Winning The Low-Volatility War

A rose may be a rose, but there are definitive differences among low-volatility ETFs. Historically, they may suffer price deviations to a lesser degree than the market, but the derived benefit can vary substantially. Some funds are exemplars of the low-volatility anomaly where the Capital Asset Pricing Model (CAPM) is stood on its head, rewarding investors for taking on less risk. Others, not so much.

Now, more than ever, these portfolios are being tested. But here’s the thing: Current research indicates that reliance on historical beta or standard deviations may not adequately inform investors and advisors of the true potential of low-vol ETFs in tumultuous times such as these. So what can we do to better gauge expected returns going forward?

The first thing to do is identify the players on the field. As Table 1 illustrates, there are nine seasoned low-vol ETFs focused on the domestic large-cap market. With a 65% market share, the eldest and largest is the nine-year-old Invesco S&P 500 Low Volatility ETF (NYSE Arca: SPLV). Investors have tucked $11.8 billion into SPLV and they seem well-served for doing so. It’s the exemplar of simplicity. About a hundred of the S&P 500’s least volatile stocks—measured by daily standard deviations over the preceding 12 months—make up the SPLV portfolio. No other constraints are imposed.

Another subset of the S&P 500 is tracked by the Invesco S&P 500 High Dividend Low Volatility ETF (NYSE Arca: SPHD). Here, 50 of the least-volatile issues are plucked from the benchmark’s top dividend payers. As a consequence, SPHD skews toward utilities and other defensive sectors, eschewing high-momentum industries like technology and cyclicals.

The SPDR SSgA Large Cap Low Volatility ETF (NYSE: LGLVscours a broader universe to look for low-vol stocks. By applying a volatility optimizer to the Russell 1000 Index, the fund’s algorithm screens for turnover, momentum and beta to arrive at a portfolio of 127 issues with three-quarters the volatility of the S&P 500.

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Disclosure: None.

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