As the markets begin to sour, exchange traded fund investors may utilize inverse, low-volatility or hedged strategies to help diminish the risk of dips in equities.
If volatility rises, investors may use traditional inverse ETFs that takes a targeted short position or switch over to more defensive ETF picks, writes David Fabian for TheStreet.
For example, mall-cap stocks and related ETFs, like the iShares Russell 2000 ETF (NYSEArca: IWM), have been falling behind the broader markets, and if the markets slide again, small-caps could be re-testing their 2014 lows. On the other hand, investors can use the ProShares Short Russell 2000 ETF (NYSEArca: RWM), which reflects the -1x or -100% daily performance of the Russell 2000 Index, to hedge against any dips.
However, potential investors should be aware that due to daily compounding effects, the inverse ETFs may not perfectly reflect their intended strategies over the long-term, so most investors typically use these tools for short-term hedging. Over the past three months, IWM has declined 1.5% while RWM gained 0.8%.
Alternatively, investors can consider long equity ETFs that take more of a defensive approach. For instance, the PowerShares S&P 500 Low Volatility Portfolio (NYSEArca: SPLV) takes 100 securities from the S&P 500 that exhibit the least volatility.
The actively managed PowerShares S&P 500 Downside Hedged Portfolio (NYSEArca: PHDG) tries to generate positive total returns in a rising or falling market, providing uncorrelated returns to broad equity markets. PHDG includes a blend of equity positions and CBOE Volatility Index Futures to hedge market risks. [Alternative ETFs for Downside Protection]
Potential investors, though, should be aware that while these defensive funds can help hedge against market turns, SPLV and PHDG may lag the equities market in bullish conditions. Year-to-date, SPLV has gained 7.8% and PHDG rose 3.9%, whereas the S&P 500 index increased 9.9%.
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Max Chen contributed to this article.