Low-Vol Rises
exchange-traded fund, mutual fund

An article in The Wall Street Journal brings up an increasing popularity of low-volatility strategies in both mutual funds and exchange-traded funds (ETFs). The article states that

Currently, Morningstar tracks 33 low-volatility mutual funds with $7.23 billion in assets, at least six of which were launched this year.

But assets in low-volatility mutual funds still pale in comparison to those of low-volatility ETFs. Morningstar tracks 12 such ETFs with $11.26 billion in assets. Partly, that’s because ETF providers were first to market.

Alpholio™ identified the following low-volatility ETFs in the decreasing order of assets as of 10/3/2013:

Name Ticker Inception Date Assets ($M)
PowerShares S&P 500 Low Volatility Portfolio SPLV 5/5/2011 4,203.7
iShares MSCI Emerging Markets Minimum Volatility EEMV 10/18/2011 2,706.4
iShares MSCI USA Minimum Volatility USMV 10/18/2011 2,019.6
iShares MSCI All Country World Minimum Volatility ACWV 10/18/2011 1,013.5
iShares MSCI EAFE Minimum Volatility EFAV 10/18/2011 810.7
PowerShares S&P Emerging Markets Low Volatility Portfolio EELV 1/13/2012 204.4
PowerShares S&P International Developed Low Volatility Portfolio IDLV 1/13/2012 125.2
EGShares Low Volatility Emerging Markets Dividend HILO 8/4/2011 100.6
PowerShares S&P SmallCap Low Volatility Portfolio XSLV 2/15/2013 28.4
PowerShares S&P MidCap Low Volatility Portfolio XMLV 2/15/2013 18.8
SPDR Russell 2000® Low Volatility SMLV 2/20/2013 9.9
SPDR Russell 1000® Low Volatility LGLV 2/20/2013 9.5

Since the oldest of these ETFs, SPLV, has been around for only 29 months, volatility and Sharpe Ratio measures are not yet available from Morningstar or other providers that require at least three years of a fund’s history. Alpholio™ published Sharpe Ratios through March 2013 for some of these ETFs in a previous post.

Low-volatility strategies typically have a high allocation to utilities, healthcare and consumer staples stocks, or to “deep value” equities. One example of low-volatility mutual funds mentioned in the article is the Invesco Low Volatility Equity Yield Class A (SCAUX).

Measure SCAUX S&P 500
3-Year Standard Deviation 13.33 12.41
3-Year Sharpe Ratio 1.10 1.28
5-Year Standard Deviation 18.61 18.08
5-Year Sharpe Ratio 0.51 0.61

The above historical performance figures from Morningstar indicate that the fund had a higher volatility (expressed as a standard deviation of returns) and underperformed the S&P 500® index, its best-fit benchmark, on a risk-adjusted basis (Sharpe Ratio) in both the three- and five-year trailing periods.

In July, Invesco restructured its U.S. Quantitative Core and Global Quantitative Core funds and renamed them Invesco Low Volatility Equity Yield and Invesco Global Low Volatility Equity Yield. The change was made to respond to investors’ growing demand for income with the potential for downside protection, says Donna Wilson, the firm’s director of portfolio management.

It is uncertain whether the recent restructuring of the fund will result in different results going forward.

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Boring Is Better
exchange-traded fund

A recent post from Barron’s attempts to compare the performance of PowerShares S&P 500® Low Volatility Portfolio (ticker SPLV) to that of PowerShares S&P 500® High Beta Portfolio (SPHB). In doing so, the post uses charts of price returns of these exchange-traded funds (ETFs).

First, given that both ETFs had dividend distributions and at disparate levels (12-month yield of 2.76% for SPLV and 0.75% for SPHB, according to Morningstar), a comparison of total instead of price returns would be more appropriate.

Second, the comparison does not take into account the volatility of either ETF. The simplest approach to do that would be to use a Sharpe Ratio (SR) for both funds. Unfortunately, since these funds have been in existence for only a little more than two years, the SR and standard deviation (SD) figures are not yet available (typically, they are only calculated for funds older than three years). So, here are the results derived from the available monthly return data since May 2011:

SR vs. TB 0.44 0.07 0.27
SR vs. SPY 0.02 -0.13 0.00
SD 8.73% 25.94% 13.28%

Traditionally, SR is calculated using a risk-free rate; in the above table, TB stands for the 4-week Treasury Bill, the interest rate of which is appropriate because monthly returns of ETFs are used. However, an ex-post SR can also be calculated using an arbitrary benchmark; in this case, returns of the SPDR® S&P 500® ETF (SPY) were used.

The above results clearly demonstrate that over the most recent two-year period, SPLV exhibited a return/risk performance superior to that of either SPHB or SPY. However, only time will tell if this outperformance persists in the future.

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Sharpe Ratios of Low-Volatility ETFs
analysis, exchange-traded fund

A recent article on Barron’s compared the returns of two low-volatility ETFs, SPLV and USMV, to that of the S&P 500® index. However, returns (even if total, not just price returns) do not tell the whole story. After all, the main feature of these two ETFs is low volatility.

One of alternative ways of assessing relative performance is the Sharpe Ratio. Since the two ETFs in question have less than three years of history, popular online services do not yet provide this measure. So, we did the calculations based on the common historical period from November 1, 2011 to March 1, 2013 for both funds, and used SPY as an implementation of the S&P 500® index. The results are:

Sharpe Ratio 2.13 2.82 2.93

Although SPY beat both ETFs in terms of the total return, each of them had a higher Sharpe Ratio. While the analysis period was relatively short (16 months), this bodes well for the future.

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