SCHP: A Good Option For The Inflation Leery Investor

| About: Schwab U.S. (SCHP)

Summary

Schwab's U.S. TIPS ETF offers exposure to U.S. Treasuries with inflation protection.

TIPS are also known as Treasury Inflation Protected Securities. This is because the pricipal of these bonds increases with the CPI.

TIPS should theoretically perform well in this dovish macroeconomic climate but possible deflation poses a huge risk.

The Schwab U.S. TIPS ETF (NYSEARCA:SCHP) is a fund that should be of interest to investors who are worried about the long term ramifications of dovish Federal Reserve Policy but are not interested in gold. This ETF tracks the Barclay's U.S. Government Inflation-Linked Bond Index which in turn tracks Treasury Inflation Protected Securities (TIPS) issued by the Government.

For those who are unaware of what TIPS are, they are just like regular bonds but designed to compensate the investor for increasing inflation. They do this by increasing the principal to match the U.S. inflation rate as measured by the Consumer Price Index. The coupon on a TIPS bond is paid bi-annually at a fixed rate and it does not increase with inflation.

The Schwab U.S. TIPS ETF:

Basic Stats:

Price: $55.61

NAV: 55.46 (0.05% premium)

Payment: $0.15 (0.26%)

Holdings: 99.97% Government Bonds.

SCHP offers investors a good mix of security and inflation protection. I think this ETF is best viewed as a position to hold long term. However, it can also be used for short term speculation on whether or not the CPI will hit or exceed its targets when the numbers come out. If you are worried that hyper-inflation will be the long term result of the Fed's dovish policy a security like SCHP will let you rest easier, for this purpose it can be seen as an alternative to gold.

The ETF is rebalanced every month and all securities included in the fund must have over $250 million par value outstanding. Tracking error is minimal at around 0.08% per year. The first thing to note is that this fund is unbelievably cheap, even for a Treasury based fund. The expense ratio is a tiny 0.07% making it by far the least expensive ETF I have ever looked at. The expense ratio is what accounts for most of the tracking error.

The bond maturity exposure is moderate long-term and as expected from Uncle Sam these are 100% AAA.

1-3 years 3-5 years 5-7 years 7-10 years 10-15 years 15+
15.44% 20.20% 15.75% 27.98% 9.39% 11.23
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SCHP is biased towards longer durations so it should not be seen as the go to TIPS ETF for short term speculation. With funds like this one you should be betting on long term increases in the CPI. That is not to say that SCHP will be unaffected by monthly numbers. It certainly will, just not as much as funds that are concentrated in the sub 3 year maturity ranges.

The Yield:

The fund pays a .26% yield. This was 15 cents last year according to dividend.com. As far as I'm concerned a yield that low might as well not exist, but if you are excited about it-don't get your hopes up. The payout is extremely unreliable. Here is a chart of the payouts since 2011. They have declined substantially and are spotty at best:

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The Economic Outlook For TIPs:

TIPS are pretty cheap right now. The Fed's inflation target is 2.0% and the headline inflation was very low for a while as a result of falling energy prices draggingClick to enlarge down the CPI. Over all the data is flat and not exciting.

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If economic conditions slow down in the near future, something which is very possible, an investor who is long on an ETF like SCHP could find themselves facing deflation. Deflation is something that would be disastrous for this securities performance and should be kept in mind as a significant risk factor.

Conclusion:

SCHP is a pretty safe bet for long term investors who predict steady increases to the CPI over the coming years. Speculators who want to profit from monthly and other short term data would be better served with a TIPS fund containing shorter maturity bonds.

For those who predict hyperinflation or a weakening dollar SHCP is a slam dunk and should be seen as a good alternative to physical gold, Gold ETFs such as the SPDR Gold Trust ETF (NYSEARCA:GLD) or U.S. Dollar bear ETFS like the PowerShares DB USD Bear ETF (NYSEARCA:UDN).

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.