Low-Volatility ETFs: Better Performance with Less Risk? | ETF Trends

A treacherous market dominated by Europe’s debt crisis has made a stock ETF designed to moderate risk one of the most successful recent launches as the fund has quickly gathered more than $2 billion in assets.

PowerShares S&P Low Volatility Portfolio (NYSEArca: SPLV) is up 12.8% for the trailing year, compared with a 4.2% gain for the S&P 500, according to Morningstar. The ETF was launched in May 2011.

The fund has been very popular with investors and financial advisors and the firm believes it’s due to the underlying index and the ETF’s simplicity, effectiveness and current market conditions, says Taylor Ames, product strategist at Invesco PowerShares, the ETF’s sponsor.

SPLV is a portfolio of the 100 stocks from the S&P 500 with the lowest volatility over the past 12 months. Volatility is a measure of a security’s tendency to fluctuate in price.

The fund weights individual securities by their volatility. In other words, stocks with lower volatility have a bigger weighting in the portfolio.

Managing risk

The ETF appeals to investors who “want to try to mitigate risk while staying fully invested in equities,” Ames said in a telephone interview.

The strategy has provided some protection to skittish investors because the fund hasn’t fallen as hard as the S&P 500 during risk-off bouts. The trade-off is the ETF won’t capture as much of the upside in big rallies.

The fund’s straightforward approach also makes it attractive, Ames said.

“Investors are looking for strategies they can understand that aren’t difficult to implement,” he said. “For advisors, the strategy is easy to communicate to clients. It can be explained in three or four sentences.”

“The fund’s construction is admirably simple and transparent,” said Morningstar analyst Samuel Lee. “Low-volatility strategies have historically posted excellent risk-adjusted returns.”

However, the sudden interest in low-volatility strategies by institutional and retail investors “may presage lower risk-adjusted returns for the strategy going forward,” Lee wrote in an analyst report on SPLV. Also, big sector bets may worry some investors and low-volatility strategies “can perform miserably during furious bull markets.”

‘Fortunate’ timing