For example, Victory Capital offers a suite of smart beta ETFs that focus on volatility-based weighting methodology to potentially help investors generate improved risk-adjusted returns.
The VictoryShares US 500 Enhanced Volatility Wtd ETF (CFO), VictoryShares US EQ Income Enhanced Volatility Wtd ETF (CDC) and VictoryShares US 500 Volatility Wtd ETF (CFA) start with the broad market and screens for companies with four quarters of positive earnings. Those stocks are then weighted based on their standard deviation over the past 180 trading days. Stocks with lower volatility are given higher weightings and stocks with greater volatility are given lower weightings. Ultimately, all securities that pass the earnings criteria are present, just at different weights.
“Historical volatility, not implied or expected volatility, simply drives to how stocks are weighted in the portfolio (vol-weighting), which is done in an effort to improve diversification benefits and, potentially, for downside mitigation. For VictoryShares, vol-weighting simply takes a historical statistic—standard deviation—and uses it to weight a particular basket of stocks. It is not an implied view of where overall market volatility is going based on a derivative product, as with some of these other leveraged ETPs,” according to Victory Capital.
In an attempt to help investors keep emotions in check, the firm offers long/cash ETFs as well that follow a rules-based strategy that shifts from a long position to 75% cash position depending on market swings to help better manage risk exposure. When the ETFs are less than 100% allocated in stocks or bonds, assets are invested in cash or 30-day T-bills. The reallocation process is strictly rules-based and determined based on month-end index values allowing for the potential to dollar cost average back into the market when emotions might make it difficult to do so otherwise.
Looking at CFO, if on the last day of trading of the month the index declines 10% from its all-time high, the ETF will allocate to 75% cash and 25% stocks. If the index falls 20%, the ETF will hold 50% cash and 50% stocks. If the index falls 30%, it will hold 75% stocks and 25% cash. Lastly, if the index plunges 40%, it will hold 100% stocks.
For more information on alternative index-based strategies, visit our Smart Beta Channel.