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Why Minimum Volatility Funds Have Outperformed

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If you want broad market exposure with potentially less risk, minimum volatility ETFs might be a good fit. These funds seek to track market indexes with a mix of historically less volatile stocks, so you can still invest in global, US, developed international and emerging markets with potentially fewer bumps in the road.

Minimum Volatility Funds Have Outperformed

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Market Realist – Minimum volatility funds have outperformed broader markets in the long term.

Minimum volatility ETFs track indices that seek to capture the broad equity market with a reduced amount of volatility. These indices seek to provide better risk-adjusted returns and protect against the downside risks that occur in the market every now and then.

When volatility (VXX)(VIXY) is rising, broader equity markets have typically faltered, as there’s a lot of fear in the market. When the broader equity markets fall, the minimum volatility ETFs act as a cushion. However, as volatility falls, the broader markets outperform the ETFs.

Perhaps surprisingly, though, minimum volatility indices have outperformed the S&P 500 (RSP) in the long term. The iShares MSCI USA Minimum Volatility Index (USMV) has actually outperformed the S&P 500 Index (RSP) over the last ten years. By limiting the downside during the troughs of a volatile market, the minimum volatility index is better able to capitalize on rebounds, as the graph above shows.

For example, let’s say an index starts a year at 100. Let’s say it falls by 20% that year, which brings it down to 80. Let’s say it gains 20% in the following year. This would take the index only to (80+(80*20/100)), which is 96. Let’s assume that the minimum volatility-sibling of that index also started at 100 and, for illustration sake, captures 50% of the upside and downside of the standard index. In the first year, it would lose only 10% of its value, bringing it down to 90. In the second year, it would gain 10%, taking it up to 99. So it’s better able to capitalize on a rebound.

The minimum volatility indices, which track emerging market (EEMV) stocks, give you less volatile access to emerging markets.

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