Frequently Asked Questions
Portfolio Construction & ETFs
An ETF, or exchange-traded fund, is a basket of securities that gives you exposure to a particular asset class, industry, commodity, or region. We like them because they offer similar diversification as an index mutual fund but unlike index mutual funds, ETFs can be traded at any time during the day. ETFs also offer exposure to a greater breadth of markets, are more transparent in terms of their underlying holdings, and tend to be more tax efficient and low cost.
Both Schwab ETFs™ and third-party ETFs are filtered through a carefully selected set of stringent criteria. This ensures that all ETFs chosen for Schwab Intelligent Portfolios deliver both diversity and cost efficiency.
These selection criteria help pare down more than 2,000 ETFs to the 51 that could potentially be part of your Schwab Intelligent Portfolios account. So, let's examine those criteria and see how that works.
Eschewing risk. First of all, any nonstandard ETFs are eliminated--that is, ETFs that are inverse and leveraged, actively managed, that invest only in one country, or those that have less than three months' of history, among other factors. This helps avoid exposing the portfolios to some riskier ETFs that could compromise your target profile.
Size matters. Next, all ETFs without sufficient assets under management are stripped out, because ETFs without sufficient assets are at greater risk of closing. And although an ETF that liquidates ultimately distributes the proceeds to shareholders, it's preferable to avoid the potential tax complexities that could arise.
Monitoring consistency. Schwab Intelligent Portfolios ETFs must closely track the indexes our asset allocation models are based on. This measure is not whether the fund outperforms the benchmark, but rather the degree to which it approximates the index and is a good representation of the asset class.
Low OERs are key. Finally, the selection process focuses on ETFs with low operating expense ratios (OERs). OERs are the percentage of fund assets that the ETF managers spend each year to keep the funds running. Schwab Intelligent Portfolios include ETFs which have OERs among the lowest in their asset classes while also meeting the size, tracking, and bid-ask spread criteria. (Source: "How to Choose an Exchange-Traded Fund (ETF)," The Wall Street Journal How-To Guide.)
After the ETFs are chosen, Charles Schwab Investment Advisory, Inc. (CSIA) monitors their performance quarterly. CSIA also reviews the ETF selection annually to make sure the ETFs available for Schwab Intelligent Portfolios continue to meet the criteria described above, and can provide consistency and diversity.
Please visit the "Schwab Intelligent Portfolios Selection Process" page for more information and a representative list of ETFs used in Schwab Intelligent Portfolios.
Asset allocation is the foundation of every well-constructed investment portfolio and is at the heart of the advice we at Schwab give when advising clients on their total portfolio. Because it is so important, we have dedicated an entire team of Charles Schwab Investment Advisory (CSIA) experienced analysts to continually use state-of-the-art research and evolve our approach to creating asset allocations designed to improve outcomes for individual investors.
Schwab Intelligent Portfolios Asset Allocation White Paper
High-Yield Bonds: Why "Risky" Asset Classes Can Help Diversify Risk
The appropriate asset allocation differs from person to person depending on their situation, risk tolerance, and time frame for their investing goals. The table below shows a sample asset allocation for three individual investors ranging from aggressive to conservative.
•Investor 1. A 30-year old who sees herself as aggressive and is saving for retirement. This investor clearly has a long investment horizon (both for starting to withdraw from this portfolio and the period over which she would need to withdraw). The primary goal is capital appreciation (growth), and her investment strategy is Global Aggressive Growth with Taxable Bonds.
•Investor 2. A 40-year-old father whose tolerance for fluctuations in his portfolio value is above average and is using this account to save for the college expenses of his 3-year-old twins. His goal is a combination of capital appreciation, income and being somewhat defensive. His investment strategy is Global Moderate Growth with Taxable Bonds.
•Investor 3. A tax-sensitive 65-year-old retired investor who is living off her portfolio and wants to reduce portfolio volatility. Her primary goal is to generate adequate income starting now, with some potential for capital appreciation to sustain the portfolio over a long-term. Her investment strategy is Income Focused Moderately Conservative with National Muni Bonds.
Investor 1 Investor 2 Investor 3 Stocks 88% 57% 27% U.S. Large Company Stocks 15.0% 10.0% 0.0% U.S. High Dividend Stocks 0.0% 0.0% 12.0% U.S. Large Fundamental 10.0% 7.0% 0.0% U.S. Small Company Stocks 10.0% 7.0% 0.0% U.S. Small Fundamental 7.0% 5.0% 0.0% International Developed Large Company Stocks 6.0% 4.0% 0.0% International Developed Large Fundamental 9.0% 5.0% 0.0% International Developed Small Company Stocks 4.0% 2.0% 0.0% International Developed Small Fundamental 6.0% 4.0% 0.0% International High Dividend Stocks 0.0% 0.0% 12.0% International Emerging Market Stocks 7.0% 4.0% 0.0% International Emerging Market Fundamental 10.0% 7.0% 0.0% U.S. Exchange Traded REITs 2.0% 1.0% 2.0% International Exchange Traded REITs 2.0% 1.0% 1.0% Investor 1 Investor 2 Investor 3 Fixed Income 3.1% 31.5% 58.0% U.S. Treasuries 0.0% 2.0% 0.0% U.S. Investment Grade Corporate Bonds 3.1% 12.0% 0.0% U.S. Securitized Bonds 0.0% 3.0% 0.0% U.S. Inflation Protected Bonds 0.0% 12.5% 8.0% International Developed Country Bonds 0.0% 0.0% 2.0% U.S. Corporate High Yield Bonds 0.0% 1.0% 1.0% International Emerging Market Bonds 0.0% 1.0% 1.0% Investment Grade Muni Bonds 0.0% 0.0% 31.0% Preferred Stocks 0.0% 0.0% 1.0% Bank Loan and other Floating Rate Notes 0.0% 0.0% 2.0% Investor 1 Investor 2 Investor 3 Commodities 2.0% 1.0% 0.0% Gold & Other Precious Metals 2.0% 1.0% 0.0% Investor 1 Investor 2 Investor 3 Cash 6.90% 10.50% 15.0%
Learn more by visiting this asset allocation white paper.
Cash investments play an important role within a well-diversified portfolio and serve several purposes, including:
• Greater stability
• Potential inflation protection
A cash allocation provides stability to help mitigate downside risk. Lower portfolio risk can help moderate downturns and keep investors focused on their longer-term goals. Cash allocations are determined according to an investor's risk profile, with the most risk-averse or short-term portfolios holding the highest levels of cash and the least risk-averse or longer term ones holding the lowest levels of cash.
Cash in Schwab Intelligent Portfolios provides an additional layer of stability in the form of FDIC insurance of up to $250,000 per depositor as it is "swept" into deposit accounts at Schwab Bank, where it also earns a market rate of interest for highly liquid cash investments.
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