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How Minimum Volatility ETFs Are Affected by the Volatility Index

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Oct. 13 2015, Published 6:30 p.m. ET

USMV and SPLV

The iShares MSCI USA Minimum Volatility ETF (USMV) is an ETF that seeks to track performance results of the MSCI USA Minimum Volatility Index. The index selects only stocks issued in the United States, and that, in aggregate, have lower volatility characteristics than the broader US equity market. The PowerShares S&P 500 Low Volatility ETF (SPLV) is a smart beta ETF managed by PowerShares and seeks to track investment results of the S&P 500 Low Volatility Index. Stocks that are low risk but still have the capability to provide real capital appreciation, in the long run, are included in SPLV’s index. Healthcare, financial, and information technology companies are USMV’s major components, whereas the financial, consumer staples and industrial sectors are SPLV’s significant holdings. AT&T (T), McDonalds (MCD), and Verizon Communications (VZ) are USMV’s top holdings. Plum Creek Timber (PCL), Marsh & McLennan (MMC), and Verizon Communications (VZ) are some of SPLV’s top holdings.

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Performance comparison

The above graph compares performance of the CBOE (Chicago Board Option Exchange) Volatility Index (VIX), USMV, and SPLV during 2011. USMV and SPLV, with similar investment strategies, have performed equally in the market. The graph clearly shows that when the VIX rose, USMV’s and SPLV’s performance fell, and vice versa. The VIX has an inverse relationship with minimum volatility funds. It should also be noted that although the VIX started higher than USMV and SPLV, it has performed poorly since then and ended lower than the funds.

Implied volatility versus minimum volatility

The VIX is a measure of the total implied volatility of the market. A higher implied volatility affects the performance of minimum volatility funds such as USMV and SPLV, which can be seen in the above graph. Higher implied volatility is due to bearishness in the market and can be a reason for stock underperformance. Another reason could be that while the VIX is higher, investors tends to shift towards stocks with higher volatility to gain maximum profit, resulting in lower volatility stocks losing due to a decrease in demand. In the next part of this series, we’ll compare the performance of momentum ETFs with respect to the VIX.

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