as treasury stock in the consolidated financial statements, but participates in future dividends declared by SWS. The plan purchased 53,000 shares in the nine-months ended March 25, 2011, at a cost of approximately $340,000, or $6.42 per share. The plan purchased 15,099 shares in the nine-months ended March 26, 2010, at a cost of approximately $228,000, or $15.09 per share. The plan distributed 20,560 shares to participants in the nine-months ended March 25, 2011.

Upon vesting of the shares granted under the Restricted Stock Plan, the grantees may choose to sell a portion of their vested shares to the Company to cover the tax liabilities arising from the vesting. As a result, 18,183 shares were repurchased with a market value of approximately $131,000, or an average price of $7.22 per share, in the nine-months ended March 25, 2011. In the nine-months ended March 26, 2010, 32,100 shares were repurchased with a market value of $459,383, or an average of $14.31 per share.

SEGMENT REPORTING

SWS operates four business segments:

• Clearing: The clearing segment provides clearing and execution services (generally on a fully disclosed basis) for general securities broker/dealers, for bank affiliated firms and firms specializing in high volume trading.

• Retail: The retail brokerage segment includes retail securities products and services (equities, mutual funds and fixed income products), insurance products and managed accounts and encompasses the activities of our employee registered representatives and our independent representatives who are under contract with SWS Financial.

• Institutional: The institutional brokerage segment serves institutional customers in securities lending, investment banking and public finance, fixed income sales and trading, proprietary trading and agency execution services.

• Banking: The Bank offers traditional banking products and services and focuses on small business lending and short-term funding for mortgage bankers.

Clearing and institutional brokerage services are offered exclusively through Southwest Securities. The Bank and its subsidiaries comprise the banking segment. Retail brokerage services are offered through Southwest Securities (the Private Client Group and the Managed Advisors Accounts department), SWS Insurance, and through SWS Financial (which contracts with independent representatives for the administration of their securities business).

SWS’s segments are managed separately based on types of products and services offered and their related client bases. The segments are consistent with how the Company manages its resources and assesses its performance. Management assesses performance based primarily on income before income taxes and net interest revenue (expense). As a result, SWS reports net interest revenue (expense) by segment. SWS’s business segment information is prepared using the following methodologies:

• the financial results for each segment are determined using the same policies as those described in Note 1, “Significant Accounting Policies,” to the Company’s audited consolidated financial statements contained in the Company’s Form 10-K for the fiscal year ended June 25, 2010;

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• segment financial information includes the allocation of interest based on each segment’s earned interest spreads;

• information system and operational expenses are allocated based on each segment’s usage;

• shared securities execution facilities expenses are allocated to the segments based on production levels;

• money market fee revenue is allocated based on each segment’s average balances; and

• clearing charges are allocated based on clearing levels from each segment.

Intersegment balances are eliminated upon consolidation and have been applied to the appropriate segment.

The “other” category includes SWS Group, corporate administration and SWS Capital. SWS Capital is a dormant entity which holds approximately $20,000 of assets. SWS Group is a holding company that owns various investments, including USHS common stock.

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The following table presents the Company’s operations by the segments outlined above for the three and nine-months ended March 25, 2011 and March 26, 2010:

UNAUDITED QUARTERLY FINANCIAL INFORMATION

(in thousands)	Clearing			Retail			Institutional		Banking			Other			Consolidated SWS Group, Inc.
Three-months ended March 25, 2011
Operating revenue	$	3,838		$	24,928		$	29,428	$	(355	)	$	48		$	57,887
Net intersegment revenues		(235	)		258			151		917			(1,091	)		—
Net interest revenue		1,441			668			3,363		14,226			342			20,040
Net revenues		5,279			25,596			32,791		13,871			390			77,927
Operating expenses		5,323			26,246			23,270		17,624			8,865			81,328
Depreciation and amortization		215			229			145		612			595			1,796
Income (loss) before taxes		(44	)		(650	)		9,521		(3,753	)		(8,475	)		(3,401	)
Three-months ended March 26, 2010
Operating revenue	$	3,539		$	26,523		$	28,802	$	(422	)	$	581		$	59,023
Net intersegment revenues		(207	)		235			78		939			(1,045	)		—
Net interest revenue		1,386			755			3,800		18,152			(115	)		23,978
Net revenues		4,925			27,278			32,602		17,730			466			83,001
Operating expenses		4,829			28,244			23,068		37,852			7,307			101,300
Depreciation and amortization		243			261			141		624			501			1,770
Income (loss) before taxes		96			(966	)		9,534		(20,122	)		(6,841	)		(18,299	)

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UNAUDITED QUARTERLY FINANCIAL INFORMATION

(in thousands)	Clearing			Retail			Institutional		Banking			Other			Consolidated SWS Group, Inc.
Nine-months ended March 25, 2011
Operating revenue	$	11,686		$	80,998		$	101,383	$	(1,275	)	$	1,104		$	193,896
Net intersegment revenues		(668	)		731			321		2,850			(3,234	)		—
Net interest revenue		4,415			2,223			12,269		52,319			758			71,984
Net revenues		16,101			83,221			113,652		51,044			1,862			265,880
Operating expenses		15,313			82,030			76,209		98,558			28,162			300,272
Depreciation and amortization		645			714			434		1,848			1,836			5,477
Income (loss) before taxes		788			1,191			37,443		(47,514	)		(26,300	)		(34,392	)
Assets(*)		341,375			183,516			2,426,935		1,368,813			35,246			4,355,885
Nine-months ended March 26, 2010
Operating revenue	$	11,020		$	80,430		$	109,388	$	488		$	1,936		$	203,262
Net intersegment revenues		(664	)		906			900		2,755			(3,897	)		—
Net interest revenue		4,327			2,197			12,748		55,300			(203	)		74,369
Net revenues		15,347			82,627			122,136		55,788			1,733			277,631
Operating expenses		21,244			83,299			80,352		69,970			27,133			281,998
Depreciation and amortization		730			799			416		1,843			1,444			5,232
Income (loss) before taxes		(5,897	)		(672	)		41,784		(14,182	)		(25,400	)		(4,367	)
Assets(*)		371,065			186,558			1,903,873		1,704,279			26,286			4,192,061

(*) Assets are reconciled to total assets as presented in the March 25, 2011 and March 26, 2010 consolidated statements of financial condition as follows (in thousands):

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	March 25, 2011			March 26, 2010
Amount as presented above	$	4,355,885		$	4,192,061
Reconciling items:
Unallocated assets:
Cash		5,363			8,428
Receivables from brokers, dealers and clearing organizations		31,625			55,478
Receivable from clients, net of allowances		15,696			17,849
Other assets		27,829			17,172
Unallocated eliminations		(12,761	)		(2,582	)
Total assets	$	4,423,637		$	4,288,406

COMMITMENTS, CONTINGENCIES AND GUARANTEES

Commitment and Contingencies.

Litigation. In the general course of its brokerage business and the business of clearing for other brokerage firms, SWS Group and/or its subsidiaries have been named as defendants in various lawsuits and arbitration proceedings. These claims allege violations of various federal and state securities laws. The Bank is also involved in certain claims and legal actions arising in the ordinary course of business. Except as noted below, management believes that resolution of these claims will not result in any material adverse effect on SWS’s consolidated financial position, results of operations or cash flows.

The Company has been named in three lawsuits related to a bond offering that was underwritten by M.L. Stern & Co., LLC, a company purchased by SWS Group in 2008. The offering took place in November of 2005, prior to the SWS Group purchase. The lawsuit was filed in November of 2009. M.L. Stern & Co., LLC underwrote approximately 40% of the $35,000,000 offering.

The lawsuits are in the early stage of discovery and the ultimate amount of liability associated with this claim cannot currently be determined. However, the Company believes it is at least reasonably possible that a loss related to this matter will be incurred. During fiscal 2011, the Company recorded a liability of approximately $1,000,000 related to this matter.

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Venture Capital Funds.The Bank has committed to invest $5,000,000 in two limited partnership equity funds. As of March 31, 2011, the Bank had invested $3,000,000 of its commitment. This investment is subject to the Volcker rule provisions of the Dodd-Frank Act, which will be finalized prior to October 21, 2011.

Underwriting. Through its participation in underwriting securities, both corporate and municipal, SWS could expose itself to material risk, since the possibility exists that securities SWS has committed to purchase cannot be sold at the initial offering price. Federal and state securities laws and regulations also affect the activities of underwriters and impose substantial potential liabilities for violations in connection with sales of securities by underwriters to the public. Total potential commitments under outstanding underwriting arrangements at March 25, 2011 were $6,083,000.

Guarantees.As of March 31, 2011, the Bank had issued stand-by letters of credit. The maximum potential amount of future payments the Bank could be required to make under the letters of credit was $688,000. The recourse provision of the letters of credit allows the amount of the letters of credit to become part of the fully collateralized loans with total repayment as a first lien. The collateral on these letters of credit consists of real estate, certificates of deposit, equipment, accounts receivable or furniture and fixtures.

Subject to the operating limitations in the Order, in the ordinary course of business, the Bank enters into loan agreements where the Bank commits to lend a specified amount of money to a borrower. At any point in time, there could be amounts that have not been advanced on the loan to the borrower, representing unfunded commitments, as well as amounts that have been disbursed but repaid, which are available for re-borrowing under a revolving line of credit. As of March 31, 2011, the Bank had unfunded commitments of $69,112,000 relating to revolving lines of credit. In addition, as of March 31, 2011, the Bank had unfunded new loans in the amount of $28,053,000.

The Company provides representations and warranties to counterparties in connection with a variety of commercial transactions and occasionally indemnifies them against potential losses caused by the breach of those representations and warranties. These indemnification obligations generally are standard contractual indemnities and are entered into in the normal course of business. The maximum potential amount of future payments that the Company could be required to make under these indemnities cannot be estimated. However, the Company believes that it is unlikely it will have to make material payments under these arrangements and has not recorded any contingent liability in the consolidated financial statements for these indemnities.

Southwest Securities is a member of multiple exchanges and clearinghouses. Under the membership agreements, members are generally required to guarantee the performance of other members. Additionally, if a member becomes unable to satisfy its obligations to the clearinghouse, other members would be required to meet shortfalls. To mitigate these performance risks, the exchanges and clearinghouses often require members to post collateral. SWS’s maximum potential liability under these arrangements cannot be quantified. However, the potential for SWS to be required to make payments under these arrangements is unlikely. Accordingly, no contingent liability is recorded in the consolidated financial statements for these arrangements.

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ACCOUNTING PRONOUNCEMENTS

The FASB and the SEC have recently issued the following statement and interpretation, which is applicable to SWS. Any other new accounting pronouncements not specifically identified in our disclosures are not applicable to SWS or are not expected to have a material effect on our financial statements:

ASU 2011-02, “A Creditor’s Determination of Whether a Restructuring Is a Troubled Debt Restructuring.”In April, 2011, the FASB issued the ASU to enhance the disclosure requirements regarding receivables. The enhanced disclosures are designed to assist creditors in determining whether a modified receivable is to be considered a troubled debt restructuring, including the impact on impairment and disclosures. ASU 2011-02 is effective for the first interim or annual reporting period ending on or after June 15, 2011, which is the Company’s fiscal 2011 fourth quarter ending June 24, 2011. The Company is in the process of evaluating the disclosure requirements and any impact the new disclosures will have on its financial statements and processes.

AFFILIATE TRANSACTIONS

At June 30, 2010, two directors, together with certain members of such directors’ families, owned approximately 64% of the ownership interests of a holding company which owned a local bank and one of SWS’s executive officers owned less than 1% of the ownership interests in this bank. The Bank sold loan participations with outstanding balances of $1,862,000 and $3,400,000 at March 31, 2011 and June 30, 2010, respectively, to this local bank. The local bank and the Bank had participations in $1,404,000 of foreclosed property at both March 31, 2011 and June 30, 2010. The terms of the participation agreements resulted in payments of interest and fees to the other bank of $39,000 and $126,000 for the three and nine-months ended March 31, 2011, respectively, and $51,000 and $226,000 for the three and nine-months ended March 31, 2010. The interest rates on these participations were substantially the same as those participations sold by the Bank to unrelated banks. In December 2010, one loan was sold and the local bank was paid $720,762 for its participation share of the net sales price. On July 31, 2010, certain assets of the local bank, including loan participations and foreclosed property, were sold to the local bank’s holding company. Affiliate transactions are subject to limitations specified in the Order. See “Cease and Desist Order with the Office of Thrift Supervision.”

CEASE AND DESIST ORDER WITH THE OFFICE OF THRIFT SUPERVISION

On February 4, 2011 (the “Effective Date”), the Board of Directors of the Bank signed the Stipulation consenting to and agreeing to the issuance by the OTS of the Order without admitting or denying that grounds exist for the OTS to initiate an administrative proceeding against the Bank. The description of the Order and the corresponding Stipulation set forth in this section or elsewhere in this filing is qualified in its entirety by reference to the Order and Stipulation, copies of which were filed as exhibits to our Form10-Q for the quarter ended December 31, 2010, which was filed with the SEC on February 9, 2011. The Memorandum of Understanding with the Office of Thrift Supervision that was entered into by the Bank and the OTS on July 13, 2010 was terminated effective February 4, 2011. Among other things, the Order provides:

• The Bank must maintain a Tier 1 (Core) Capital Ratio equal to or greater than eight percent (8%) after the funding of an adequate Allowance for Loan and Lease Losses (“ALLL”) and a Total Risk-Based Capital Ratio equal to or greater than twelve percent (12%) (the “Minimum Levels”). On March 31, 2011, the Bank complied with these requirements with a Total Risk-Based Capital Ratio of 14.5% and a Tier 1 (Core) Capital Ratio of 9.6%.

• The Bank submitted to the OTS for review and comment a written capital plan to maintain the Bank’s capital at the Minimum Levels for the quarterly periods from January 1, 2011 through December 31, 2013. On a quarterly basis, the Board of Directors of the Bank must review a report prepared by management detailing deviations from the capital plan and related corrective actions (if any).

• Within 15 days after the Bank fails to meet the Minimum Levels or the Bank fails to submit or comply with the capital plan, the Bank must submit a contingency plan that is acceptable to the OTS that details the actions to be taken to: (a) consummate a merger or acquisition by another federally insured depository institution, or (b) voluntarily liquidate by filing an

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appropriate application with the OTS. Upon written notification from the OTS, this contingency plan must be implemented immediately and the Bank must provide the OTS with written status reports no later than the 1st and 15th day of each month following implementation of the contingency plan.

• The Bank must implement and adhere to the business plan previously submitted by the Bank to the OTS and any material modifications are subject to the prior written approval of the OTS after a 45 day review period. On a quarterly basis starting on March 31, 2011, the Board of Directors of the Bank must review a report prepared by management detailing deviations from the business plan and related corrective actions (if any). The Bank modified the business plan when it completed the capital plan. The OTS will review these modifications as part of its review of the capital plan.

• The Bank must implement and adhere to the classified asset reduction plan previously submitted by the Bank to the OTS and develop individual written specific workout plans for each classified asset in excess of $500,000. On a quarterly basis starting on March 31, 2011, the Board of Directors of the Bank must review an asset status report prepared by management detailing changes to classified assets and the status of workout plans and any revisions to such plans (if any).

• The Bank engaged a qualified, experienced, and independent third party, acceptable to the OTS, to perform a review of at least forty percent (40%) of the construction, multi-family, nonresidential and land loan portfolios that were not classified substandard and prepare a written report setting forth their findings, including a detailed analysis for the loan classifications of each asset over $500,000. The Board must review the report and submit it to the OTS no later than September 30, 2011

• The Bank submitted to the OTS for review and comment its written program for identifying, monitoring and controlling risks associated with concentrations of credit. Once the Bank is notified that the revised program is acceptable, the Board of Directors of the Bank must adopt the revised program. On a quarterly basis starting on March 31, 2011, the Board of Directors of the Bank must review the appropriateness of the Bank’s concentration limits given current conditions and the Bank’s compliance with the revised program and document the review in the minutes.

• The Bank must not, without the prior written non-objection of the OTS, originate or purchase, or commit to originate and purchase construction, nonresidential mortgage or land loans subject to certain exceptions, including: (a) construction loans to facilitate the sale of lots financed by the Bank and loans for the purpose of construction of homes that are pre-sold on lots financed by the Bank; (b) owner-occupied residential construction loans to qualified customers who have a prior existing banking relationship with the Bank; (c) loans guaranteed by the Small Business Administration; (d) loans to facilitate the sale of real estate owned; and (e) commercial real estate workouts. All lending subject to the exceptions must comply with the Bank’s loan policy and all applicable laws, regulations and regulatory guidance. The Bank provided the OTS with a schedule of all legally binding commitments as of January 27, 2011.

• The Bank’s outside directors conducted a management study and submitted the study to the Board of Directors. By May 30, 2011, the Board must adopt a written plan to address any identified weaknesses or deficiencies noted in the management study and specific dates for completion of corrective actions and submit the written plan to the OTS within 10 days of the Board meeting to consider the management plan.

• The Bank must comply with brokered deposit regulatory requirements.

• The Bank cannot increase its total assets during any quarter in excess of an amount equal to net interest credited on deposit liabilities during the prior quarter without the prior written notice of non-objection from the OTS.

• The Bank cannot declare or pay dividends or make any other capital distributions without the prior approval of the OTS after 30 days prior notice to the OTS.

• The Bank must comply with the prior notification requirements for changes in directors and senior executive officers set forth in applicable regulations.

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• The Bank cannot enter into, renew, extend or revise any contractual arrangement relating to compensation or benefits for any senior executive officer or director of the Bank without providing the OTS with 45 days prior written notice of the proposed transaction. The Bank cannot make any bonus payment or otherwise increase the compensation of any of its senior executive officers or directors without providing the OTS with 45 days prior written notice of the proposed bonus or increase and receiving a written notice of non-objection from the OTS.

• The Bank cannot make any golden parachute payment or prohibited indemnification payment unless, with respect to each payment, the Bank complies with applicable regulations.

• The Bank cannot enter into any arrangement or contract with a third party service provider that is significant to the overall operation or financial condition of the Bank or outside the Bank’s normal course of business without providing the OTS with 45 days prior written notice of the proposed arrangement including a written determination that the arrangement or contract complies with regulatory guidance and receiving a written notice of non-objection from the OTS.

• The Bank cannot engage in new transactions with affiliates unless, with respect to each transaction the Bank complies with applicable regulations.

• By April 30, 2011, the Bank must ensure that all violations of law and/or regulation are corrected and adequate policies, procedures and systems are established or revised and thereafter implemented to prevent future violations.

• The Board of Directors of the Bank must monitor and coordinate the Bank’s compliance with the Order, review and adopt all policies and procedures required by this Order prior to submission to the OTS.

• Within 30 days after the end of each calendar quarter beginning on March 31, 2011, the Bank must prepare a written compliance tracking report for the Board. Within 45 days after the end of each calendar quarter beginning on March 31, 2011, the Board must review the compliance tracking report and all other reports required to be prepared by the Order, adopt a resolution certifying that each director has reviewed the compliance tracking report and all required reports and documenting any corrective actions adopted by the Board.

The Order will remain effective until terminated, modified or suspended in writing by the OTS. As of March 31, 2011, the Bank was in compliance with the terms of the Order.

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

OVERVIEW

SWS Group, Inc. (together with its subsidiaries, “we,” “us,” “SWS” or the “company”) is engaged in full-service securities brokerage and full-service commercial banking. During the nine-months ended March 25, 2011, 81% of our total revenues were generated by our full-service brokerage business and 19% of our revenues were generated by our commercial banking business. While brokerage and banking revenues are dependent upon trading volumes and interest rates, which may fluctuate significantly, a large portion of our expenses remain fixed. Consequently, net operating results can vary significantly from period to period.

Our business is also subject to substantial governmental regulation, and changes in legal, regulatory, accounting, tax and compliance requirements may have a substantial impact on our business and results of operations. We also face substantial competition in each of our lines of business. See“Forward-Looking Statements” and“Risk Factors” in our Form 10-K filed with the Securities and Exchange Commission (“SEC”) on August 31, 2010.

We operate through four segments grouped primarily by products, services and customer base: clearing, retail, institutional and banking.

Clearing. We provide clearing and execution services for other broker/dealers (predominantly on a fully disclosed basis). Our clientele includes general securities broker/dealers and firms specializing in high volume trading. We currently support a wide range of clearing clients, including discount and full-service brokerage firms, direct access firms, registered investment advisors and institutional firms. In addition to clearing trades, we tailor our services to meet the specific business needs of our clearing clients (“correspondents”) and offer such products and services as recordkeeping, trade reporting, accounting, general back-office support, securities and margin lending, reorganization assistance and custody of securities.

Revenues in this segment are generated primarily through transaction charges to our correspondent firms for clearing their trades. Revenue is also earned from various fees and other processing charges as well as through net interest earnings on correspondent customer balances.

Retail.We offer retail securities products and services (equities, mutual funds and fixed income products), insurance products and managed accounts through the activities of our employee registered representatives and our independent contractors. As a securities broker, we extend margin credit on a secured basis to our retail customers in order to facilitate securities transactions. This segment generates revenue primarily through commissions charged on securities transactions, fees from managed accounts and the sale of insurance products as well as net interest income from retail customer balances.

Institutional.We serve institutional customers in the areas of securities borrowing and lending, public finance, municipal sales and underwriting, investment banking, fixed income sales and equity trading. Our securities lending business includes borrowing and lending securities for other broker/dealers, lending institutions, and our own clearing and retail operations. Our public finance and municipal sales and underwriting professionals assist public bodies in originating, syndicating and distributing securities of municipalities and political subdivisions. Our corporate finance professionals arrange and evaluate mergers and acquisitions, conduct private placements and participate in public offerings of securities with institutional and individual investors, assist clients with raising capital, and provide other consulting and advisory services.

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Our fixed income sales and trading group specializes in trading and underwriting U.S. government and agency bonds, corporate bonds, mortgage-backed, asset-backed and commercial mortgage-backed securities and structured products. The clients of our fixed income group include corporations, insurance companies, banks, mutual funds, money managers and other institutions. Our equity trading department focuses on providing best execution for equity and option orders for clients. We also execute institutional portfolio trades and are a market maker in a limited number of listed securities.

Revenues in the institutional segment are derived from the net interest spread on stock loan transactions, commission and trading income from fixed income and equity products and investment banking fees from corporate and municipal securities transactions.

Banking.We offer traditional banking products and services subject to limitations in the Order to Cease and Desist, Order No. WN-11-003, effective on February 4, 2011 (the “Order”). We specialize in two primary areas, business banking and mortgage purchase. Our focus in business banking includes small business lending. We originate the majority of our loans internally and we believe this business model helps us build more valuable relationships with our customers. Our mortgage purchase division purchases participations in newly originated residential loans from various mortgage bankers nationwide. Southwest Securities, FSB (the “Bank”) earns substantially all of its revenues on the spread between the rates charged to customers on loans and the rates paid to depositors.

The “other” category includes SWS Group, Inc. (“SWS Group”), corporate administration and SWS Capital Corporation. SWS Capital Corporation is a dormant entity. SWS Group is a holding company that owns various investments, including common stock of U.S. Home Systems, Inc. (“USHS”).

Business Environment

Our business is sensitive to financial market conditions, which have been volatile over the past three years. As of March 25, 2011, equity market indices reflected an average increase from a year ago with the Dow Jones Industrial Average (the “DJIA”) up 13%, the Standard & Poor’s 500 Index (“S&P 500”) up 13% and the NASDAQ Composite Index (“NASDAQ”) up 15%. The DJIA closed at 12,220.59 on March 25, 2011 up from 10,850.36 at March 26, 2010 and 10,143.81 at June 25, 2010. On the other hand, the average daily volume on the NYSE declined during the third quarter of our fiscal 2011, decreasing 6% over the same period of our last fiscal year and 12% for the first nine-months of fiscal 2011 compared to fiscal 2010.

Despite the current positive direction in the equity markets, the volumes in the markets and economic and regulatory uncertainty have created a challenging operating environment for us. The national unemployment rate, which was approximately 8.8% at the end of March 2011, is down from a high of 10% at the end of December 2009 but remains at historically high levels. The Federal Reserve Board (“FRB”) reduced the federal funds target rate to 0 - 0.25% on December 16, 2008 and has not yet begun increasing rates. Many economists do not expect the federal funds rate to increase significantly during the remainder of 2011.

The disruptions and developments in the general economy and the credit markets over the past three years have resulted in a range of actions by U.S. and foreign governments to attempt to bring liquidity and order to the financial markets and to prevent a long recession in the world economy. For more details regarding some of the actions taken by U.S. and foreign governments, see the discussion under the caption “Item 1. Business-Regulation” contained in our Form 10-K filed with the SEC on August 31, 2010 and “Recent Regulatory Changes”.

While economists believe the recession ended in June 2009, unemployment and tight credit markets continue to create a fragile economic environment, and there is no guarantee that conditions will not worsen again. Texas, which was largely insulated from severe job loss and real estate market deterioration at the start of the recession, has now experienced distress in residential and commercial real estate values as well as elevated unemployment. These factors have had a negative impact on our banking and brokerage operations.

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Impact of Economic Environment

Brokerage.On the brokerage side of the business, volatility in the credit and mortgage markets, low interest rates and reduced volume in the stock markets continue to have an adverse impact on several aspects of our business, including depressed net interest margins, reduced liquidity and lower securities valuations.

Net Interest Margins

Historically, the profitability of the brokerage business has been dependent upon net interest income. We earn net interest income on the spread between the rates earned and paid on customer and correspondent balances as well as from our securities lending business. With interest rates at historically low levels, the spread we are able to earn is depressed, primarily from the extremely low yields on our assets segregated for regulatory purposes portfolio. Additionally, the spread in our securities lending business has declined. Lastly, because the yields on money market funds have declined significantly, revenue sharing arrangements with our primary money market fund sweep providers have been substantially reduced. We do not expect any significant changes in these dynamics until short-term interest rates begin to rise.

We have taken actions to mitigate the impact of the margin contraction by renegotiating arrangements with our clearing customers, changing the mix of our assets segregated for regulatory purposes and developing new business in our securities lending portfolio. Despite these actions, profits from net interest remain depressed.

We have also implemented a new FDIC sweep product that will eventually allow our brokerage customers the ability to obtain additional FDIC insurance coverage for pending investment funds in their accounts. This product will contribute to increased revenue sharing as interest rates increase.

Liquidity

Dislocation in the credit markets has led to increased liquidity risk. All but $45.0 million of our borrowing arrangements are uncommitted lines of credit and, as such, can be reduced or eliminated at any time by the banks extending the credit. While we have not experienced any reductions in our uncommitted borrowing capacity, our lenders have taken actions that indicate their concerns regarding liquidity in the marketplace. These actions have included reduced advance rates for certain security types, more stringent requirements for collateral eligibility and higher interest rates. All of these actions have had a negative impact on our liquidity. Should our lenders take additional similar actions, the cost of conducting our business will increase and our volume of business could be limited. To address this liquidity risk, we entered into a committed credit facility with a national bank that provides for up to $45 million of secured borrowings. As of March 25, 2011, we had borrowed $45.0 million under this facility.

The volatility in the U.S. stock markets is also impacting our liquidity through increased margin requirements at our clearing houses. These margin requirements are determined through a combination of risk factors including volume of business and volatility in the U.S. stock markets. To the extent we are required to post cash or other collateral to meet these requirements, we will have less borrowing capacity to finance our other businesses.

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Valuation of Securities

We trade mortgage and asset-backed securities on a regular basis. We monitor our trading limits daily to ensure that these securities are maintained at levels we consider to be prudent given current market conditions. These securities are priced using a third-party pricing service and we review the price monthly to ensure reasonable valuation. At March 25, 2011, we held mortgage and asset-backed securities of approximately $52.8 million included in securities owned, at market value on the consolidated statements of financial condition.

Investment in Auction Rate Securities

At March 25, 2011, we held $22.3 million of auction rate municipal bonds which represented one security and 19.0% of our municipal portfolio. This security is an investment grade credit, was valued at 95.7% of par as of March 25, 2011 and was yielding less than 1% per year for the period. While management does not expect any reduction in the cash flow from this bond, the disruption in the credit markets has led to auction failures. We currently have the ability to hold this investment until maturity. While we expect the issuer of this bond to refinance its debt when LIBOR interest rates rise, there can be no certainty that this refinancing will occur. We believe valuation of this bond at 95.7% of par at March 25, 2011 reflects an appropriate discount for the current lack of liquidity in this investment.

Our customers also own $2.6 million in auction rate bonds as well as approximately $5.5 million in auction rate preferred securities. We did not actively market these securities to our customers or classify them as cash equivalents on our statements to our customers. We do not underwrite auction rate securities or serve as the remarketing agent for any of these securities.

Bank.The banking environment remains challenging and continues to have a negative impact on the Bank’s earnings. Asset quality at the Bank, while not declining as rapidly as a year ago, remains at unacceptable levels. Primarily due to these asset quality issues, the Bank signed the Order on February 4, 2011.

Classified assets were $255.3 million at March 31, 2011 compared to $273.4 million at December 31, 2010 and $191.8 million at June 30, 2010. Classified assets as a percentage of total capital plus the allowance for loan losses was 132.7% at March 31, 2011 versus a target ratio of 40%. Non-performing assets (a subset of classified assets) were $104.6 million, or 7.6% of the Bank’s assets, at March 31, 2011 compared to $103.0 million, or 6.7% of the Bank’s assets, at December 31, 2010 and $93.4 million, or 5.3% of the Bank’s assets, at June 30, 2010. The Bank’s Texas Ratio, defined as non-performing assets divided by the sum of capital plus the allowance for loan losses, was 54.1% at March 31, 2011, 51.2% at December 31, 2010 and 39.4% at March 31, 2010.

The loan loss allowance at March 31, 2011 was $47.3 million, or 4.93% of loans held for investment, as compared to $47.0 million, or 4.58% of loans held for investment, at December 31, 2010 and $35.1 million, or 2.96% of loans held for investment, at June 30, 2010.

Management has implemented strategies to address asset quality and the requirements of the Order. Specifically, management has implemented balance sheet reduction strategies by aggressively selling classified assets and reducing the size of the mortgage purchase loan portfolio. The liquidity provided by these actions has been carefully managed to allow reduction in the total balance sheet size while maintaining significant levels of balance sheet liquidity.

In the first quarter of fiscal 2011, the Bank engaged a consultant to assist with an international marketing campaign to sell $68.9 million in classified assets including performing loans, non-performing loans and real estate. The loans included in this marketing campaign were reclassified to held for sale in the first quarter of fiscal 2011, contributing $17.8 million to the provision for loan loss in the September 2010 quarter. Of these assets, $57.8 million have been sold and closed through the third quarter of fiscal 2011. These sales allowed the Bank to reduce its exposure to real estate loans, reduce the total portfolio of classified assets and reduce the overall size of the Bank’s balance sheet.

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In addition to the sale strategy noted above, the Bank has increased staffing in its special assets department with qualified professionals to aggressively address the reduction of classified assets. Management’s goal is to reduce the level of classified assets to capital from the current level of 132.7% to below 40%. The Bank is aggressively reviewing all available strategies to achieve this objective and expects that it will take several quarters to reach the 40% level.

The Bank is also diligently working to reduce its exposure in commercial real estate, residential construction and land development loans. As a result of establishing concentration guidelines in fiscal 2011, the Bank has been able to reduce its concentration levels.

During the third quarter of fiscal 2011, the Bank established an internal loan review department. This department along with external loan reviews assists management in the early identification of potential problem loans.

Recent Events

On March 20, 2011, we entered into an agreement with Hilltop Holdings, Inc. (“Hilltop”) and Oak Hill Capital Partners (“Oak Hill”). Pursuant to the agreement, and once all necessary regulatory and stockholder approvals are obtained, we will:

• obtain a $100.0 million, five year, unsecured loan from the investors;

• issue warrants to each investor allowing such investor to purchase up to 8,695,652 shares of our common stock at an exercise price of $5.75 per share (subject to anti-dilution adjustments), representing approximately 17% of the common stock of our company per warrant (assuming each investor exercises its warrant); and

• grant the investors certain rights, including certain registration rights, preemptive rights, and the right for each investor to appoint one person to our Board of Directors so long as such investor owns 9.9% or more of all of the outstanding shares of our common stock or securities convertible into at least 9.9% of our outstanding common stock.

We entered into this transaction to ensure that the broker/dealer business lines would operate smoothly in the future, the Bank would maintain adequate capital ratios under the Order, and the Bank could continue to reduce classified assets in a strategic and efficient manner.

Upon funding of the transaction, we will contribute $80.0 million of the proceeds of the term loan to the Bank unless otherwise agreed by each of the investors. The remaining $20.0 million will be held in reserve at SWS Group and will be deployed in the future for capital needs at the Bank or, subject to the consent of the investors, for other corporate purposes. The transaction is subject to various closing conditions, including stockholder and regulatory approvals, and there is no assurance the transaction will close.

Recent Regulatory Changes

We are subject to the extensive regulatory framework applicable to savings and loan holding companies as well as federal savings associations and insurance agencies. This regulatory framework is primarily intended for the protection of depositors, the Federal Deposit Insurance Fund (“DIF”), and the banking system as a whole, rather than for the protection of stockholders and creditors. The discussion below is intended to provide an update on material regulatory changes described in our 10-K filing on August 31, 2010 and the 10-Q filings on November 3, 2010 and February 9, 2010.

Federal statutes and Office of Thrift Supervision (“OTS”) regulations have established five capital categories for federal savings banks: well-capitalized, adequately capitalized, undercapitalized,

45

significantly undercapitalized, and critically undercapitalized. The federal banking agencies have jointly specified by regulation the relevant capital level for each category. An institution is defined as well-capitalized when its total risk-based capital ratio is at least 10.00%, its Tier I risk-based capital ratio is at least 6.00%, its Tier I (core) capital ratio is at least 5.00%, and it is not subject to any federal supervisory order or directive to meet a specific capital level. As of March 31, 2011, the Bank’s total risk-based capital ratio was 14.5%, its Tier I risk-based capital ratio was 13.3% and its Tier I (core) capital ratio was 9.6%.

On February 4, 2011, the Board of Directors of the Bank signed a Stipulation and Consent to Issuance of Order to Cease and Desist (the “Stipulation”) and the OTS issued the Order. Accordingly, as a result of the issuance of the Order, effective February 4, 2011, the Bank was deemed to be “adequately capitalized” and no longer met the definition of “well capitalized” under federal statutes and OTS regulations even though its capital ratios met or exceeded all applicable requirements under Federal law, OTS regulations and the Order. See additional discussion in “Cease and Desist Order with the Office of Thrift Supervision” in the Notes to the Consolidated Financial Statements contained in this report.

Events and Transactions

Several material events and transactions impacted our results of operations in the periods presented. A description of the transactions and the impact on our results are discussed below.

Increase in provision for loan losses.The provision for loan loss increased $16.5 million for the nine-months ended March 31, 2011 compared to the nine-months ended March 31, 2010. See discussion in “Overview—Business Environment—Impact of Economic Environment—Bank.”

Sale of 5,000,001 shares of our common stock.On October 16, 2009, we filed a shelf registration statement with the SEC providing for the sale of $150.0 million of securities. On December 9, 2009, we closed a public offering of 4,347,827 shares of common stock at a price of $11.50 per share. On December 16, 2009, the underwriters for the public offering exercised their option to purchase 652,174 additional shares of our common stock to cover over-allotments. We generated net proceeds, after deducting underwriting discounts and commissions, from the offerings of approximately $54.3 million. We invested $47.5 million of the net proceeds as a $20.0 million capital contribution to the Bank and a $27.5 million capital contribution to Southwest Securities. The remaining funds were used for general corporate purposes.

Write-off of $6.3 million for clearing.In the first quarter of fiscal 2010, we recorded a pre-tax loss of $6.3 million as a result of a clearing correspondent’s unauthorized short sale of more than 2 million shares of a stock. The short sale and the subsequent trades to cover the short position resulted in a $6.3 million receivable from the correspondent. We determined that collection of this receivable was doubtful and established an allowance for this receivable. The loss was recorded in other expenses on the consolidated statements of income and comprehensive income.

RESULTS OF OPERATIONS

Consolidated

Net loss for the three and nine-month periods ended March 25, 2011 was $2.1 million and $23.2 million, respectively, as compared to a net loss of $11.5 million and $2.6 million, respectively, for the three and nine-month periods ended March 26, 2010. The three and nine-month periods ended March 25, 2011 and March 26, 2010 contained 58 and 189 and 58 and 188 trading days, respectively.

Southwest Securities was a custodian for $28.1 billion and $26.7 billion in total customer assets at March 25, 2011 and March 26, 2010, respectively.

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The following is a summary of increases (decreases) in categories of net revenues and operating expenses for the three and nine-month periods ended March 25, 2011 compared to the three and nine-month periods ended March 26, 2010 (dollars in thousands):

	Three-Months Ended						Nine-Months Ended
	Amount			% Change			Amount			% Change
Net revenues:
Net revenues from clearing operations	$	329			13	%	$	233			3	%
Commissions		(2,300	)		(7	)		(9,969	)		(8	)
Net interest		(3,938	)		(16	)		(2,385	)		(3	)
Investment banking, advisory and administrative fees		(624	)		(8	)		5,354			20
Net gains on principal transactions		2,768			36			(1,865	)		(6	)
Other		(1,309	)		(23	)		(3,119	)		(18	)
	$	(5,074	)		(6	)%	$	(11,751	)		(4	)%
Operating expenses:
Commissions and other employee compensation	$	(191	)		—		$	(5,976	)		(3	)%
Occupancy, equipment and computer service costs		(232	)		(3	)		(376	)		(1	)
Communications		(116	)		(3	)		(114	)		(1	)
Floor brokerage and clearing organization charges		104			10			357			12
Advertising and promotional		(179	)		(20	)		(999	)		(33	)
Provision for loan loss		(20,273	)		(81	)		16,547			48
Other		915			10			8,835			28
	$	(19,972	)		(20	)%	$	18,274			6	%
Pre-tax income	$	14,898			81	%	$	(30,025	)		(688	)%

Net revenues decreased for the third quarter of fiscal 2011 by $5.1 million as compared to the same period of fiscal 2010. The largest components of the decrease were in commissions, other revenue and net interest revenue. The $2.3 million decrease in commissions was due primarily to a $1.0 million decrease in commissions in the institutional segment, primarily in the taxable fixed income business due to reduced market volatility, and a $1.3 million decrease in commissions in the retail segment due to the closing of a Private Client Group (“PCG”) office in December 2010 and reduced advisor count in PCG. The decrease in other revenue was due primarily to a decrease in the gains on our investment in a limited partnership venture capital fund. The decrease in net interest revenue was primarily due to a decrease in the average balance of total loans at the Bank as compared to the same quarter in the prior fiscal year. These decreases were partially offset by an increase in net gains on principal transactions of $2.8 million. This gain was primarily in the institutional segment and resulted from an increase in trading profits as the market traded up for the third quarter of fiscal 2011 when compared to the third quarter of fiscal 2010.

Net revenues decreased for the first nine-months of fiscal 2011 by $11.8 million as compared to the same period of fiscal 2010. The largest components of the decrease were in commissions, net gains on principal transactions, other revenue and net interest revenue. The $10.0 million decrease in commissions was due primarily to a $9.7 million decrease in commissions in the institutional segment, primarily in the taxable fixed income business, as a result of reduced market volatility. The decrease in net gains on principal transactions was driven primarily by a decrease in taxable fixed income gains due to reduced spreads compared to the first half of the prior fiscal year. The decrease in other revenue was primarily due to an increase in net losses on the sale of real estate owned (“REO”) property and loans held for sale offset by a gain on the sale of securities at the Bank.

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The decrease in net interest revenue was primarily due to a decrease in the average balance of loans held for investment at the Bank as compared to the same period in the prior fiscal year. These revenue declines were partially offset by a $5.4 million increase in investment banking and advisory fees. The increase in investment banking and advisory fees was due to an increase the number of deals closed in our public finance business unit, an increase in underwritings in the taxable fixed income business as well as an increase in fees generated from advisory services in our corporate finance business unit.

Operating expenses decreased $20.0 million for the three-months ended March 25, 2011 as compared to the same period of fiscal 2010 substantially all from reductions in the provision for loan loss. The decrease for the Bank’s loan loss provision is discussed in “Overview—Business Environment—Impact of Economic Environment—Bank.”

Operating expenses increased $18.3 million for the nine-months ended March 25, 2011 as compared to the same period of fiscal 2010. The largest increase was the provision for loan loss of $16.5 million and other expenses of $8.8 million partially offset by a decrease of $6.0 million in commission and other employee compensation and a $1.0 million decrease in advertising and promotional expenses. The increase for the Bank’s loan loss provision is discussed in “Overview—Business Environment—Impact of Economic Environment—Bank.” The increase in other expenses was due to a $9.7 million increase in the Bank’s REO write-downs and a $4.9 million increase in professional services and fees. In addition, in fiscal 2010, there was a one time $875,000 reversal of an accrual from the purchase of M.L. Stern & Co., LLC. These increases were offset by the $6.3 million loss incurred in the first quarter of fiscal 2010 on a correspondent’s short sale of securities. Commission and other employee compensation expense declined primarily due to a decrease in variable compensation and a decrease in deferred compensation expenses related to our restricted stock plan. The decrease in advertising and promotional expense was due to a decrease in travel and entertainment expenses.

Net Interest Income

We generate net interest income from our brokerage and banking segments. Net interest income from the brokerage segments is dependent upon the level of customer and stock loan balances as well as the spread between the rates we earn on those assets compared with the cost of funds. Net interest is the primary source of income for the Bank and represents the amount by which interest and fees generated by earning assets exceed the cost of funds. The Bank’s cost of funds consists primarily of interest paid to the Bank’s depositors on interest-bearing accounts and long-term borrowings with the Federal Home Loan Bank (“FHLB”). Net interest income from our brokerage and banking segment were as follows for the three and nine-month periods ended March 25, 2011 and March 26, 2010 (in thousands):

	Three-Months Ended				Nine-Months Ended
	March 25, 2011		March 26, 2010		March 25, 2011		March 26, 2010
Brokerage	$	5,814	$	5,826	$	19,665	$	19,069
Bank(1)		14,226		18,152		52,319		55,300
Net interest	$	20,040	$	23,978	$	71,984	$	74,369

⁽¹⁾ The net interest reported for the Bank is for the periods ended March 31, 2011 and 2010.

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Average balances of interest-earning assets and interest-bearing liabilities in our brokerage operations were as follows (in thousands):

	Three-Months Ended				Nine-Months Ended
	March 25, 2011		March 26, 2010		March 25, 2011		March 26, 2010
Daily average interest-earning assets:
Customer margin balances	$	228,000	$	175,000	$	212,000	$	165,000
Assets segregated for regulatory purposes		238,000		311,000		260,000		311,000
Stock borrowed		2,157,000		1,826,000		2,027,000		1,893,000
Daily average interest-bearing liabilities:
Customer funds on deposit, including short credits		342,000		386,000		351,000		383,000
Stock loaned		2,129,000		1,753,000		2,000,000		1,831,000

Net interest revenue generated by each segment is reviewed in detail in the segment analysis below.

Income Tax Benefit

For the three-months ended March 25, 2011, income tax benefit (effective rate of 36.9%) differed from the amount that would have otherwise been calculated by applying the federal corporate tax rate (35.0%) to income before income taxes due to state income taxes and other permanently excluded items, such as tax exempt interest, meals and entertainment and increases in the value of company-owned life insurance.

For the nine-months ended March 25, 2011, income tax benefit (effective rate of 32.5%) differed from the amount that would have otherwise been calculated by applying the federal corporate tax rate (35.0%) to loss before income taxes due to state income taxes and other permanently excluded items, such as tax exempt interest, meals and entertainment, increases in the value of company-owned life insurance and the valuation allowance.

Certain deferred tax assets are derived from capital losses, which depend on having sufficient capital gain income within the carry-back and carry-forward period available under the tax law. Our deferred tax assets include $844,000 which reflects the benefit of capital losses associated with our investments in certain partnership assets. In the first quarter of fiscal 2011, we established a valuation allowance in the amount of $844,000. We did not believe it was more likely than not that sufficient capital gain income would be generated to offset these capital losses. See additional discussion in“Income Taxes” in the Notes to the Consolidated Financial Statements contained in this report.

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Segment Information

The following is a summary of net revenues and pre-tax income (loss) by segment for the three and nine-months ended March 25, 2011 as compared to the three and nine-months ended March 26, 2010 (dollars in thousands):

	Three-Months Ended
	March 25, 2011			March 26, 2010			Increase/ (Decrease)			% Change
Net revenues:
Clearing	$	5,279		$	4,925		$	354			7	%
Retail		25,596			27,278			(1,682	)		(6	)
Institutional		32,791			32,602			189			1
Banking		13,871			17,730			(3,859	)		(22	)
Other		390			466			(76	)		(16	)
Total	$	77,927		$	83,001		$	(5,074	)		(6	)%
Pre-tax income (loss):
Clearing	$	(44	)	$	96		$	(140	)		>(100	)%
Retail		(650	)		(966	)		316			33
Institutional		9,521			9,534			(13	)		—
Banking		(3,753	)		(20,122	)		16,369			81
Other		(8,475	)		(6,841	)		(1,634	)		(24	)
Total	$	(3,401	)	$	(18,299	)	$	14,898			81	%

	Nine-Months Ended
	March 25, 2011			March 26, 2010			Increase/ (Decrease)			% Change
Net revenues:
Clearing	$	16,101		$	15,347		$	754			5	%
Retail		83,221			82,627			594			1
Institutional		113,652			122,136			(8,484	)		(7	)
Banking		51,044			55,788			(4,744	)		(9	)
Other		1,862			1,733			129			7
Total	$	265,880		$	277,631		$	(11,751	)		(4	)%
Pre-tax income (loss):
Clearing	$	788		$	(5,897	)	$	6,685			>100	%
Retail		1,191			(672	)		1,863			>100
Institutional		37,443			41,784			(4,341	)		(10	)
Banking		(47,514	)		(14,182	)		(33,332	)		>(100	)
Other		(26,300	)		(25,400	)		(900	)		(4	)
Total	$	(34,392	)	$	(4,367	)	$	(30,025	)		>(100	)%

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Clearing

Three-months Ended:

The following is a summary of the results for the clearing segment for the three-months ended March 25, 2011 as compared to the three-months ended March 26, 2010 (dollars in thousands):

	Three-Months Ended
	March 25, 2011			March 26, 2010		Increase/ (Decrease)			% Change
Net revenue from clearing services	$	2,805		$	2,475	$	330			13	%
Net interest		1,441			1,386		55			4
Other		1,033			1,064		(31	)		(3	)
Net revenues		5,279			4,925		354			7
Operating expenses		5,323			4,829		494			10
Pre-tax income (loss)	$	(44	)	$	96	$	(140	)		>(100	)%
Daily average customer margin balance	$	114,000		$	97,000	$	17,000			18	%
Daily average customer funds on deposit	$	186,000		$	222,000	$	(36,000	)		(16	)%

Total correspondent clearing customer assets under custody were $14.5 billion and $13.5 billion at March 25, 2011 and March 26, 2010, respectively.

The following table reflects the number of client transactions processed for the three-months ended March 25, 2011 and March 26, 2010 and the number of correspondents at the end of each period.

	Three-Months Ended
	March 25, 2011		March 26, 2010
Tickets for high-volume trading firms		420,784		252,360
Tickets for general securities broker/dealers		207,394		225,609
Total tickets		628,178		477,969
Correspondents		165		183

For the three-months ended March 25, 2011 as compared to the three-months ended March 26, 2010, tickets processed for high-volume trading firms increased 67% while tickets processed for general securities broker/dealers decreased by 8%. In addition, revenue per ticket decreased approximately 14% from $5.18 for the third quarter of fiscal 2010 to $4.47 for the third quarter of fiscal 2011. The increase in tickets processed for high-volume trading firms offset by the slight decrease in tickets for general securities broker/dealers led to a 13% increase in clearing fee revenue.

Other revenue, which includes fees from money market funds, decreased 3% for the three-months ended March 25, 2011 as compared to the same period last fiscal year. This decrease was due to a 12% decrease in the administrative fee income earned by the clearing segment from the money market providers. This fee income decreased due to a decrease in the average amount invested in money market funds as well as an increase in fee waivers from the money market providers.

Operating expenses increased for the three-months ended March 25, 2011 as compared to the same period last fiscal year primarily due to a $120,000 increase in occupancy, equipment and computer service costs, in particular software licenses, and a $280,000 increase in other expenses. The increase in software licenses was due to the Company’s expenses incurred to develop a new investor web product for our correspondent clients. The increase in other expense was due to an increase in

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operations and information technology expenses of $384,000, partially offset by a decrease in legal expenses of $117,000.

Nine-months Ended:

The following is a summary of the results for the clearing segment for the nine-months ended March 25, 2011 as compared to the nine-months ended March 26, 2010 (dollars in thousands):

	Nine-Months Ended
	March 25, 2011		March 26, 2010			Increase/ (Decrease)			% Change
Net revenue from clearing services	$	8,064	$	7,830		$	234			3	%
Net interest		4,415		4,327			88			2
Other		3,622		3,190			432			14
Net revenues		16,101		15,347			754			5
Operating expenses		15,313		21,244			(5,931	)		(28	)
Pre-tax income (loss)	$	788	$	(5,897	)	$	6,685			>100	%
Daily average customer margin balance	$	112,000	$	95,000		$	17,000			18	%
Daily average customer funds on deposit	$	202,000	$	223,000		$	(21,000	)		(9	)%

The following table reflects the number of client transactions processed for the nine-months ended March 25, 2011 and March 26, 2010.

	Nine-Months Ended
	March 25, 2011		March 26, 2010
Tickets for high-volume trading firms		1,231,505		1,036,849
Tickets for general securities broker/dealers		648,267		695,228
Total tickets		1,879,772		1,732,077

For the nine-months ended March 25, 2011 as compared to the nine-months ended March 26, 2010, tickets processed for high-volume trading firms increased 19% while tickets processed for general securities broker/dealers decreased by 7%. In addition, revenue per ticket decreased approximately 5% from $4.52 for the nine-months ended March 26, 2010 to $4.29 for the nine-months ended March 25, 2011.

Other revenue, which includes fees from money market funds, increased 14% for the nine-months ended March 25, 2011 as compared to the same period last fiscal year. This improvement was due to a 15% increase in the administrative fee income earned by the clearing segment from the money market providers on higher revenue sharing with various money market funds.

Operating expenses decreased $5.9 million for the nine-months ended March 25, 2011 as compared to the same period last fiscal year. This decrease was primarily related to other expenses which included a $6.3 million loss incurred on a correspondent’s short sale of securities in the first quarter of fiscal 2010 as well as a decrease in legal expenses of $704,000. These decreases were partially offset by an increase in operations and information technology expenses of $747,000 and an increase in professional services of $142,000 from the nine-months ended March 26, 2010.

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Retail

Three-months Ended:

The following is a summary of the results for the retail segment for the three-months ended March 25, 2011 as compared to the three-months ended March 26, 2010 (dollars in thousands):

	Three-Months Ended
	March 25, 2011			March 26, 2010			% Change
PCG
Commissions	$	12,259		$	14,290			(14	)%
Advisory fees		1,275			1,316			(3	)
Insurance products		728			1,488			(51	)
Other		89			103			(14	)
Net interest revenue		458			552			(17	)
		14,809			17,749			(17	)
Independent registered representatives (“SWS Financial”)
Commissions		6,697			6,026			11
Advisory fees		731			622			18
Insurance products		1,850			1,470			26
Other		269			217			24
Net interest revenue		210			203			3
		9,757			8,538			14
Other
Commissions		104			60			73
Advisory fees		614			599			3
Insurance products		282			276			2
Other		30			56			(46	)
Net interest revenue		—			—			—
		1,030			991			4
Total net revenues		25,596			27,278			(6	)
Operating expenses		26,246			28,244			(7	)
Pre-tax income (loss)	$	(650	)	$	(966	)		33	%
Daily average customer margin balances	$	82,000		$	65,000			26	%
Daily average customer funds on deposit	$	86,000		$	120,000			(28	)%
PCG representatives		175			207			(15	)%
SWS Financial representatives		303			308			(2	)%

Net revenues in the retail segment decreased 6% for the three-months ended March 25, 2011 as compared to the same period last fiscal year due primarily to a decrease in commission revenue from closing one PCG office during the December 2010 quarter and a 15% decrease in the number of PCG representatives. This decline was partially offset by an increase in commission revenue in the independent registered representative sales force. Total customer assets were $12.3 billion at March 25, 2011 as compared to $13.2 billon at March 26, 2010. Assets under management were $669 million at March 25, 2011 as compared to $564 million at March 26, 2010.

Operating expenses decreased 7% for the three-months ended March 25, 2011 as compared to the same period last fiscal year. This decrease was primarily due to an 8% decrease in commission and other employee compensation expense, the primary component of operating expenses in the retail segment.

53

Nine-months Ended:

The following is a summary of the results for the retail segment for the nine-months ended March 25, 2011 as compared to the nine-months ended March 26, 2010 (dollars in thousands):

	Nine-Months Ended
	March 25, 2011		March 26, 2010			% Change
PCG
Commissions	$	40,421	$	44,169			(8	)%
Advisory fees		3,925		4,025			(2	)
Insurance products		2,785		3,789			(26	)
Other		271		119			>100
Net interest revenue		1,600		1,628			(2	)
		49,002		53,730			(9	)
Independent registered representatives
Commissions		22,028		18,666			18
Advisory fees		2,232		1,724			29
Insurance products		5,482		4,463			23
Other		822		636			29
Net interest revenue		623		573			9
		31,187		26,062			20
Other
Commissions		289		158			83
Advisory fees		1,748		1,655			6
Insurance products		866		855			1
Other		129		170			(24	)
Net interest revenue		—		(3	)		—
		3,032		2,835			7
Total net revenues		83,221		82,627			1
Operating expenses		82,030		83,299			(2	)
Pre-tax income (loss)	$	1,191	$	(672	)		>100	%
Daily average customer margin balances	$	79,000	$	59,000			34	%
Daily average customer funds on deposit	$	98,000	$	127,000			(23	)%

Net revenues in the retail segment increased 1% for the nine-months ended March 25, 2011 as compared to the same period last fiscal year due to an increase in management advisory fee income of $501,000 and other revenue of $297,000, partially offset by a decrease in commission revenue of $255,000. The increase in other revenue was primarily due to a decrease in the fees paid on opening new accounts. PCG commission revenues decreased due primarily to the closing of one PCG office during the December 2010 quarter and a 15% decrease in the number of PCG representatives.

Operating expenses decreased 2% for the nine-months ended March 25, 2011 as compared to the same period last fiscal year. This decrease was primarily due to a $267,000 decrease in commission and employee compensation expense, the primary component of operating expenses in the retail segment, a $258,000 decrease in occupancy, equipment and computer service costs, a $423,000 decrease in communication expenses and a $255,000 decrease in advertising and promotional expenses.

54

Institutional

Three-months Ended:

The following is a summary of the results for the institutional segment for the three-months ended March 25, 2011 as compared to the three-months ended March 26, 2010 (dollars in thousands):

	Three-Months Ended
	March 25, 2011		March 26, 2010		% Change
Commissions
Taxable fixed income	$	6,871	$	7,655		(10	)%
Municipal distribution		3,270		3,231		1
Portfolio trading		3,647		3,906		(7	)
Other		8		5		60
		13,796		14,797		(7	)
Investment banking fees		4,781		5,429		(12	)
Net gains on principal transactions		10,751		8,340		29
Other		100		236		(58	)
Net interest revenue
Stock loan		1,984		3,158		(37)
Other		1,379		642		115
Total		32,791		32,602		1
Operating expenses		23,270		23,068		1
Pre-tax income	$	9,521	$	9,534		—	%
Taxable fixed income representatives		33		31		6	%
Municipal distribution representatives		24		24		—	%

Average balances of interest-earning assets and interest-bearing liabilities for the three-months ended March 25, 2011 as compared to the three-months ended March 26, 2010 were as follows (in thousands):

	Three-Months Ended
	March 25, 2011		March 26, 2010
Daily average interest-earning assets:
Stock borrowed	$	2,157,000	$	1,826,000
Daily average interest-bearing liabilities:
Stock loaned		2,129,000		1,753,000

The following table sets forth the number and aggregate dollar amount of new municipal bond underwritings conducted by Southwest Securities, as reported to the Municipal Securities Rulemaking Board, for the three-month periods ended March 25, 2011 and March 26, 2010:

	Three-Months Ended
	March 25, 2011		March 26, 2010
Number of Issues		72		150
Aggregate Amount of Offerings	$	5,076,406,000	$	9,910,318,000

Net revenues from the institutional segment increased 1% in the three-months ended March 25, 2011 as compared to the three-months ended March 26, 2010, while pre-tax income was even when comparing the same periods. Decreased commissions of $1.0 million was due to tighter spreads and reduced volatility primarily in taxable fixed income.

55

Investment banking fees were down 12% in the three-months ended March 25, 2011 as compared to the same period in the last fiscal year. Corporate finance represented $1.1 million of this decrease while public finance was down $265,000 as a result of fewer transactions year-over-year. These decreases were partially offset by a $765,000 increase in taxable fixed income fees due to increased underwriting activity.

Net gains on principal transactions were up 29% in the three-months ended March 25, 2011 as compared to the same period last fiscal year. Municipal distribution represented $1.4 million and taxable fixed income represented $1.1 million of the increase. These increases were due to higher trading profits as the securities markets traded up for the third quarter of fiscal 2011 when compared to the third quarter of fiscal 2010.

In the three-months ended March 25, 2011, net interest revenue in the institutional segment decreased 12% over the same period of last fiscal year. The decrease was due to a 28 basis point decline in the average stock lending spread. This decrease was partially offset by an increase in interest earned in our taxable and non-taxable inventories of $964,000.

Operating expenses were up 1% for the three-months ended March 25, 2011 as compared to the same period last fiscal year primarily due to increased commissions and other employee compensation expense related to the increased operating revenues.

Nine-months Ended:

The following is a summary of the results for the institutional segment for the nine-months ended March 25, 2011 as compared to the nine-months ended March 26, 2010 (dollars in thousands):

	Nine-Months Ended
	March 25, 2011		March 26, 2010		% Change
Commissions
Taxable fixed income	$	25,477	$	34,921		(27	)%
Municipal distribution		11,673		11,787		(1	)
Portfolio trading		9,976		10,157		(2	)
Other		16		14		14
		47,142		56,879		(17	)
Investment banking fees		23,612		18,951		25
Net gains on principal transactions		30,176		32,786		(8	)
Other		453		772		(41	)
Net interest revenue
Stock loan		8,631		11,461		(25	)
Other		3,638		1,287		>100
Total		113,652		122,136		(7	)
Operating expenses		76,209		80,352		(5)
Pre-tax income	$	37,443	$	41,784		(10	)%

56

Average balances of interest-earning assets and interest-bearing liabilities for the nine-months ended March 25, 2011 as compared to the nine-months ended March 26, 2010 were as follows (in thousands):

	Nine-Months Ended
	March 25, 2011		March 26, 2010
Daily average interest-earning assets:
Stock borrowed	$	2,027,000	$	1,893,000
Daily average interest-bearing liabilities:
Stock loaned		2,000,000		1,831,000

The following table sets forth the number and aggregate dollar amount of new municipal bond underwritings conducted by Southwest Securities, as reported to the Municipal Securities Rulemaking Board, for the nine-month periods ended March 25, 2011 and March 26, 2010:

	Nine-Months Ended
	March 25, 2011		March 26, 2010
Number of Issues		444		446
Aggregate Amount of Offerings	$	40,093,950,000	$	49,321,645,000

Net revenues from the institutional segment decreased 7% while pre-tax income was down 10% in the nine-months ended March 25, 2011 as compared to the nine-months ended March 26, 2010. Tighter spreads and reduced volatility, primarily in taxable fixed income, led to a $9.7 million decline in commission revenue.

Investment banking fees were up 25% in the nine-months ended March 25, 2011 as compared to the same period in the last fiscal year. Public finance represented $2.2 million of this increase while corporate finance represented $1.1 million of the increase and taxable fixed income contributed $1.8 million to the increase due to increased underwriting activity. The increase in public finance and corporate finance was due to an increase in the number of transactions in the nine-months ended March 2011 as compared to the nine-months ended March 2010.

Net gains on principal transactions were down 8% in the nine-months ended March 25, 2011 as compared to the same period last fiscal year. Taxable fixed income represented $2.1 million of this decrease.

In the nine-months ended March 25, 2011, net interest revenue in the institutional segment was down 4% over the same period of the last fiscal year. The decrease was due to a 21 basis point decline in the average stock lending spread. This decrease was partially offset by an increase in interest earned in our taxable and tax exempt inventories of $2.8 million.

Operating expenses were down 5% for the nine-months ended March 25, 2011 as compared to the same period last fiscal year, primarily due to decreases in commissions and other employee compensation on lower net revenues.

57

Banking

Three-months Ended:

The following is a summary of the results for the banking segment for the three-months ended March 31, 2011 and as compared to the three-months ended March 31, 2010 (dollars in thousands):

	Three-Months Ended
	March 31, 2011			March 31, 2010			% Change
Net interest revenue	$	14,226		$	18,152			(22	)%
Other		(355	)		(422	)		16
Total net revenues		13,871			17,730			(22	)
Operating expenses		17,624			37,852			(53)
Pre-tax loss		$(3,753)			$(20,122)			81%

Net interest revenue generated by the Bank accounted for approximately 18.3% of our consolidated net revenue for the three-months ended March 31, 2011 and 21.9% for the three-months ended March 31, 2010. The decrease in net interest revenue at the Bank for the three-months ended March 31, 2011 was due primarily to a 22% decrease in the average balance of loans held for investment and sale at March 31, 2011 as compared to March 31, 2010, as well as a decrease in the net yield on earning assets of 40 basis points. Other revenue for the Bank increased 16% for the three-months ended March 31, 2011 as compared to the same period last fiscal year. This increase was primarily due to a $493,000 increase in the gains earned on our limited partnership equity fund investment and a $61,000 increase in gains on the sale of securities, partially offset by a $169,000 loss on loans held for sale as well as a $317,000 decrease in gains on the sale of Small Business Administration (“SBA”) loans.

The Bank’s operating expenses were down 53% for the three-months ended March 31, 2011 as compared to the same period last fiscal year. This decrease was due primarily to a $20.3 million decrease in the Bank’s loan loss provision. The decrease in the Bank’s loan loss provision was due to some stability in the rate of decline of commercial real-estate values and a reduction in size of the Bank’s loan portfolio. The allowance computation is discussed in detail in “Loans and Allowance for Probable Loan Loss” below. The earnings at the Bank are expected to be volatile as we continue to manage the level of classified assets and as a result of the operating restrictions set forth in the Order.

The following table sets forth an analysis of the Bank’s net interest income by each major category of interest-earning assets and interest-bearing liabilities for the three-month periods ended March 31, 2011 and 2010 (dollars in thousands):

	Three-Months Ended
	March 31, 2011							March 31, 2010
	Average Balance		Interest Income/ Expense (*)		Yield/ Rate			Average Balance		Interest Income/ Expense (*)		Yield/ Rate
Assets:
Interest-earning assets:
Loans:
Residential – mortgage	$	213,051	$	3,384		6.4	%	$	362,219	$	5,984		6.7	%
Residential – construction		46,529		720		6.3			105,883		1,313		5.0
Commercial – real estate		551,159		7,709		5.7			621,129		8,420		5.5
Commercial – loans		195,500		2,628		5.5			173,752		2,517		5.9
Individual		3,953		62		6.4			4,544		83		7.4
Land		80,435		1,011		5.1			135,887		1,628		4.9
Money market		1,097		—		—			88,867		15		0.1
Federal funds sold		2,441		1		0.2			16,128		4		0.1
Interest bearing deposits in banks		2,140		—		—			5,806		—		—
Federal reserve funds		281,527		151		0.2			49,115		13		0.1
Investments – other		8,846		15		0.7	%		47,198		280		2.4	%
		1,386,678	$	15,681		4.6	%		1,610,528	$	20,257		5.1	%
Non-interest-earning assets:
Cash and due from banks		1,979							6,776
Other assets		32,317							59,046
	$	1,420,974						$	1,676,350

58

	Three-Months Ended
	March 31, 2011								March 31, 2010
	Average Balance			Interest Income/ Expense (*)		Yield/ Rate			Average Balance		Interest Income/ Expense (*)		Yield/ Rate
Liabilities and Stockholders’ Equity:
Interest-bearing liabilities:
Certificates of deposit	$	55,665		$	179		1.3	%	$	70,406	$	293		1.7	%
Money market accounts		29,196			4		0.1			40,187		14		0.1
Interest-bearing demand accounts		10,646			2		0.1			92,301		35		0.2
Savings accounts		998,935			123		0.1			1,128,346		454		0.2
Federal Home Loan Bank advances		99,381			1,147		4.7			110,958		1,309		4.8
Other financed borrowings		2,933			—		—			28		—		—
		1,196,756			1,455		0.5	%		1,442,226		2,105		0.6	%
Non-interest-bearing liabilities:
Non interest-bearing demand accounts		76,344								63,810
Other liabilities		(2,087	)							5,380
		1,271,013								1,511,416
Stockholders’ equity		149,961								164,934
	$	1,420,974							$	1,676,350
Net interest income				$	14,226						$	18,152
Net yield on interest-earning assets							4.2	%						4.6	%

(*) Loan fees included in interest income for the three-months ended March 31, 2011 and 2010 were $951 and $1,079, respectively.

Interest rate trends, changes in the U.S. economy, competition and the scheduled maturities and interest rate sensitivity of the loan portfolios and deposits affect the spreads earned by the Bank.

The following table sets forth a summary of the changes in the Bank’s interest earned and interest paid resulting from changes in volume and rate (in thousands):

	Three-Months Ended
	March 31, 2011 as compared to March 31, 2010
	Total Change			Attributed to
				Volume			Rate			Mix
Interest income:
Loans:
Real estate - mortgage	$	(2,600	)	$	(2,464	)	$	(231	)	$	95
Real estate - construction		(593	)		(736	)		324			(181	)
Commercial - real estate		(711	)		(948	)		267			(30	)
Commercial - loans		111			315			(181	)		(23	)
Individual		(21	)		(11	)		(12	)		2
Land		(617	)		(665	)		81			(33	)
Money markets		(15	)		(15	)		23			(23	)
Federal funds sold		(3	)		(3	)		1			(1	)
Federal reserve funds		138			61			14			63
Investments - other		(265	)		(257	)		(131	)		123
	$	(4,576	)	$	(4,723	)	$	155		$	(8	)

59

	Three-Months Ended
	March 31, 2011 as compared to March 31, 2010
	Total Change			Attributed to
				Volume			Rate			Mix
Interest expense:
Certificates of deposit	$	(114	)	$	(62	)	$	(66	)	$	14
Money market accounts		(10	)		(4	)		(9	)		3
Interest-bearing demand accounts		(33	)		(30	)		(21	)		18
Savings accounts		(331	)		(52	)		(315	)		36
Federal Home Loan Bank advances		(162	)		(137	)		(28	)		3
		(650	)		(285	)		(439	)		74
Net interest income		$(3,926)			$(4,438)			$594			$(82)

Nine-months Ended:

The following is a summary of the results for the banking segment for the nine-months ended March 31, 2011 and as compared to the nine-months ended March 31, 2010 (dollars in thousands):

	Nine-Months Ended
	March 31, 2011			March 31, 2010		% Change
Net interest revenue	$	52,319		$	55,300		(5	)%
Other		(1,275	)	��	488		>(100	)
Total net revenues		51,044			55,788		(9	)
Operating expenses		98,558			69,970		41
Pre-tax loss		$(47,514)			$(14,182)		>(100	)%

For the nine-months ended March 31, 2011 as compared to the nine-months ended March 31, 2010, the Bank’s net revenues decreased 9%. The Bank posted a pre-tax loss of $47.5 million for the nine-months ended March 31, 2011, up from a $14.2 million pre-tax loss reported in the same period of the last fiscal year.

The decrease in net interest revenue at the Bank was due primarily to a decrease in the net yield on earning assets from 4.7% at March 31, 2010 to 4.4% at March 31, 2011. Other revenue for the Bank decreased more than 100% for the nine-months ended March 31, 2011 as compared to the same period last fiscal year. This decrease was primarily due to a $1.5 million increase in net losses on the sale of REO property, a $1.1 million increase on the loss of loans held for sale and a $401,000 decrease in gains on the sale of SBA loans. These decreases were partially offset by a $1.2 million gain on the sale of securities.

The Bank’s operating expenses were up 41% for the nine-months ended March 31, 2011 over the same period last fiscal year. This increase was due primarily to a $16.5 million increase in the Bank’s loan loss provision, a $9.7 million increase in the Bank’s REO write-downs, a $1.4 million increase in outside loan and real-estate related services and fees, a $544,000 increase in legal fees, and a $507,000 increase in fee assessments from regulatory agencies. The increase in the Bank’s loan loss provision was due to continued deterioration in the real estate market and the Bank’s commercial real estate loan portfolio as well as the continuing uncertainty in the U.S. economy. The allowance computation is discussed in detail in “Loans and Allowance for Probable Loan Loss” below.

60

The following table sets forth an analysis of the Bank’s net interest income by each major category of interest-earning assets and interest-bearing liabilities for the nine-month periods ended March 31, 2011 and 2010 (dollars in thousands):

	Nine-Months Ended
	March 31, 2011							March 31, 2010
	Average Balance		Interest Income/ Expense (*)		Yield/ Rate			Average Balance		Interest Income/ Expense(*)		Yield/ Rate
Assets:
Interest-earning assets:
Loans:
Residential – mortgage	$	359,407	$	16,797		6.2	%	$	365,465	$	18,833		6.9	%
Residential – construction		60,935		2,705		5.9			121,307		4,629		5.1
Commercial – real estate		599,615		24,454		5.4			607,232		25,236		5.5
Commercial – loans		201,903		8,306		5.5			159,986		7,007		5.8
Individual		4,250		221		6.9			4,608		255		7.4
Land		98,622		3,627		4.9			145,642		5,398		4.9
Money market		730		1		0.2			54,050		56		0.1
Federal funds sold		4,840		5		0.1			56,572		52		0.1
Interest bearing deposits in banks		4,403		1		—			11,925		1		—
Federal reserve funds		193,235		325		0.2			21,198		22		0.1
Investments - other		61,999		931		2.0			24,453		502		2.7
		1,589,939	$	57,373		4.8	%		1,572,438	$	61,991		5.3	%
Non-interest-earning assets:
Cash and due from banks		4,200							6,450
Other assets		40,083							49,601
	$	1,634,222						$	1,628,489
Liabilities and Stockholders’ Equity:
Interest-bearing liabilities:
Certificates of deposit	$	62,759	$	690		1.5	%	$	70,423	$	987		1.9	%
Money market accounts		34,329		16		0.1			42,706		50		0.2
Interest-bearing demand accounts		61,629		49		0.1			88,275		117		0.2
Savings accounts		1,132,462		617		0.1			1,093,996		1,513		0.2
Federal Home Loan Bank advances		108,085		3,682		4.5			113,598		4,024		4.7
Federal funds purchased		22		—		—			9		—		—
Other financed borrowings		2,831		—		—			—		—		—
		1,402,117		5,054		0.5	%		1,409,007		6,691		0.6	%
Non-interest-bearing liabilities:
Non interest-bearing demand accounts		76,314							60,014
Other liabilities		2,028							7,020
		1,480,459							1,476,041
Stockholders’ equity		153,763							152,448
	$	1,634,222						$	1,628,489
Net interest income			$	52,319						$	55,300
Net yield on interest-earning assets						4.4	%						4.7	%

(*) Loan fees included in interest income for the nine-months ended March 31, 2011 and 2010 were $2,880 and $3,558, respectively.

61

The following table sets forth a summary of the changes in the Bank’s interest earned and interest paid resulting from changes in volume and rate (in thousands):

	Nine-Months Ended
	March 31, 2011 as compared to March 31, 2010
	Total Change			Attributed to
				Volume			Rate			Mix
Interest income:
Loans:
Real estate - mortgage	$	(2,036	)	$	(312	)	$	(1,753	)	$	29
Real estate - construction		(1,924	)		(2,304	)		756			(376	)
Commercial - real estate		(782	)		(317	)		(471	)		6
Commercial - loans		1,299			1,835			(425	)		(111	)
Individual		(34	)		(20	)		(15	)		1
Land		(1,771	)		(1,743	)		(41	)		13
Money markets		(55	)		(55	)		19			(19	)
Federal funds sold		(47	)		(47	)		2			(2	)
Federal reserve funds		303			182			14			107
Investments - other		429			391			(14	)		52
	$	(4,618	)	$	(2,390	)	$	(1,928	)	$	(300	)
Interest expense:
Certificates of deposit	$	(297	)	$	(108	)	$	(212	)	$	23
Money market accounts		(34	)		(10	)		(30	)		6
Interest-bearing demand accounts		(68	)		(35	)		(47	)		14
Savings accounts		(896	)		53			(917	)		(32	)
Federal Home Loan Bank advances		(342	)		(285	)		(66	)		9
		(1,637	)		(385	)		(1,272	)		20
Net interest income	$	(2,981	)	$	(2,005	)	$	(656	)	$	(320	)

Other Segment

Three-months Ended:

Overall other segment net revenues were flat primarily due to a decrease of $878,000 in the gains on our limited partnership venture capital fund investment, which was partially offset by a $457,000 increase in net interest revenue and a $354,000 decrease in losses on firm inventory.

Pre-tax loss from the other segment was $8.5 million for the three-months ended March 25, 2011 as compared to $6.8 million for the same period last fiscal year. This was related to an increase in legal expenses of $1.4 million and a $1.1 million increase in employee benefits. These increases were partially offset by a decrease in corporate salaries of $471,000, reduced occupancy, equipment and computer services costs of $257,000 and a $240,000 reduction in bad debt expense on firm receivables.

Nine-months Ended:

Overall other segment net revenues were flat as net interest revenue increased by $961,000 from the same period last year. Net gains on principal transactions increased $687,000 due to gains on firm inventory. These improvements were substantially offset by a $1.4 million decrease in income earned on our limited partnership venture capital fund investment.

Pre-tax loss from the other segment was $26.3 million for the nine-months ended March 25, 2011 as compared to $25.4 million for the same period last fiscal year. The change was primarily due to a $2.2 million increase in legal expenses and a $524,000 increase in trading expenses. In addition, in fiscal 2010, there was a one time $875,000 reversal of an accrual from the purchase of M.L. Stern & Co., LLC. These expense increases were partially offset by decreases in commissions and employee compensation expense of $2.1 million, occupancy, equipment and computer service expenses of $393,000 and promotional expenses of $383,000. In addition, bad debt expenses were $315,000 lower.

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FINANCIAL CONDITION

Investments

The reported value of the Bank’s investment portfolio at March 31, 2011 and June 30, 2010 is summarized as follows (in thousands):

	March 31, 2011		June 30, 2010
Government-sponsored enterprises	$	35,525	$	87,685
States of the U.S. and political subdivisions		—		6,265
	$	35,525	$	93,950

The Bank sold $75.5 million of securities in fiscal 2011. See additional discussion in“Securities Held to Maturity” in the Notes to the Consolidated Financial Statements contained in this report.

Loans and Allowance for Probable Loan Losses

The Bank grants loans to customers primarily within Texas and New Mexico. In the ordinary course of business, the Bank also purchases mortgage loans which have been originated in various areas of the United States. Although the Bank has a diversified loan portfolio, a substantial portion of its debtors’ ability to honor their loan terms is dependent upon the general economic conditions in Texas and New Mexico. Substantially all of the Bank’s loans are collateralized with real estate.

The allowance for probable loan losses is increased by charges to income and decreased by charge-offs (net of recoveries). Management periodically evaluates the adequacy of the allowance based on the Bank’s past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral and current economic conditions. In determining the appropriate allowance at the balance sheet date, management evaluates the Bank’s historical loss percentage, concentrations of risk in the portfolio, estimated changes in the value of underlying collateral as well as changes in the volume and growth in the portfolio.

Prior to the third quarter of fiscal 2010, the Bank’s provision for loan loss computation used a three year rolling average of historical loan losses by product type to assess losses in the Bank’s loan portfolio. Product types consist of 1-4 family residential loans, 1-4 family residential construction loans, land and land development loans, commercial real estate loans, commercial loans and consumer loans. Due to accelerated deterioration in the Bank’s loan portfolio, depressed appraised values for collateral, continued high unemployment rates in Texas and deteriorating banking industry loss statistics, the Bank’s management reevaluated its use of historical loan losses in its provision for loan loss computation. As a result of this reevaluation, in the third quarter of fiscal 2010, management reduced the historical loan loss look back period from three years to four quarters.

Due to continued deterioration in the Bank’s loan portfolio, depressed appraised values for collateral, continued high unemployment rates in Texas and deteriorating banking industry loss statistics in the first quarter of fiscal 2011, the Bank’s management reevaluated its problem loan volume trend component in its provision for loan loss computation. The problem loan volume trend component now includes two separate calculations for criticized and classified loans. Prior to the first quarter of fiscal 2011, the Bank had one calculation for these loans. To more appropriately assess these loans, the Bank segregated these loans and applied two separate historical loss ratios, one being the regular historical loan loss ratio applied to criticized and classified loans and the other being based on distressed sale charge-off levels applied to criticized and classified loans. Also, due to the

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significant increase in classified loans and the Bank’s need to provide a heavier weighting for these types of loans in the Bank’s allowance calculation, the Bank segregated the assets and used the “distressed sell mark,” which is the fair value mark made on the loans placed in an auction, as a basis for the additional emphasis in the model.

With the implementation of a new internal loan review department and the continued implementation of enhanced credit administration procedures, the Bank management evaluated the timing of full implementation and the potential impact on the loan portfolio in the third quarter of fiscal 2011. As a result a new component was added to the allowance computation based on internal loan review downgrade statistics and applied to loans that have not been reviewed either internally or externally. Management also reassessed the second historical loss ratio applied to criticized and classified loans based on “distressed sell mark”. With the passage of time and no additional auction sales anticipated, management determined a new basis was required to establish a current effective sustainable factor. To achieve this, industry statistics obtained from the FDIC related to charge-offs were utilized.

The historical loss ratios are adjusted by an analysis of real estate market deterioration that is derived from industry data for the markets we serve, as well as information from our bank-specific losses related to real estate transactions. We also revise the historic loss ratios upward for concentrations of capital greater than 100% for the product types defined above. At March 31, 2011, our most significant concentration was in commercial real estate. Lastly, we adjust the loss ratios based on growth in the product types. Consideration of these factors resulted in an upward adjustment of our historical loss ratios over the past twelve months. Our calculation also includes specific allocations arising from our loan impairment analysis.

Certain types of loans, such as option ARM products, junior lien mortgages, high loan-to-value ratio mortgages, single family interest only loans, sub-prime loans, and loans with initial “teaser” rates, can have a greater risk of non-collection than other loans. At March 31, 2011, the Bank had $6.1 million in junior lien mortgages. These loans represented less than 1% of total loans at March 31, 2011. At March 31, 2011, the Bank did not have any exposure to sub-prime loans and loans with initial teaser rates. At March 31, 2011, the Bank had $10.0 million of single family interest only loans.

At March 31, 2011, the Bank’s loan portfolio included a total of $20.2 million in loans with a high loan-to-value ratio. High loan-to-value ratios are defined by OTS regulation and range from 75%-90% depending on the type of loan. At March 31, 2011, approximately 23% of these loans were 1-4 single family or lot loans to home builders in North Texas. We addressed the additional risk in these loans in our allowance calculation primarily through our review of the real estate market deterioration adjustment to the historical loss ratio. Additionally, at March 31, 2011, the Bank had two loans with high loan-to-value ratios that were deemed impaired. The impairment analysis on these loans resulted in a partial charge-off of $332,000 on one loan and no impairment allocation or loss on the remaining loan. Regulatory guidelines suggest that high loan-to-value ratio loans should not exceed 100% of total capital. At March 31, 2011, the Bank’s high loan-to-value ratio loans represented 14% of total capital.

We obtain appraisals on real estate loans at the time of origination from third party appraisers approved by the Bank’s board of directors. We may also obtain additional appraisals when the borrower’s performance indicates it may default. After a loan default and foreclosure, we obtain new appraisals to determine the fair value of the foreclosed asset. We obtain updated appraisals on foreclosed properties on an annual basis until we sell the property

Management reviews the loan loss computation methodology on a quarterly basis to determine if the factors used in the calculation are appropriate. Because our problem loans and losses are concentrated in real estate-related loans, we pay particular attention to real estate market deterioration and the concentration of capital in our real estate-related loans. Improvement or additional deterioration in the residential and commercial real estate market may have an impact on these factors in future quarters. To the extent we underestimate the impact of these risks, our allowance account could be materially understated.

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Loans receivable, including loans held for sale, at March 31, 2011 and June 30, 2010 are summarized as follows (in thousands):

	March 31, 2011			June 30, 2010
Residential
Mortgage loans held for sale	$	60,603		$	424,055
Mortgage 1-4 first liens		121,228			143,755
Mortgage 1-4 junior liens		6,121			9,040
		187,952			576,850
Construction
Residential construction		41,677			80,463
Multi-family construction		7,973			7,595
Commercial construction		29,770			40,495
		79,420			128,553
Lot and land development
Residential land		49,054			84,669
Commercial land		21,465			36,414
		70,519			121,083
Commercial real estate		431,027			514,930
Multi-family		55,325			75,408
Commercial loans		192,882			191,745
Consumer loans		3,673			4,692
Loans held for immediate sale:
Commercial real estate		6,779			—
Commercial loans		330			—
Mortgage 1-4		106			—
Residential construction		—			—
Multi-family		—			—
		7,215			—
		1,028,013			1,613,261
Allowance for probable loan loss		(47,314	)		(35,141	)
	$	980,699		$	1,578,120

The following table shows the scheduled maturities of certain loan categories at March 31, 2011 and segregates those loans with fixed interest rates from those with floating or adjustable rates (in thousands):

	1 year or less		1-5 years		Over 5 Years		Total
Commercial real estate and multi-family	$	98,577	$	266,698	$	121,077	$	486,352
Commercial loans		97,268		79,616		15,998		192,882
Construction loans		62,812		11,541		5,067		79,420
Total	$	258,657	$	357,855	$	142,142	$	758,654

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	1 year or less		1-5 years		Over 5 Years		Total
Amount of loans based upon:
Floating or adjustable interest rates	$	244,825	$	265,197	$	95,402	$	605,424
Fixed interest rates		13,832		92,658		46,740		153,230
Total	$	258,657	$	357,855	$	142,142	$	758,654

We maintain an internally classified loan list that helps us assess the overall quality of the loan portfolio and the adequacy of the allowance for loan losses. Loans on this list are classified as substandard, doubtful or loss based on the probability of repayment, collateral valuation and related collectability. This list is used to identify loans that are considered non-performing.

We classify loans as non-performing when they are 90 days or more past due as to principal or interest or when reasonable doubt exists as to timely collectability. The Bank uses a standardized review process to determine which non-performing loans should be placed on non-accrual status. At the time a loan is placed on non-accrual status, we reverse previously accrued and uncollected interest against interest income. We recognize interest income on non-accrual loans to the extent we receive cash payments for the loans with respect to which ultimate full collections is likely. For loans where ultimate collection is not likely, we apply interest payments to the outstanding principal and we recognize income only if full payment is made.

Non-performing assets and classified loans as of March 31, 2011 and June 30, 2010 are as follows (dollars in thousands):

	March 31, 2011			June 30, 2010
Loans accounted for on a non-accrual basis
1-4 family	$	3,334		$	6,065
Lot and land development		20,261			8,776
Multi-family		16,633			2,394
Residential construction		7,345			3,809
Commercial real estate		24,607			16,911
Commercial loans		3,673			462
Consumer loans		81			11
		75,934			38,428
Non-performing loans as a percentage of total loans		7.4	%		2.4	%
Loans past due 90 days or more, not included above 1-4 family		—			29
		—			29
REO
1-4 family		939			5,862
Lot and land development		19,380			19,565
Residential construction		1,334			7,673
Commercial real estate		5,181			11,150
Commercial loans		218			612
		27,052			44,862
Other repossessed assets (“ORA”)		1,092			1,332
Troubled debt restructuring		491			9,009
Non-performing assets	$	104,569		$	93,660

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	March 31, 2011			June 30, 2010
Non-performing assets as a percentage of Bank assets		7.6	%		5.3	%
Current classified assets
1-4 family	$	17,365		$	7,355
Lot and land development		18,669			22,802
Multifamily		(692	)		__
Residential construction		9,164			6,886
Commercial real estate		95,499			57,127
Commercial loans		10,688			3,926
		150,693			98,096
Total classified assets
1-4 family		21,638			19,311
Lot and land development		58,801			51,143
Multifamily		15,941			2,394
Residential construction		17,843			18,368
Commercial real estate		125,287			93,724
Commercial loans		15,671			6,805
Consumer loans		81			11
	$	255,262		$	191,756

In fiscal 2011, Bank management hired and allocated additional resources to manage the growth in REO and non-performing assets. Management has prepared an asset-by-asset plan for these asset categories to reduce these loans and properties expeditiously. Specifically, the Bank began conducting an auction of classified assets totaling $68.9 million in September 2010. This strategy included the engagement of a consultant to assist in the disposition of certain classified assets through a national and international marketing campaign. Management’s focus on the continued reduction of these asset classes may have a material impact on future results of operations.

Total classified assets to Bank capital plus allowance for loan loss was 132.7% at March 31, 2011. Classified assets increased $63.5 million from the June 2010 quarter and 97% of total classified loans by collateral location are in Texas. Bank management is focused on expeditiously reducing this ratio through the disposal of these assets. Depending on the method of disposal, the Bank may be required to record additional write-downs to the fair values of these assets. Management estimates that losses on the ultimate disposal of these assets could range from 0% to 50% of the recorded value. While management is diligently working to dispose of these assets quickly, lack of demand for certain property types, length of sales cycle and manpower limitations will impact the time required to ultimately reduce the classified assets to a more acceptable level.

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The following table presents an analysis of REO for the three and nine-month periods ended March 31, 2011 and 2010 (dollars in thousands):

	Three-Months Ended March 31,						Nine-Months Ended March 31,
	2011			2010			2011			2010
Balance at beginning of period	$	38,201		$	37,610		$	44,862		$	25,301
Foreclosures		3,365			12,449			40,089			41,485
Sales		(12,691	)		(6,956	)		(44,739	)		(21,949	)
Write-downs		(1,806	)		(1,687	)		(13,349	)		(3,608	)
Other		(17	)		21			189			208
Balance at end of period	$	27,052		$	41,437		$	27,052		$	41,437

The following table presents non-performing assets as of March 31, 2011 by year of origination (in thousands):

Year Originated	Non- Performing Loans		REO		ORA			Troubled Debt Restructuring		Current Classified Assets		Total
Fiscal 2006 or prior	$	10,607	$	6,304	$	—		$	—	$	30,812	$	47,723
Fiscal 2007		4,644		5,748		980	(#)		—		19,555		30,927
Fiscal 2008		39,112		12,736		—			491		29,464		81,803
Fiscal 2009		13,458		2,057		112			—		53,260		68,887
Fiscal 2010		6,564		207		—			—		14,714		21,485
Fiscal 2011		1,549		—		—			—		2,888		4,437
	$	75,934	$	27,052	$	1,092		$	491	$	150,693	$	255,262

^(#)  Amount is classified as “special mention” on the Bank’s Thrift Financial Report (“TFR”) filed with the OTS.

An analysis of the allowance for probable loan losses for the three and nine-month periods ended March 31, 2011 and 2010 is as follows (dollars in thousands):

	Three-Months Ended March 31,						Nine-Months Ended March 31,
	2011			2010			2011			2010
Balance at beginning of period	$	47,041		$	17,601		$	35,141		$	14,731
Charge-offs:
Residential construction		—			(1,913	)		(1,999	)		(2,999	)
Lot and land development		(2,690	)		(4,074	)		(5,350	)		(5,487	)
Residential mortgage		(588	)		(1,110	)		(4,225	)		(1,798	)
Commercial real estate		(1,020	)		(2,606	)		(25,163	)		(4,904	)
Multi-family		—			(2,391	)		(562	)		(2,391	)
Commercial loans		(297	)		(149	)		(1,975	)		(1,253	)
Consumer loans		(1	)		(6	)		(1	)		(18	)
Total charge-offs		(4,596	)		(12,249	)		(39,275	)		(18,850	)

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	Three-Months Ended March 31,						Three-Months Ended March 31,
	2011			2010			2011			2010
Recoveries:
Residential construction	$	59		$	1		$	216		$	1
Lot and land development		57			37			153			37
Residential mortgage		13			1			27			18
Commercial real estate		1			—			29			5
Commercial loans		12			3			55			29
Consumer loans		—			1			1			4
Total recoveries		142			43			481			94
Net charge-offs		(4,454	)		(12,206	)		(38,794	)		(18,756	)
Additions charged to operations		4,727			25,000			50,967			34,420
Balance at end of period	$	47,314		$	30,395		$	47,314		$	30,395
Ratio of net charge-offs during the period to average loans outstanding during the period		0.41	%		0.87	%		2.94	%		1.34%

With the continued challenging economic environment and persistent high unemployment rate, the Bank frequently reviews and updates its processes and procedures for the extension of credit, allowance for loan loss computation and internal asset review and classification. Recent changes include more stringent underwriting guidelines for loan-to-value ratios, guarantor’s financial condition, owner-occupied versus investor loans and speculative versus custom construction. The Bank currently requires more extensive documentation and data than it did in prior years in order to classify existing loans as performing loans. The Bank is also updating appraisals more frequently, even on performing loans, and such appraisals serve as an early indicator of loan deterioration. These actions led to increases in non-performing assets and the loan loss allowance in fiscal 2010 and have continued to lead to increases in non-performing assets and the loan loss allowance during the nine-months ended March 31, 2011.

As a result of the current economic environment and the Order, the Bank has significantly limited the growth of its loan portfolio in fiscal 2011 in order to allocate the time, resources and capital necessary to support the existing loan portfolio.

The allowance for probable loan losses is applicable to the following types of loans as of March 31, 2011 and June 30, 2010 (dollars in thousands):

	March 31, 2011								June 30, 2010
	Amount		Percent of loans to total loans			Percent of the allowance for loan loss			Amount		Percent of loans to total loans			Percent of the allowance for loan loss
Residential construction	$	1,087		7.7	%		2.3	%	$	3,362		8.0	%		9.6	%
Lot and land development		7,079		6.9			15.0			4,808		7.5			13.7
Residential mortgage		5,206		18.3			11.0			3,542		35.8			10.1
Commercial real estate		28,541		42.6			60.3			19,733		31.9			56.2
Multi-family		1,053		5.4			2.2			812		4.6			2.3
Commercial loans		4,310		18.8			9.1			2,853		11.9			8.1
Consumer loans		38		0.3			0.1			31		0.3			—
	$	47,314		100.0	%		100.0	%	$	35,141		100.0	%		100.0	%

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At March 31, 2011, approximately 60% of the Bank’s loan loss allowance was allocated to its commercial real estate loan portfolio while the Bank’s commercial real estate loan portfolio represented approximately 43% of its total loan portfolio. Because commercial real estate loans tend to be individually larger than residential loans, deterioration in this portfolio leads to more volatility in our earnings.

The Bank’s written loan policies address specific underwriting standards for commercial real estate loans. These policies include loan to value requirements, cash flow requirements, acceptable amortization periods and appraisal guidelines. In addition, specific covenants, unique to each relationship, may be used where deemed appropriate to further protect the lending relationship. Collateral in the commercial real estate portfolio varies from owner-occupied properties to investor properties. We periodically review the portfolio for concentrations by industry as well as geography. All commercial relationships are stress tested at the time of origination and major relationships are then stress tested on an annual basis.

Deposits

Average deposits and the average interest rate paid on the deposits for the three and nine-months ended March 31, 2011 can be found in the discussion of the banking segment’s net interest income under the caption “Results of Operations-Segment-Banking.”

The Bank had $23.7 million and $34.2 million of certificates of deposit of $100,000 or greater at March 31, 2011 and June 30, 2010, respectively. The Bank is funded primarily by deposits from SWS’s brokerage customers. These core deposits provide the Bank with a stable and low cost funding source. The Bank also utilizes short-and long-term FHLB borrowings to match long-term fixed rate loan funding. At March 31, 2011, the Bank had $951.3 million in funds on deposit from customers of Southwest Securities, representing approximately 85% of the Bank’s total deposits and $96.8 million of FHLB borrowings. Core deposits have reduced the Bank’s reliance on short-term borrowings from the FHLB and brokered certificates of deposit. The Bank does not use brokered deposits to provide liquidity; consequently, the Bank is in compliance with the Order’s prohibition on the use of brokered deposits.

Short Term Borrowings and Advances from Federal Home Loan Bank

The table below presents short term borrowings and advances from the FHLB which were due within one year during the three and nine-month periods ended March 31, 2011 and 2010 (dollars in thousands):

	Three-Months Ended March 31,										Nine-Months Ended March 31,
	2011					2010					2011					2010
	Amount		Interest Rate			Amount		Interest Rate			Amount		Interest Rate			Amount		Interest Rate
At end of period	$	4,872		5.1	%	$	10,075		5.1	%	$	4,872		5.1	%	$	10,075		5.1	%
Average balance during period		5,612		5.1	%		9,818		5.0	%		11,018		3.9	%		6,777		4.9	%
Maximum balance during period		10,291		—			12,400		—			79,570		—			12,400		—

LIQUIDITY AND CAPITAL RESOURCES

Management believes that our current assets and available liquidity are adequate to meet our liquidity needs over the next twelve months. However, there is no assurance our forecast will prove to be accurate or that we will not be required to raise additional capital. As a result, from time to time, management evaluates various opportunities to supplement the Company’s sources of liquidity and capital. This evaluation led to signing the funding agreement with Hilltop and Oakhill.

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Funding Agreement

On March 20, 2011, we entered into an agreement with Hilltop and Oak Hill pursuant to which we would obtain a $100.0 million, five year, unsecured loan from these investors. In addition, we agreed to issue warrants to each investor allowing such investor to purchase up to 8,695,652 shares of common stock at an exercise price of $5.75 per share (subject to anti-dilution adjustments), representing approximately 17% of the common stock of our company per warrant. The closing of this transaction remains subject to obtaining all necessary regulatory and stockholder approvals.

Secondary Offering

On October 16, 2009, we filed a shelf registration statement with the SEC providing for the sale of $150.0 million of our securities. On December 9, 2009, we closed a public offering of 4,347,827 shares of common stock at a price of $11.50 per share. On December 16, 2009, the underwriters for the public offering exercised their option to purchase 652,174 additional shares of our common stock to cover over-allotments. We generated net proceeds, after deducting underwriting discounts and commissions, of approximately $54.4 million from these offerings.

Brokerage

A substantial portion of our assets are highly liquid in nature and consist mainly of cash or assets readily convertible into cash. Our equity capital, short-term bank borrowings, interest bearing and non-interest bearing client credit balances, correspondent deposits and other payables finance these assets. We maintain an allowance for doubtful accounts that represent amounts that are necessary, in the judgment of management, to adequately absorb losses from known and inherent risks in receivables from clients, clients of correspondents and correspondents. The highly liquid nature of our assets provides us with flexibility in financing and managing our anticipated operating needs. Management believes that the brokerage business’ present liquidity position is adequate to meet its needs over the next twelve months.

Short-Term Borrowings.We have credit arrangements with commercial banks, which include broker loan lines up to $300.0 million. These lines of credit are used primarily to finance securities owned, securities held for correspondent broker/dealer accounts and receivables in customers’ margin accounts. These lines may also be used to release pledged collateral against day loans. These credit arrangements are provided on an “as offered” basis and are not committed lines of credit. These arrangements can be terminated at any time by the lender. Any outstanding balances under these credit arrangements are due on demand and bear interest at rates indexed to the federal funds rate. At March 25, 2011, the amount outstanding under these secured arrangements was $136.0 million, which was collateralized by securities held for firm accounts valued at $167.9 million. Our ability to borrow additional funds is limited by our eligible collateral. See additional discussion under“Risk Factors” in our Form 10-K filed with the SEC on August 31, 2010.

At March 25, 2011, we had $250,000 outstanding under unsecured letters of credit pledged to support our open positions with securities clearing organizations. These letters have a 1% commitment fee and are renewable semi-annually at our option.

At March 25, 2011, we had $500,000 under an outstanding unsecured letter of credit pledged to support our underwriting activities. This letter bears a 1% commitment fee and is renewable annually at our option.

We also have a $20.0 million unsecured line of credit that is due on demand and bears interest at rates indexed to the federal funds rate. This credit arrangement is provided on an “as offered” basis and is not a committed line of credit. The total amount of borrowings available under this line of

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credit is reduced by the amount outstanding under any unsecured letters of credit at the time of borrowing. At March 25, 2011, there were no amounts outstanding on this line other than the $750,000 under unsecured letters of credit referenced above. At March 25, 2011, we had $19.3 million available for borrowing under this line of credit.

At March 25, 2011, we had an irrevocable letter of credit agreement aggregating $55.0 million pledged to support our open options positions with an options clearing organization. The letter of credit bears interest at the brokers’ call rate (0.5% at March 25, 2011), if drawn, and is renewable semi-annually. This letter of credit is fully collateralized by marketable securities held in client and non-client margin accounts with a value of $80.5 million at March 25, 2011.

On January 28, 2011, Southwest Securities entered into an agreement with an unaffiliated bank for a $45.0 million committed revolving credit facility. The commitment fee is 37.5 basis points per annum and, when drawn, the interest rate is equal to the federal funds rate plus 75 basis points. The agreement requires Southwest Securities to maintain tangible net worth of $150.0 million. As of March 25, 2011, there was $45.0 million outstanding under the committed revolving credit facility. The $45.0 million of secured borrowings was collateralized by securities with a value of $72.7 million at March 25, 2011.

Net Capital Requirements.Our broker/dealer subsidiaries are subject to the requirements of the SEC relating to liquidity, capital standards and the use of client funds and securities. The amount of broker/dealer subsidiaries’ net assets that may be distributed to the parent of the broker/dealer is subject to restrictions under applicable net capital rules. Historically, we have operated in excess of the minimum net capital requirements. See“Regulatory Capital Requirements” in the Notes to the Consolidated Financial Statements contained in this report.

Banking

Liquidity is monitored daily to ensure the Bank’s ability to support asset growth, meet deposit withdrawals, maintain reserve requirements and otherwise sustain operations. The Bank’s liquidity is maintained in the form of readily marketable loans and investment securities, balances with the FHLB, federal funds sold to correspondent banks and vault cash. At March 31, 2011, the Bank had net borrowing capacity with the FHLB of $318.4 million. In addition, at March 31, 2011, the Bank had the ability to borrow up to $83.8 million in funds from the Federal Reserve Bank of Dallas.

In the second quarter of fiscal 2010, the Bank entered into a secured line of credit agreement with the Federal Reserve Bank of Dallas. This line of credit is secured by the Bank’s commercial loan portfolio. This line is due on demand and bears interest at a rate 100 basis points over the federal funds target rate. This line is used to support short-term liquidity needs and, at March 31, 2011, there were no amounts outstanding.

The Bank’s asset and liability management policy is intended to manage interest rate risk. The Bank accomplishes this through management of the periodic repricing of its interest-earning assets and its interest-bearing liabilities. Overall interest rate risk is monitored through reports showing both sensitivity ratios, a simulation model and existing “GAP” data. (See the Bank’s GAP analysis in “Risk Management-Market Risk-Interest Rate Risk/Banking.”) At March 31, 2011, $951.3 million of the Bank’s deposits were from brokerage customers of Southwest Securities. Current events in the securities markets could impact the amount of these funds available to the Bank.

Capital Requirements.The Bank is subject to various regulatory capital requirements administered by federal agencies. Quantitative measures, established by regulation to ensure capital adequacy, require maintaining minimum amounts and ratios of total and Tier I capital (as defined in 12 CFR 565 and 12 CFR 567) to risk-weighted assets (as defined) and of Tier I (core) capital (as defined) to adjusted assets (as defined). At March 25, 2011, this resulted in excess capital of $24.9 million over the Order’s total risk-based capital requirement of $117.5 million and $21.8 million over the Order’s Tier I (core) capital requirement of $108.4 million. Under federal law, the OTS may require the Bank to apply another measure of risk-weight or capital ratio that the OTS deems appropriate.

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The Bank has historically met all capital adequacy requirements and, as of March 31, 2011, the Bank met all capital requirements to which it was subject and satisfied the requirements to be defined as a “well-capitalized institution.” However, on February 4, 2011, the Board of Directors of the Bank signed a Stipulation and Consent to Issuance of the Order. Accordingly, as a result of the issuance of the Order, effective February 4, 2011, the Bank is deemed to be “adequately capitalized” and no longer meets the definition of “well capitalized” under federal statutes and OTS regulations even though its capital ratios meet or exceed all applicable requirements under Federal law, OTS regulations and the Order. See additional discussion in“Cease and Desist Order with the Office of Thrift Supervision” in the Notes to the Consolidated Financial Statements contained in this report. Should the Bank not meet these minimums or should the OTS determine that the levels in excess of the minimum are necessary, certain mandatory and discretionary supervisory actions (as defined in 12 CFR 565.6) could be applicable. At March 31, 2011, the Bank’s total risk-based capital ratio was 14.5%, its Tier I risk-based capital ratio was 13.3% and its Tier I (core) capital ratio was 9.6%.

SWS Group contributed $23.0 million of capital to the Bank during the first quarter of fiscal 2011. This contribution allowed the Bank to meet its capital requirements and improved the Bank’s capital position.

Off-Balance Sheet Arrangements

We generally do not enter into off-balance sheet arrangements, as defined by the SEC. However, our broker/dealer subsidiaries enter into transactions in the normal course of business that expose us to off-balance sheet risk. See Note 24 of the Notes to Consolidated Financial Statements in our Form 10-K for the fiscal year ended June 25, 2010.

Cash Flow

Net cash provided by operating activities was $349.1 million and net cash used in operating activities was $171.9 million for the nine-months ended March 25, 2011 and March 26, 2010, respectively. The increase from fiscal 2010 to fiscal 2011 in net cash provided by operating activities was primarily due to the decrease in the Bank’s investment in purchased mortgage loans held for sale.

Net cash provided by investing activities for the nine-months ended March 25, 2011 was $236.1 million and net cash used in investing activities for the nine-months ended March 26, 2010 was $154.0 million. The primary reason for the increase in cash provided by investing activities was a $190.6 million decrease in the net amount invested in loans at the Bank, as well as the receipt of $75.6 million from the sale of investments, the receipt of $40.9 million from the sale of loans, $5.6 million from cash received on investments at the Bank and a $47.9 million decrease in cash paid on investments.

Net cash used in financing activities totaled $338.3 million for the nine-month period ended March 25, 2011 as compared to net cash provided by financing activities of $285.5 million in the same period of fiscal 2010. The primary reason for the decrease in the cash provided by financing activities was a decrease in deposits at the Bank and the receipt of funds from our public common stock offering in fiscal 2010.

We expect that cash flows provided by operating activities and short-term borrowings will be the primary source of working capital for the next twelve months.

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Treasury Stock

Periodically, we repurchase our shares of common stock under a plan approved by our Board of Directors. In August 2010, the Board of Directors of SWS Group approved a plan authorizing us to purchase up to 500,000 shares of common stock from time to time in the open market for an 18-month time period ending on February 28, 2012. During the nine-months ended March 25, 2011, no shares were purchased under this program.

On November 27, 2009, the stockholders of the SWS Group voted to increase the authorized number of shares of common stock available for issuance under the deferred compensation plan from 375,000 shares to 675,000 shares. The trustee under our deferred compensation plan periodically purchases shares of our common stock in the open market in accordance with the terms of the plan. This stock is classified as treasury stock in our consolidated financial statements, but participates in future dividends declared by us. During the nine-months ended March 25, 2011, the plan purchased 53,000 shares of our common stock at a cost of approximately $340,000, or $6.42 per share, and 20,560 shares were distributed to participants pursuant to the plan.

As restricted stock grants vest, grantees may sell a portion of their vested shares to us to cover the tax liabilities arising from vesting. As a result, in the nine-months ended March 25, 2011, we purchased 18,183 shares of common stock with a market value of $131,000, or an average of $7.22 per share, to cover tax liabilities.

RISK MANAGEMENT

We manage risk exposure through the involvement of various levels of management. We establish, maintain and regularly monitor maximum positions by industry and issuer in both trading and inventory accounts. Current and proposed underwriting, banking and other commitments are subject to due diligence reviews by senior management, as well as professionals in the appropriate business and support units involved. The Bank seeks to reduce the risk of significant adverse effects of market rate fluctuations by minimizing the difference between rate-sensitive assets and liabilities, referred to as “GAP”, and maintaining an interest rate sensitivity position within a particular timeframe. Credit risk related to various financing activities is reduced by the industry practice of obtaining and maintaining collateral. We monitor our exposure to counterparty risk through the use of credit information, the monitoring of collateral values and the establishment of credit limits. We have established various risk management committees that are responsible for reviewing and managing risk related to interest rates, trading positions, margin and other credit risk and risks from capital market transactions.

Credit Risk

Brokerage. Credit risk arises from the potential nonperformance by counterparties, customers or debt security issuers. We are exposed to credit risk as a trading counterparty and as a stock loan counterparty to dealers and customers, as a holder of securities and as a member of clearing organizations. We have established credit risk committees to review our credit exposure in our various business units. These committees are composed of senior management of the company. Credit exposure is also associated with customer margin accounts, which are monitored daily. We monitor exposure to individual securities and perform sensitivity analysis on a regular basis in connection with our margin lending activities. We adjust our margin requirements if we believe our risk exposure is not appropriate based on market conditions.

Banking. Credit risk is the possibility that a borrower or counterparty will fail to meet its obligations in accordance with agreed terms and is inherent in all types of lending. The Bank has developed and continues to enhance its policies and procedures to provide a process for managing credit risk. These policies and procedures include underwriting guidelines, credit and collateral

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tracking, and detailed loan approval procedures which include officer and director loan committees. The Bank also maintains a detailed loan review process to monitor the quality of the loan portfolio. The Bank grants loans to customers primarily within Texas and New Mexico. The Bank also purchases mortgage loans which have been originated in other areas of the United States. Although the Bank has a diversified loan portfolio, a substantial portion of its debtors’ ability to honor their contracts is dependent upon the general economic conditions in Texas and New Mexico. Policies and procedures, which are in place to manage credit risk, are designed to be responsive to changes in these economic conditions.

Operational Risk

Operational risk refers generally to risk of loss resulting from our operations, including but not limited to, improper or unauthorized execution and processing of transactions, deficiencies in our operating systems, and inadequacies or breaches in our control processes. We operate in diverse markets and are reliant on the ability of our employees and systems to process large numbers of transactions. In order to mitigate and control operational risk, we have developed and continue to enhance specific policies and procedures that are designed to identify and manage operational risk at appropriate levels. We also use periodic self-assessments and internal audit examinations as further review of the effectiveness of our controls and procedures in mitigating our operational risk.

Legal Risk

Legal risk includes the risk of non-compliance with applicable legal and regulatory requirements. We are subject to extensive regulation in the different jurisdictions in which we conduct business. We have established procedures based on legal and regulatory requirements that are designed to reasonably ensure compliance with all applicable statutory and regulatory requirements. We also have established procedures that are designed to ensure that executive management’s policies relating to conduct, ethics and business practices are followed. In connection with our business, we have various procedures addressing significant issues such as regulatory capital requirements, sales and trading practices, new products, use and safekeeping of customer funds and securities, granting credit, collection activities, money laundering, privacy and record keeping.

Market Risk

Market risk generally represents the risk of loss that may result from the potential change in value of a financial instrument as a result of fluctuations in interest rates, market prices, investor expectations and changes in credit ratings of the issuer. Our exposure to market risk is directly related to our role as a financial intermediary in customer-related transactions and to our proprietary trading and securities lending activities.

Interest Rate Risk.A description of the interest rate risk for the brokerage and banking units are as follows:

Brokerage. Interest rate risk is a consequence of maintaining inventory positions, trading in interest rate sensitive financial instruments and maintaining a matched stock loan book. Our fixed income activities also expose us to the risk of loss related to changes in credit spreads. Credit spread risk arises from the potential that changes in an issuer’s credit rating or credit perception could affect the value of financial instruments.

Banking. Our primary emphasis in interest rate risk management for the Bank is the matching of assets and liabilities of similar cash flow and re-pricing time frames. This matching of assets and liabilities reduces exposure to rate movements and aids in stabilizing positive interest spreads. We strive to structure our balance sheet as a natural hedge by matching floating rate assets with variable short term funding and by matching fixed rate liabilities with similar longer term fixed rate assets. The Bank has established percentage change limits in both interest margin and net portfolio value. To verify that the Bank is within the limits established for interest margin, the Bank

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prepares an analysis of net interest margin based on various shifts in interest rates. To verify that the Bank is within the limits established for net portfolio value, the Bank analyzes data prepared by the OTS for interest rate sensitivity of the Bank’s net portfolio. These analyses are conducted on a quarterly basis for the Bank’s Board of Directors.

The following table illustrates the estimated change in net interest margin based on shifts in interest rates of positive 300 basis points and negative 100 basis points:

Hypothetical Change in Interest Rates	Projected Change in Net Interest Margin
+300		12.51	%
+200		7.21	%
+100		1.82	%
0		0	%
-50		-4.00	%
-100		-7.96	%

The following GAP analysis table indicates the Bank’s interest rate sensitivity position at March 31, 2011 (in thousands):

	Repricing Opportunities
	0-6 months		7-12 months		1-3 years		3+ years
Earning assets:
Loans	$	830,609	$	21,585	$	54,585	$	121,234
Securities and FHLB stock		5,403		—		—		35,525
Interest bearing deposits		267,803		—		—		—
Total earning assets		1,103,815		21,585		54,585		156,759
Interest bearing liabilities:
Transaction accounts and savings		994,541		—		—		—
Certificates of deposit		21,773		15,069		8,016		7,938
Borrowings		5,525		3,747		37,988		53,949
Total interest bearing liabilities		1,021,839		18,816		46,004		61,887
GAP	$	81,976	$	2,769	$	8,581	$	94,872
Cumulative GAP	$	81,976	$	84,745	$	93,326	$	188,198

Market Price Risk.We are exposed to market price risk as a result of making markets and taking proprietary positions in securities. Market price risk results from changes in the level or volatility of prices, which affect the value of securities or instruments that derive their value from a particular stock or bond, a basket of stocks or bonds or an index.

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The following table categorizes “Securities owned, at market value” net of “Securities sold, not yet purchased, at market value,” which are in our securities owned and securities sold, not yet purchased, portfolios and “Securities available for sale” in our available-for-sale portfolio, which are subject to interest rate and market price risk at March 25, 2011 (dollars in thousands):

	Years to Maturity
	1 or less			1 to 5			5 to 10			Over 10			Total
Trading securities, at fair value
Municipal obligations	$	302		$	8,395		$	20,492		$	66,099		$	95,288
Auction rate municipal bonds		—			—			—			22,298			22,298
U.S. government agency obligations		3,844			(12,392	)		(17,317	)		(10,964	)		(36,829	)
Corporate obligations		7			9,687			16,450			46,471			72,615
Total debt securities		4,153			5,690			19,625			123,904			153,372
Corporate equity		—			—			—			5,383			5,383
Other		14,101			—			—			—			14,101
	$	18,254		$	5,690		$	19,625		$	129,287		$	172,856
Assets segregated for regulatory purposes	$	—		$	55,879		$	—		$	—		$	55,879
Weighted average yield
Municipal obligations		3.2	%		3.1	%		4.2	%		6.1	%		5.4	%
Auction rate municipal bonds		0.7	%		—			—			—			0.7	%
U.S. government agency obligations		0.2	%		0.1	%		3.2	%		4.4	%		1.9	%
Corporate obligations		2.8	%		3.5	%		5.1	%		4.9	%		4.4	%
Assets segregated for regulatory purposes		—			0.4	%		—			—			0.4	%
Available-for-sale securities, at fair value
Securities available for sale	$	1,813		$	—		$	—		$	—		$	1,813

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The preparation of financial statements in accordance with accounting principles generally accepted in the U.S. requires management to make estimates and assumptions that affect reported amounts and disclosures. Actual results may differ from these estimates under different assumptions or conditions. Except for our policies and methodology related to our loan loss reserve calculation, our accounting policies and methodology used in establishing estimates have not changed materially since June 25, 2010. See our annual report on Form 10-K for the fiscal year then ended.

FORWARD-LOOKING STATEMENTS

From time to time, we make statements (including some contained in this report) that predict or forecast future events, depend on future events for their accuracy, or otherwise contain “forward-looking” information and constitute “forward-looking statements” within the meaning of applicable U.S. securities legislation. Such statements are generally identifiable by the terminology used such as “plans,” “expects,” “estimates,” “budgets,” “intends,” “anticipates,” “believes,” “projects,” “indicates,” “targets,” “objective,” “could,” “should,” “may” or other similar words. By their very nature, forward-looking statements require us to make assumptions that may not materialize or that may not be accurate. Readers should not place undue reliance on any forward-looking statement and should recognize that the statements are predictions of future results, which may not occur as anticipated. Actual results may differ materially as a result of various factors, some of which are outside of our control, including:

• the interest rate environment;

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• the volume of trading in securities;

• the liquidity in capital markets;

• the volatility and general level of securities prices and interest rates;

• the ability to meet regulatory capital requirements administered by federal agencies, including without limitation, those established by the Order with the OTS;

• the level of customer margin loan activity and the size of customer account balances;

• the demand for housing in Texas, New Mexico and the national market;

• the credit-worthiness of our correspondents, counterparties in securities lending transactions and of our banking and margin customers;

• the demand for investment banking services;

• general economic conditions, especially in Texas and New Mexico and investor sentiment and confidence;

• the value of collateral securing the loans we hold;

• competitive conditions in each of our business segments;

• changes in accounting, tax and regulatory compliance requirements;

• the ability to attract and retain key personnel;

• the availability of credit lines;

• the potential misconduct or errors on the part of employees or entities with whom business is done;

• the ability of borrowers to meet their contractual obligations and the adequacy of our allowance for loan losses; and

• the potential of litigation and other regulatory liability.

Our future operating results also depend on our operating expenses, which are subject to fluctuation due to:

• variations in the level of compensation expense incurred as a result of changes in the number of total employees, competitive factors, or other market variables;

• variations in expenses and capital costs, including depreciation, amortization and other non-cash charges incurred to maintain our infrastructure; and

• unanticipated costs which may be incurred from time to time in connection with litigation, regulation and compliance, loan analysis and modifications or other contingencies.

Other factors, risks and uncertainties that could cause actual results to differ materially from our expectations discussed in this report are described under the headings “Overview,” “Risk Management”, “Risk Factors” and “Critical Accounting Policies and Estimates” and in “Risk Factors” in our annual report on Form 10-K filed with the SEC, and our other reports filed with and available from the SEC. Our forward-looking statements are based on our current beliefs, assumptions and expectation, taking into account information that we reasonably believe to be reliable. All forward-looking statements we make speak only as of the date on which they are made,

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and except, as required by law, we expressly disclaim any obligation or undertaking to disseminate any updates or revisions to any forward-looking statements contained herein to reflect any change in our expectations with regard thereto or any change in events, conditions or circumstances on which any statement is based.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

The information required by this item is incorporated from“Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations” under the caption “Risk Management.”

Item 4. Controls and Procedures

The management of SWS, including the principal executive officer and principal financial officer, has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) pursuant to the Exchange Act) as of March 25, 2011. Based on such evaluation, the principal executive officer and principal financial officer have concluded that, as of March 25, 2011, our disclosure controls and procedures were effective for the purpose of ensuring that information required to be disclosed by SWS in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

There have not been any changes in our internal control over financial reporting (as defined in Rule 13a-15(f) pursuant to the Exchange Act) during the three-months ended March 25, 2011 that have materially affected or are reasonably likely to materially affect our internal control over financial reporting.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

In the general course of our brokerage business and the business of clearing for other brokerage firms, we have been named as defendants in various pending lawsuits and arbitration proceedings. These claims allege violations of various federal and state securities laws, including, specifically, certain Municipal Securities Rulemaking Board violations, an examination of political contributions and the use of consultants in connection with the firm’s municipal securities business. The Bank is also involved in certain claims and legal actions arising in the ordinary course of business. We believe that resolution of these claims will not result in any material adverse effect on our business, consolidated financial condition, results of operations or cash flows.

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Item 1A. Risk Factors

Except for the addition of the risk factors below, there have been no material changes from the risk factors disclosed in our Form 10-K for the fiscal year ended June 25, 2010 and in our quarterly reports on Form 10-Q filed after this Form 10-K.

Our assets as of March 25, 2011 include a deferred tax asset, the full value of which we may not be able to realize.

We recognize deferred tax assets and liabilities based on differences between the financial statement carrying amounts and the tax bases of assets and liabilities. As of March 25, 2011, our deferred tax assets were approximately $34.0 million. We regularly review our deferred tax assets for recoverability based on our history of earnings, expectations for future earnings and expected timing of reversals of temporary differences. Realization of deferred tax assets ultimately depends on the existence of sufficient taxable income, including taxable income in prior carry-back years, as well as future taxable income.

The transaction contemplated by the Funding Agreement with Oak Hill and Hilltop remains subject to regulatory and stockholder approval, and our failure to obtain such approvals and close the transaction may adversely affect our future business, financial condition and results of operations.

The proposed transaction with Hilltop and Oak Hill, as contemplated under the Funding Agreement, is subject to regulatory and stockholder approval, which may not be obtained. Specifically, the Funding Agreement requires approval by the OTS or, if after July 21, 2011, the Board of Governors of the Federal Reserve System, of a rebuttal of control submission under the Savings and Loan Holding Company Act, and the investors are not required to complete the transaction if the Office of Thrift Supervision or the Board of Governors of the Federal Reserve System, whether in connection with the foregoing determinations or otherwise, imposes any condition or takes any action which would result in either investor being deemed to control the company under the Savings and Loan Holding Company Act or its implementing regulations or other applicable law or regulation, or that would materially adversely affect, in an investor’s good faith judgment, the economic or other benefits expected of the transactions contemplated by the Funding Agreement to either investor. In addition, pursuant to certain NYSE rules and regulations, stockholder approval is required prior to the issuance of common stock, or securities convertible into or exercisable for common stock, in any transaction or series of related transactions where, in general, the issuance involves more than 20% of our outstanding common stock or voting rights. The issuance of warrants and shares of common stock issuable upon exercise of the warrants (subject to anti-dilution adjustments) or, in certain circumstances, non-voting perpetual participating preferred stock issuable upon exercise of the warrants (which may be convertible into common stock in certain circumstances), if fully exercised, would represent approximately a 34% equity interest in our company in the aggregate. On April 14, 2011, we submitted a proposal to our stockholders to, among other things, approve the issuance of the warrants and the securities exercisable upon exercise of the warrants at a special meeting of stockholders to be held on May 18, 2011.

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If we do not receive the necessary regulatory and stockholder approval for this transaction, we will be unable to complete the transactions contemplated by the Funding Agreement and will not receive the $100 million loan. Further, we will be contractually obligated to reimburse the investors $250,000 upon termination of the Funding Agreement. We will also be contractually obligated, under certain circumstances, to pay the investors a termination fee of $3.5 million if, within twelve months of the termination of the Funding Agreement, we enter into an agreement with respect to, or complete a similar transaction with, another party and certain other requirements are met.

Any failure to consummate the proposed transaction with Hilltop and Oak Hill may impair our ability to raise additional capital, substantially limit our ability to implement our current business strategies and cause the market price of our common stock to decline. In addition, such failure may limit our ability to effectively sustain our operations, especially in the event of any future economic downturn, and could negatively affect our future business, financial condition or results of operations.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

None.

Item 3. Defaults upon Senior Securities

None.

Item 4. (Removed and Reserved)

Item 5. Other Information

The table set forth below presents the amount awarded under our restricted stock plan for fiscal 2011 to each of the following Board of Directors. The Compensation Committee of the Board of Directors approved the awards on March 17, 2011.

	Restricted Stock Plan
Name and Position	Dollar Value ($)		Number of Shares Granted(1)
Robert A. Buchholz Director	$	75,000		12,255
I.D. Flores, III Director		75,000		12,255

⁽¹⁾  These shares are based on the last reported sales price of our common stock on the NYSE on March 17, 2011, which was $6.12 per share.

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On April 28, 2011, the Board of Directors approved the payment of a one time retention bonus to be made to certain executive officers. The retention bonus compensation is payable in four annual installments beginning in August of 2011. At the discretion of the Board of Directors, up to one-half of the full amount may be paid in common stock of the Company. Each installment of the retention bonus is subject to the current employment of the executive officer by the Company at the payment date. The table set forth below presents the amount awarded under the retention bonus plan to each of the following executive officers:

Name and Position	Amount Paid Under the Retention Bonus Plan
James H. Ross Director, President and Chief Executive Officer	$	400,000
Stacy M. Hodges Executive Vice President and Chief Financial Officer		345,000
Daniel R. Leland Executive Vice President		1,300,000
Richard H. Litton Executive Vice President		1,300,000
All executive officers as a group (8 persons)	$	4,050,000

Item 6. Exhibits

The exhibits required to be furnished pursuant to Item 6 are listed in the Exhibit Index filed herewith, which Exhibit Index is incorporated herein by reference.

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

	SWS Group, Inc.
	(Registrant)
May 4, 2011	/S/ James H. Ross
Date	(Signature)
	James H. Ross
	Director and Chief Executive Officer
	(Principal Executive Officer)
May 4, 2011	/S/ Stacy M. Hodges
Date	(Signature)
	Stacy M. Hodges
	Chief Financial Officer
	(Principal Financial Officer)
	(Principal Accounting Officer)

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SWS GROUP, INC. AND SUBSIDIARIES

INDEX TO EXHIBITS

Exhibit Number	Description
3.1	Restated Certificate of Incorporation of the Registrant incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K filed October 15, 2009
3.2	Restated By-laws of the Registrant incorporated by reference to Exhibit 3.2 to the Registrant’s Current Report on Form 8-K filed March 21, 2011
31.1*	Chief Executive Officer Certification filed pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2*	Chief Financial Officer Certification filed pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1*	Chief Executive Officer Certification furnished pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2*	Chief Financial Officer Certification furnished pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

* Filed herewith

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