SCHB: The Risks Outweigh The Prospects

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SCHB offers low-cost broad-market exposure and has a strong historical performance with a 12.78% annual return over the last decade, closely tracking its index. Current risks include high tech...

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This index is composed of the largest 2,500 companies that are publicly traded in the U.S., making SCHB one of the most chosen vehicles for long-term vanilla broad-market exposure. Its assets under management are about $31 billion, its expense ratio is very low at 0.03%, and its turnover during its last fiscal year was a modest 4%. For long-term equity investors, SCHB is a good option which is supported by its past performance, partially reflective of the largest companies' ability to keep growing at an attractive pace. The prospects of AI and potentially lower interest rates seem to also be the drivers behind strong market sentiment. However, I believe that market participants should be cautious right now when it comes to increasing their broad-market allocations. There are certain risks that encourage a more defensive approach. In this article, I will discuss both those and examples of vehicles that could be used to be defensive until those risks appear less threatening. But let's first examine SCHB's past performance. Performance First, the fund has performed with a very small tracking error for a long time as it has returned an average of 12.78% annually in the last 10 years, while the index returned 12.80%. Now, comparing its total returns with those of ETFs representing different size segments of the market demonstrates the growth potential large-cap stocks are associated with. By removing the largest companies that have recently led the market to new highs through mid-cap and small-cap funds, one can miss out on the long-term potential supported by innovation. Data by YChartsWhile there is a strong case for being invested in SCHB for the long haul, current conditions make transferring more funds to this vehicle risky. The Risks Are Discouraging As inflation is now closer to the Fed's target and unemployment remains at a low level, the recent cut in the federal funds rate may have been surprising because of its size but nevertheless finds support in the progress made so far and in the fact that it was the first cut to have occurred in about two and a half years. Data by YChartsSince the time that the Fed stopped the rate hikes in 2023, the market has grown more confident as indicated by the more rapid growth following near the end of last year: Data by YChartsAnd though more cuts are likely to follow, this doesn't give the green light for increased broad-market exposure. The Fed has stated that it will continue its reduction of treasury securities and this is not surprising as its portfolio is still at a relatively high level:   FREDBecause of the size of liquidity that was injected into the system as part of the efforts to stimulate the economy following the COVID-19 panic, there is still a lot of room for reducing the Fed's portfolio. The growth of the M2 money supply has only decelerated; liquidity still seems to be at a high level: Data by YChartsTherefore, more QT is justified and as we don't know to what extent it will continue, we don't know how large its impact will be on the market compared to more rate cuts. Investors should proceed with caution during a time when the Fed reduces its policy interest rate as well as its treasury portfolio and the market keeps hitting new highs. It is also at least possible that the market expects the following cuts to be at the same pace and in the same magnitude as the first one. I think that it's unlikely the Fed will risk another inflationary spike; its determination to reduce liquidity in the system serves as a clue that it is mindful of that. If the market currently doesn't think the same way, the realization may result in a correction. Maybe it's best to be defensive right now in order to minimize the downward pressure this would cause. I think that waiting until we have a clearer view of the scope of the current round of QT is a good idea before becoming aggressive. And SCHB is a vehicle for expressing aggressiveness because of certain risks that it comes with. First, nearly one third of its portfolio is allocated to tech stocks and its top 10 holdings also represent 30% of the portfolio right now, resulting in high concentration risk. Additionally, its current earnings multiple is 26.28x and its price/book ratio is 4.28x; these are not historically low levels if you look at the market's valuation in the last 10 years. Data by YChartsBeing Defensive Through Value If you look at the price pressure SCHB suffered in 2022 after the Fed started the hikes as well as its subsequent recovery up until now when compared to the Schwab U.S. Large-Cap Value ETF (SCHV), it's clear that SCHB is more volatile. Be aware that this is just an example of its higher volatility and shouldn't represent the price change range it may realize if certain risks materialize in the future; drawdowns may be much more severe.   TrendSpider  TrendSpiderSo, large-cap value seems like a good way to remain defensive right now. But you may also want to consider equal weighting as an alternative way; the Invesco S&P 500 Equal Weight ETF (RSP) also seems like it's less volatile than SCHB and its P/E and P/B ratios are at 17.72x and 2.94x, respectively.   TrendSpiderVerdict In conclusion, SCHB seems like a good fund to hold for a wide equity exposure at a low cost, but current risks make it a hold. Market participants should consider defensive options or stay out of the market altogether and continually monitor current events to assess the risks and be aware of opportunities.  You may have a different view, however, and I'm looking forward to a discussion. Leave a comment below and I'll get back to you as soon as I can. Thank you for reading.","kind":"highlight","is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"0","news_tag":"analysis","news_rank":0,"symbols":[],"gpt_button":0},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.29.3","shortVersion":"4.29.3","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2474835514"}