Everybody can appreciate a smooth ride—and for investors, a journey without too many bumps along the way can potentially result in more wealth.
One reason: low-volatility stocks. These relatively steady shares—whose valuations are expected to fluctuate less than those of other equities—have generally helped investors avoid some of the market’s biggest woes over the past year.
For example, while the S&P 500 has fallen 12.5% since this time last year, the S&P 500 Low Volatility index1 is up 0.9%—a difference of 13.4 percentage points. “Low-vol” stocks have been able to serve as ballast this year in portfolios with broad market exposure by mitigating some of the losses.
The case for low-volatility stocks goes beyond the past 12 months, however. History and academic studies have shown that portfolios of low-volatility stocks have actually produced higher risk-adjusted returns over time than portfolios of high-volatility stocks in most major markets studied.2
Why has the steady outpaced the frenetic? This anomaly could be the result of consistent market mispricing due to factors such as behavioral biases. For example, investors may pay more attention to highly volatile stocks because such shares are often hyped by the media—giving them a “lottery payoff” aura. As a result, less-risky stocks may be regularly undervalued (and therefore offer more return potential) compared to these riskier “hot” stocks.
At Horizon, we incorporate low-volatility equities in two main ways:
- For wealth accumulation-focused clients in the GAIN stage of investing, we may allocate tactically to low-volatility stocks in an effort to capture this particular investment factor and take a more targeted approach that seeks to go deeper than the typical growth-versus-value style investing.
- For wealth protection-focused clients in the PROTECT stage and SPEND stage, we view low volatility stocks as a larger strategic approach that can help clients maintain appropriate equity allocations with lower risk exposure as they look to safeguard their wealth and minimize drawdowns.
For additional information on low-volatility stocks, we think the article, “Is Low Volatility Anomaly Universal?” by Fei Mei Chan and Craig J. Lazzara, CFA® with Dow Jones Global is helpful.
1 The index consists of the 100 S&P 500 stocks with the lowest trailing 12-month volatility and is rebalanced quarterly.
2 Andrea Frazzini, Lasse H. Pederson, “Betting Against Beta.” AQR.com, AQR, January 2014.
This commentary is written by Horizon Investments’ asset management team.
Past performance is not indicative of future results.
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