Welcome Herb to ValuEngine! Please see below for the first of many articles/blogs by Herb Blank.
There are more than a dozen US ETFs with “Low Volatility” in their names. It made a difference this year as many Low Vol ETFs struggled to keep up with during this year’s “downturn” when one would normally expect lower-than-average volatility to go down less than the market in a year when market volatility is high. As a result of failure to live up to expectations, many of these ETFs bled assets under management (AUM). However, there are important differences in the manner in which these ETFs are constructed that can make their performance quite different in the same market cycles.
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For example, let’s take a look at the ValuEngine reports on two different ETFs with “low volatility” in their names: SPLV from Invesco and FDLO from Fidelity. The price charts show that while both lagged the S&P 500 during the monotonic upward period, FDLO tracked it more closely. Through October and into November, FDLO gained back most of that ground while the gap between SPY (as an indicator of the S&P 500 index) and SPLV is considerably greater. A deep look at the methodology discloses the differences but takes some detective work.
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Invesco’s SPLV replicates an S&P index that uses a simple screen. It consists of the 100 stocks from the S&P 500 Index with the lowest realized standard deviation over the past 12 months prior to rebalancing. This description can be found on page 2 of the report.
201113 VE_SPLV_260479
The description of FDLO looks almost identical except its index is the Fidelity Low Volatility Factor Index. I had to Google the index methodology to learn that the Low Volatility Factor takes a so-called “Smart Beta” approach that controls for industry sector and size to isolate the desired factor. The differences in methodologies create very different portfolios.
201113 VE_FDLO_260479
As a less-diversified strategy selected by a screen, SPLV’s performance suffered principally because of the precise nature of this downturn – free fall that took all S&P 500 stocks down by virtually the same percentage as many futures were sold off, followed by a relentless but more protracted monthly recovery which restored the S&P 500 to pre-CoVid crash levels but did not do the same for the 100 low vol stocks in SPLV. FDLO with an industry sector profile more closely resembling the S&P 500 tracked the index more closely during the April through August boom and has made up most of the remaining difference as the market recovery sputtered in September and October.
Although the fund description sheds only a veiled clue in the difference in methodologies, the sector and market cap profiles on page 4 and the top 10 holdings list on page 3 provide much more helpful insights. The most jarring differences in the sector weightings are in comparisons between the Technology Sector, accounting for 25.7% of FDLO but less than half that in SPLV. Alternatively, finance accounts for 33% of SPLV and only 11% of FDLO. The top 10 holdings lists confirms these differences with MSFT and GOOGL being the biggest weightings by far in FDLO.
As well documented by Jennifer Bender and the research team at State Street SPDR ETFs, style ETFs are not all-weather. They outperform in some market regimes and underperform in others. It was the nature of this sharp and relentless recovery through the end of August that Low Vol / Low Beta could not keep up with the market or the runaway outperformance of the Nasdaq-100 QQQ. That is really to be expected. The fact that hedge funds loaded up on those, then dumped it is also expected since they tend to trade by “low vol” being in name rather than seeing how products are engineered.
My advice; ALWAYS READ THE FUND FACT SHEETS to see what you are actually buying. Then, to analyze key differences, come to ValuEngine with more than 500 ETF reports. Its free for the first two weeks, go HERE.
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Herb Blank
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