PowerShares S&P 500 Low Volatility (NYSEArca: SPLV) has seen its outperformance versus the overall market erased the past month as the junkiest stocks lead the way in the rally’s latest leg.
The ETF, which is designed to invest in stodgier companies with the lowest share-price fluctuations, had been creaming the S&P 500 until mid-April. The low-volatility fund had benefited from its tilt toward defensive sectors such as utilities and consumer staples.
Yet SPLV has trailed the market the past four weeks amid a sector shift to cyclical companies more sensitive to the economy like tech, materials and energy. [Low-Volatility vs. High-Beta ETFs: New Secular Bull Market?]
SPDR S&P 500 ETF (NYSEArca: SPY) closed Monday with a 17.2% gain for the year, while the low-volatility fund was up 17%, according to Dow Jones Newswires. SPY has outperformed the past month, climbing 7.4% compared with a 1.8% rise in the low-volatility ETF.
“It seems as if investors are getting religion about the possibility of a cyclical bull market,” said Sam Stovall, chief equity strategist at S&P Capital IQ, in the report. “And we have an awful lot of professional investors underperforming their benchmarks and feel compelled to participate more actively than they have.”
There are also worries that defensive sectors are pricey after such a strong rally. [Have Low-Volatility ETFs Overstayed Their Welcome?]
“What we’ve seen in the last month are greater concerns about valuations, especially in utilities,” said Scott Kubie, chief strategist at CLS Investments, in the Dow Jones article. “Valuations, plus greater comfort about risk, are leading people to add more cyclicals in their portfolios.”
SPLV’s recent underperformance hasn’t stopped investors from piling into the low-volatility fund. It is one of the best-selling ETFs in 2013 and has gathered net inflows of nearly $800 million the past month alone.
Next page: Investors hit the ‘risk-on’ button
PowerShares S&P 500 High Beta (NYSEArca: SPHB) is up nearly 11% the past month to outperform the S&P 500 and the low-volatility ETF. The high-beta ETF tends to focus on riskier, cyclical sectors.
Indeed, U.S. companies with the most debt are rallying more than any time in almost four years versus the rest of the stock market, Bloomberg reports.
S&P 500 companies with the lowest working capital, smallest earnings and highest debt ratios have jumped 27% this year, almost double the gains for businesses with the most cash and least borrowing, according to the story.
“The rally is so broad that the weakest companies that hadn’t been participating have finally caught fire and roared ahead,” said Anthony Lawler, a fund manager at GAM Holding, in the Bloomberg article.
“The catch-up is greater in stocks with weak balance sheets,” added Hayes Miller at Baring Asset Management. “Investors by and large feel they have to gain greater exposure to equities.”
Full disclosure: Tom Lydon’s clients own SPY.