Within the trailing one month by way of August 22, 2024, low volatility methods have outperformed the broader U.S. fairness market. This efficiency is evaluated utilizing the S&P Low Volatility ETF (SPLV) since it’s derived from the S&P 500 with none sector constraints and is consultant of ‘pure play’ U.S. giant cap low volatility publicity. Within the trailing one month by way of August 22, 2024, SPLV was up 4.1%, outperforming the market cap weighted SPDR S&P 500 (SPY) which had a complete return of 0.3% in that interval. The Invesco S&P 500 Pure Development ETF (RPG) and the Invesco S&P 500 Pure Worth ETF (RPV) returned -0.1% and -1% respectively in that time-frame.
Low volatility ETFs have outperformed in the ussmall cap house as nicely. The SPDR SSGA US Small Cap Low Volatility Index ETF(SMLV) was up 15.3% within the trailing 3 months relative to the Russell 2000 Small Cap ETF (IWM) which was up 8.8% in that very same time.
This latest outperformance in low volatility marks a reversal of issue efficiency developments. For the reason that market trough of October 2022, the efficiency of the U.S. inventory market has been pushed by a small variety of mega cap shares. Because of this, pure play issue ETFs that don’t use market cap weighting have considerably underperformed SPY. As seen in Desk 1, SPLV, RPG and RPB have all considerably underperformed SPY over the trailing 10 years, 5 years and because the October 2022 market trough by way of August 22, 2024. Previous to this final month, these ETFs struggled to beat the broader market since they’re comparatively underweight mega cap and know-how.
Energy in Defensive Sectors Driving Low Volatility Outperformance
SPLV holds the 100 shares within the S&P 500 which have the bottom trailing 12-month volatility on the time of the quarterly rebalance. Consequently, defensive sectors like utilities and client staples are inclined to have giant weights within the fund. The monetary sector, though not historically seen as defensive, additionally tends to have a big weight and is at present the most important sector in SPLV. The relative weights of those defensive sectors can fluctuate fairly considerably over time e.g. on the finish of 2017, healthcare was solely 6% of SPLV’s publicity however at yr finish 2020 it was 25%.
The sectors which can be obese relative to the S&P 500 have additionally been the perfect performers within the final three months. Financials, utilities and client staples are essentially the most obese sectors in SPLV and all three have outperformed know-how over the trailing one and three months.
Wanting Forward: Rising VIX vs Probably Price Cuts
There are two countervailing components which can be prone to decide if low volatility outperformance could be sustained. Normally, a rising CBOE Volatility Index (VIX), which measures implied volatility primarily based on S&P 500 index choices, tends to favor low volatility technique outperformance. There’s a constructive 0.4 correlation between SPLV every day outperformance (relative to SPY) and every day VIX returns. Against this, there isn’t a correlation between every day VIX returns and the outperformance of pure progress (RPG) and pure worth (RPV).
As of the shut on August 23, the VIX index was at 15.86, under its 10-year median of 16.16. Nevertheless, it has risen within the second of this yr after a really benign first half. On August 5th, 2024, the index jumped sharply to a detailed of 38.5, seemingly because of an unwind of the Yen carry commerce pushed by a charge improve by the Financial institution of Japan. The index has since normalized however might development larger given the uncertainty across the U.S. elections and the latest uptick in battle each in Ukraine and Israel.
A headwind for low volatility technique outperformance is the opportunity of charge cuts by the U.S. Federal Reserve in September. CFRA’s Chief Funding Strategist Sam Stovall anticipates the Fed reducing charges by 0.25% in September after which following a measured ‘slower to decrease’ method. In idea, decrease charges ought to profit growth-oriented sectors like know-how and communication providers moderately than defensive sectors which can be predominant in SPLV. These counterbalancing components of rising volatility and decrease charges will decide the seemingly efficiency of low volatility ETFs over the subsequent few months.
Aniket Ullal is VP, ETF Knowledge and Analytics for CFRA, one of many world’s largest suppliers of impartial funding analysis.