When equities swooned in the fourth quarter, investors turned to low volatility exchange traded funds, such as the iShares MSCI USA Minimum Volatility ETF (Cboe: USMV). Although stocks are rebounding this year, some investors remain devoted to the low volatility factor and the related ETFs.
Low-volatility portfolios tend to offer above-average downside protection in exchange for below-average upside participation. Over the long term, this should translate to better risk-adjusted (not absolute) returns for investors in low-volatility stocks,” according to Morningstar.
The low-volatility factor investments work on the idea that they help cushion against market turns, limiting drawdowns that investors experience while providing upside potential. Consequently, the low- or min-vol strategies may produce better risk-adjusted returns over the long haul, which has been backed by extensive academic research.
“The iShares Edge MSCI Min Vol USA ETF (“USMV”), which tracks the MSCI USA Minimum Volatility Index (“Index”) is one such minimum volatility strategy which can help investors position their portfolios to better withstand periods of market turmoil,” said BlackRock in a recent note.
USMV’s underlying index “seeks to create a holistic portfolio with lower risk than the market, without taking large individual stock or sector bets. This focus has historically facilitated more stable returns over time providing resilience when market returns are more erratic, or are suffering severe downside losses,” according to BlackRock.
Inside USMV ETF
USMV is higher by nearly 10% this year. The fund holds 213 stocks and has a three-year standard deviation of 9.43%, which is slightly below that of the S&P 500. Low volatility ETFs, such as USMV, are designed to perform less poorly when stocks falter, not capture all of the upside in strong trending bull markets.
“The Minimum Volatility strategy has delivered positive excess returns when the broad market has declined,” said BlackRock. “However, when the market posts monthly returns between 0% and 2%, the Index, on average, captured the market return. This dynamic, along with participation in up markets, has led the Index to capture 80% of the upside but only 62% of the downside of the S&P 500 since it was incepted.”
USMV allocates about 31% of its combined weight to technology and healthcare stocks while the financial services and consumer staples sectors combine for 24.50% of the fund’s weight. Investors have added $2.35 billion to USMV this year, a total exceeded by just nine other US-listed ETFs.
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