Investors looking to play it safe with fixed income exchange traded funds while minding costs have some options, including the Schwab US Aggregate Bond ETF (NSYEArca: SCHZ).
SCHZ consists of a variety of fixed rate, non-convertible and U.S. dollar denominated bonds. In addition, SCHZ is one of the few ETFs that track the broad and well-known Bloomberg Barclays US Aggregate Index. Bonds the ETF incorporates includes U.S. Treasuries, government-related and corporate bonds and mortgage pass-through securities.
SCHZ charges just 0.04% per year, or $4 on a $10,000 investment, making it one of the least expensive options in its respective category. The fund is a practical idea for risk-averse investors because of its large exposure to U.S. government debt.
“The government is the largest debt issuer in the United States, so the portfolio has a larger position in Treasuries than the intermediate core bond Morningstar Category average,” writes Morningstar analyst Neal Kosciulek in a note. “The strategy invests nearly 65% of its assets in Treasuries and agency mortgaged-backed securities, which carry AAA ratings, while the corresponding figure for the category average is only about 45%. While this limits the fund’s return potential, its lower credit risk should offer better downside protection.”
Playing it Safe with ETFs
Although yields on Treasuries are low due to the Federal Reserve pushing interest rates to historic lows, the asset class could make sense for investors skittish about the economy and the upcoming presidential election. Plus, SCHZ is a good idea for investors looking to skirt credit risk.
“This is a conservative portfolio with minimal credit risk. And while this can make it a low hurdle for active managers to beat, that does not detract from its appeal,” according to Morningstar. “Risk and return are highly correlated in the fixed-income market, so additional risk exposure is not necessarily ideal. Nearly 75% of the assets in this portfolio are rated AAA, making this one of the more conservative options in the category.”
A narrowing gap between shorter- and longer-dated bonds have reflected investor expectations that interest rates will remain subdued. However, the gap between the two widens when investors grow optimistic about the economy, especially with growing anticipation of a viable Covid-19 vaccine that could help return the economy back to normal.
“At the end of August 2020, Treasury bonds represented just under 40% of the fund’s assets, while the corresponding figure for the category average was just under 20%. Agency MBS and corporate debt composed most of the balance. These sectors represented about 26% and 27% of the portfolio, respectively. Consequently, the fund’s performance is driven primarily by interest-rate risk,” said Morningstar of SCHZ.
The research firm has a “silver” rating on the Schwab ETF.
For more on income strategies, visit our Retirement Income Channel.