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SCHA Looks Like A Nice Complimentary Holding To Enhance A Diversified Portfolio

Summary I’m taking a look at SCHA as a candidate for inclusion in my ETF portfolio. The expense ratio relative to the diversification is fantastic. The moderate level of correlation to major funds helps SCHA find a place. I wouldn’t consider SCHA as a core holding, but I may choose it for 5% to 10% of the portfolio. I’m not assessing any tax impacts. Investors should check their own situation for tax exposure. Investors should be seeking to improve their risk adjusted returns. I’m a big fan of using ETFs to achieve the risk adjusted returns relative to the portfolios that a normal investor can generate for themselves after trading costs. I’m working on building a new portfolio and I’m going to be analyzing several of the ETFs that I am considering for my personal portfolio. One of the funds that I’m considering is the Schwab U.S. Small-Cap ETF (NYSEARCA: SCHA ). I’ll be performing a substantial portion of my analysis along the lines of modern portfolio theory, so my goal is to find ways to minimize costs while achieving diversification to reduce my risk level. What does SCHA do? SCHA attempts to track the total return of the Dow Jones U.S. Small-Cap Total Stock Market Index. At least 90% of funds are invested in companies that are part of the index. SCHA falls under the category of “Small Blend”. Does SCHA provide diversification benefits to a portfolio? Each investor may hold a different portfolio, but I use (NYSEARCA: SPY ) as the basis for my analysis. I believe SPY, or another large cap U.S. fund with similar properties, represents the reasonable first step for many investors designing an ETF portfolio. Therefore, I start my diversification analysis by seeing how it works with SPY. I start with an ANOVA table: (click to enlarge) The correlation is about 90%. This is a fairly moderate correlation. It’s low enough that we have a chance at lowering the risk level of a total portfolio so long as the standard deviation is not too high. Standard deviation of daily returns (dividend adjusted, measured since January 2012) The standard deviation isn’t great, but it is acceptable. For SCHA it is .9294%. For SPY, it is 0.7300% for the same period. SPY usually beats other ETFs in this regard, so that isn’t a major issue. Mixing it with SPY I also run comparisons on the standard deviation of daily returns for the portfolio assuming that the portfolio is combined with the S&P 500. For research, I assume daily rebalancing because it dramatically simplifies the math. With a 50/50 weighting in a portfolio holding only SPY and SCHA, the standard deviation of daily returns across the entire portfolio is 0.8094%. If we drop the position to 20% the standard deviation goes down to .7559%. In my opinion, that’s still too high. Once we drop it down to a 5% position the standard deviation is .7357%. If I include SCHA, I would probably seek to use an exposure level around 5%, but could potentially go as high as 10%. Why I use standard deviation of daily returns I don’t believe historical returns have predictive power for future returns, but I do believe historical values for standard deviations of returns relative to other ETFs have some predictive power on future risks and correlations. Yield & Taxes The distribution yield is 1.43%. The SEC yield is 1.30%. In my opinion, these yields make the index less appealing for a retiring investor, but an argument could still be made for a position as large as 5% because of the correlation being down to almost 80%. I’m not a CPA or CFP, so I’m not assessing any tax impacts. If I were using SCHA, I would want it to be in a tax exempt account to remove any headaches associated with frequent rebalancing. Expense Ratio The ETF is posting .08% for an expense ratio. I want diversification, I want stability, and I don’t want to pay for them. The expense ratio on this fund is still within my comfort range. This expense ratio is lower than SPY, but higher than (NYSEARCA: SCHX ). SCHX is an alternative to SPY that I found more appealing. Market to NAV The ETF is at a .07% premium to NAV currently. I’m not thrilled about that, but it isn’t terrible. However, premiums or discounts to NAV can change very quickly so investors should check prior to putting in an order. Largest Holdings The portfolio is wonderfully diversified. The largest position is extremely short duration bonds at .67%. I suspect the ETF is using this as a method for storing dry powder rather than holding cash. That would be a fine solution in my book and I don’t mind seeing it in the portfolio as long as it is less than 1% of assets. I don’t want to be paying an expense ratio on a significant amount of funds that are not invested. For the real investments of the fund, the vast majority are under .30%. This is spectacular diversification and it is remarkable to find this with an expense ratio of only .08%. (click to enlarge) Conclusion I’m currently screening a large volume of ETFs for my own portfolio. The portfolio I’m building is through Schwab, so I’m able to trade SCHA with no commissions. I have a strong preference for researching ETFs that are free to trade in my account, so most of my research will be on ETFs that fall under the “ETF OneSource” program. So far, I like SCHA for exposure to the smaller capitalization side of the market. The moderate correlation helps to mitigate the higher standard deviation of returns and makes this ETF look like a nice fit for a small portion of the portfolio. For me, that’s 5 to 10%. I’d be concerned about investors considering it a core asset and putting in 20% or more, but it looks like a nice piece for that small position in the portfolio. Additional disclosure: Information in this article represents the opinion of the analyst. All statements are represented as opinions, rather than facts, and should not be construed as advice to buy or sell a security. Ratings of “outperform” and “underperform” reflect the analyst’s estimation of a divergence between the market value for a security and the price that would be appropriate given the potential for risks and returns relative to other securities. The analyst does not know your particular objectives for returns or constraints upon investing. All investors are encouraged to do their own research before making any investment decision. Information is regularly obtained from Yahoo Finance, Google Finance, and SEC Database. If Yahoo, Google, or the SEC database contained faulty or old information it could be incorporated into my analysis. The analyst holds a diversified portfolio including mutual funds or index funds which may include a small long exposure to the stock.

Top ETF Stories Of 2014 Worth Watching In 2015

The stock market across the globe has given mixed performances in 2014. While the Dow Jones Industrial Average crossed the 18,000 mark for the first time in mid December and the S&P 500 is on the verge of crossing the 2,100 level on the back of an accelerating job market and improving economic fundamentals, a number of international economies have either slipped into recession or are struggling to reignite growth. In particular, several events will likely spill over into 2015 and continue to impact the ETF world either in a positive or a negative way. Below, we have highlighted some of these events, which will hog investor attention in the New Year: Oil/Energy ETFs The broad energy space hit headlines all year round as oil price jumped to a fresh high in mid June and then took a reverse turn slipping to a multi-year low in December. While geopolitical tensions in Russia and insurgency in Iraq propelled the oil prices and the energy ETFs higher in the first half of the year, rising U.S. shale oil production, abundant supply, slowing global demand, no cut in OPEC output, and a strong dollar pushed them to lower levels in recent months. Whether the bear will continue to chase the energy space or will it turn around in 2015? This is THE question everywhere in the world. However, oil price is showing some strength in today’s trading session on concerns over the Libyan supply disruption. As a result, investors should definitely keep a close eye on ETFs that will largely be impacted by this development. In particular, the First Trust ISE-Revere Natural Gas Index Fund (FCG ) , SPDR S&P Oil & Gas Exploration & Production ETF (NYSEARCA: XOP ) , Market Vectors Oil Services ETF (NYSEARCA: OIH ) , United States Oil Fund (NYSEARCA: USO ) and United States Brent Oil Fund (NYSEARCA: BNO ) are some of the funds that could see huge volatility. FCG, having a Zacks ETF Rank of 5 or ‘Strong Sell’ rating, has stolen the show this year, plunging 41.2% while XOP and OIH lost about 28% and 24.2%, respectively and have a Zacks ETF Rank of 4 or ‘Sell’ rating. The future-based oil ETFs – BNO and USO – declined 47.8% and 41.7%, respectively. Russia ETFs Russian ETFs have seen horrendous trading this year thanks to several rounds of Western sanctions imposed on the country for invading Ukraine and the oil price collapse. The Russian ruble also saw a terrible decline against the greenback, losing about 50% since June. To combat the slide in the currency and reinvigorate growth, the Russian central bank has taken various measures. While direct currency intervention, minor rate hikes, and tightening supplies of the ruble did not bear any fruit, the central bank took a bold step this month by raising key interest rates rate from 10.5% to 17%, representing the steepest one-time hike in 16 years. The ruble has recovered slightly after the move but Russian economic growth still remains gloomy due to limited opportunities for investment, declining oil prices, rising inflation, weak deposit growth, soft earnings, falling consumer confidence and lack of growth drivers. Given this, Russia ETFs remained in investors’ eyes in the emerging/European market space in 2015. There are currently four non-leveraged ETFs targeting the Russian stocks – the Market Vectors Russia ETF (NYSEARCA: RSX ) , iShares MSCI Russia Capped ETF (NYSEARCA: ERUS ) , Market Vectors Russia Small-Cap ETF (NYSEARCA: RSXJ ) , and SPDR S&P Russia (NYSEARCA: RBL ) . All the products currently have a Zacks ETF Rank of 5 and are down in the range of 40-50% this year. U.S. Treasury ETFs While short-term Treasury ETFs have stayed almost flat this year, long-term products are leading the space. This trend is unlikely to continue next year as the Fed is on track to raise interest rates given a strengthening U.S. economy. Some market experts expect the first interest rate hike since 2006 sooner than expected in mid 2015, resulting in aggressive higher yields since 2009. According to the Wall Street message , 2015 would be disastrous for U.S. government bonds. In fact, the short end of the yield curve is rising faster than the long end and the spread between the 5-year and 30-year yields tightened to 109 bps from 220 bps at the start of the year, indicating that the yield curve is plateauing. As such, investors should take great precaution while trading in government bonds in the coming months. The three most popular Treasury funds – iShares 1-3 Year Treasury Bond ETF (NYSEARCA: SHY ) , iShares 7-10 Year Treasury Bond ETF (NYSEARCA: IEF ) and iShares 20+ Year Treasury Bond ETF (NYSEARCA: TLT ) are up 0%, 6.20%, and 22.14%, respectively. All these products have a Zacks ETF Rank of 3 or ‘Hold’ rating. SHY targets short end of the yield curve while IEF and TLT focus on mid-term and long-term government bonds, respectively. Bottom Line Investors should closely watch the developments in these spaces as we head into the next year and should tap opportunities as and when they come.

Latest Low Carbon ETF Sees Huge Popularity Out Of The Gate

The ETF world is becoming increasingly competitive as issuers continue to line up new products to entice investors. While most try to please investors by charging low expense ratios, others have even attempted product charging a zero percent management fee. In this cutthroat competitive world, iShares has recently launched a product based on the low carbon emission idea. The newly launched iShares MSCI ACWI Low Carbon Target ETF (NYSEARCA: CRBN ) comes close on the heels of the recently launched SPDR MSCI ACWI Low Carbon Target ETF (NYSEARCA: LOWC ) by State Street. Though the two new funds are hardly distinguishable from each other and both look to provide exposure to companies with lower carbon and greenhouse gas emissions, below we have highlighted some of the details of the latest product on the block. CRBN in Focus The newly launched ETF tracks the MSCI ACWI Low Carbon Target Index to provide exposure to developed and emerging market equities with a lower carbon exposure than that of the broad market. For this purpose, the index goes overweight in companies with low carbon emissions relative to sales and per dollar of market capitalization. Also, the index supports companies that are less dependent on fossil fuels. This strategy results in the fund holding a well-diversified basket of 956 stocks. Apple occupies the top position with 1.82% exposure, followed by Microsoft (NASDAQ: MSFT ) (1.04%) and Johnson and Johnson (NYSE: JNJ ) (0.87%). Sector-wise, Financials dominates the fund with a little less than one-fourth exposure, followed by Information Technology with 13.7% allocation and Industrials with 11.7% exposure. Geographically, the U.S. takes the biggest chunk with half of the assets invested in it. This is followed by Japan (7.5%), U.K. (6.6%) and Canada (3.5%). The fund charges 20 bps in fees, including waivers. How Does it Fit in a Portfolio? The fund is a great choice for long-term investors, especially institutions looking to invest in a way that can have a positive impact on the broader economy. The impact of climate change worldwide and the detrimental consequences of the presence of greenhouse gases in the environment have become an important topic of discussion lately. People these days are more focused on socially responsible investing and the new fund is a good platform for them to do so. ETF Competition Though the socially responsible investing space has a lot of funds focusing on companies that are socially accountable, the focus on funds targeting low carbon emission companies is still quite low. However, the iPath Global Carbon ETN (NYSEARCA: GRN ) is one such product which focuses on this space. The fund tracks the Barclays Capital Global Carbon Index Total Return, which measures the performance of the most highly traded carbon-related credit plans. The ETN is, however, quite unpopular and illiquid with an asset base of under $3 million and an average volume of 4,000 shares a day. The product is also quite expensive as compared with the newly launched product and charges 75 basis points as fees. Apart from GRN, the newly launched CRBN is likely to face competition from another recently launched fund by State Street’s LOWC, as it also tracks the same index and charges the same fees. With that being said, CRBN has already established its popularity in just a few days of its launch and is presently the most successful ETF launch, by assets, since October, as per research firm XTF . CRBN has gathered roughly $137.8 million in assets since its inception on December 8 this month, while LOWC has managed to garner $71.13 million after its launch on November 25. This clearly indicates that CRBN is already winning in terms of popularity and might have great days ahead as well.