Schwab Plans Answer To AGG, BND

April 25, 2011


Charles Schwab, the discount brokerage that entered the ETF industry with its own funds in November 2009, is hoping to market an aggregate bond fund that will go head-to-head with well-established heavyweights from Vanguard and iShares.

The Schwab U.S. Aggregate Bond ETF (NYSEArca: SCHZ) will use a sampling strategy to track the market-capitalization-weighted Barclays Capital U.S. Aggregate Bond Index, the same index used by the $9 billion Vanguard Total Bond Market ETF (NYSEArca: BND), the $11 billion iShares Barclays Aggregate Bond Fund (NYSEArca: AGG) and the SPDR Barclays Capital Aggregate Bond ETF (NYSEArca: LAG).

Schwab has so far only rolled out bond ETFs linked to the U.S. Treasurys market, and its new plans are a logical move for the San Francisco-based company as it focuses on providing its clients core investment exposures using its ETFs. The new bond fund, like its three competitors, gives investors broad access to the investment-grade bond market.

BND is by far the cheapest of the broad bond ETFs, with an annual expense ratio of 0.12 percent, compared with LAG’s gross 0.22 percent and net 0.1345 percent, and AGG’s 0.24 percent. LAG has just $222 million in assets.

Schwab, which broke into the ETF business almost a year and a half ago with the aim of being a low-cost provider, is likely to meet or beat BND’s costs. After all, its other three fixed-income ETFs—a TIPS fund as well as short-term and a midterm U.S. Treasurys fund—are the cheapest in their respective spaces, costing anywhere from 0.12 and 0.14 percent. But it didn’t disclose fees in the paperwork it filed with U.S. regulators.

Schwab’s new fund, like those of its competitors, will canvass the U.S. investment-grade taxable bond market by investing in everything from U.S. Treasurys, government-linked and corporate bonds to mortgage pass-through securities, commercial mortgage-backed securities and asset-backed securities, according to the filing.

All bonds are fixed-rate, nonconvertible securities with at least $250 million of outstanding face value that have one or more years remaining to maturity, the filing said. The commercial mortgage-backed and the asset-backed securities have a minimum deal size of $500 million each, and a minimum tranche size of $25 million.

Derivatives instruments such as futures contracts and options might be used in the strategy to “help manage interest rate exposure,” Schwab said in the filing.

Schwab posted an 84 percent jump in first-quarter operating income as client assets climbed 10 percent to a record $1.65 trillion.


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