Funds that are designed to reduce risk have enjoyed net inflows of about $10 billion so far in 2019, raising their total assets to $77 billion, per analysis from investment research firm Morningstar Inc. cited by The Wall Street Journal. Among these investment vehicles are so-called "smart ETFs" which look for less volatile stocks or which use options to limit the downside. The table below lists two of the low volatility ETFs that have performed especially well over the past year.
Significance for Investors
There are no guarantees with any investment product or strategy. For example, the Journal warns that the Invesco fund listed above has about 25% of its $11 billion portfolio in high-dividend utility stocks, which tend to perform poorly when interest rates rise.
Meanwhile, so-called "buffer funds" that use options to reduce the downside also tend to put limits on the upside as well. As a result, such funds are most suitable for investors with a high degree of risk aversion who also are comfortable with that tradeoff. They also tend to be expensive, charging annual fees of about $79 per $10,000 invested, about 26 times the cost of the cheapest S&P 500 index ETF, the Journal notes.
The increasing popularity of low volatility ETFs may give a boost to shares of leading banks. As of April, 10 out of 19 bank stocks in the S&P 500 were in the bottom 40% based on 12-month realized volatility, as Christopher Harvey, head of equity strategy at Wells Fargo Securities, told Barron's.
The Invesco fund has about 2.8% of its portfolio in bank stocks, including Wells Fargo & Co. (WFC), U.S. Bancorp (USB), and People’s United Financial Inc. (PBCT). Given that banks are about 5.6% of the S&P 500, their presence in this fund should expand. Harvey believes that these stocks are likely additions, given that they have had the lowest volatility among their peers: JPMorgan Chase & Co. (JPM), BB&T Corp. (BBT), and M&T Bank Corp. (MTB).
"Volatility is about to rise...a lot," according to the latest Weekly Warm-Up report from the U.S. equity strategy team at Morgan Stanley, led by Mike Wilson. "While last fall's equity volatility was driven by higher rates, we think the next bout of equity volatility will be driven by weaker growth and earnings misses from stocks that are not priced for it," the report elaborates.
Wilson and his team at Morgan Stanley have been the most bearish voices on earnings among major Wall Street firms for many months. In an earlier report, they cited four reasons to be pessimistic about stocks, with earnings being one of them.