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Despite some recent strength in the markets, there is still a great amount of risk from a variety of sources. Surging threats from the emerging and developed economies have added fuel to the fire, pushing some investors to consider less risky options.
Exchange-Traded Funds have been very helpful in assisting investors with obtaining low risk choices, particularly in changing market conditions. Options now exist that hedge out riskier stocks, or even add in a volatility component as well (see Three Hedge Fund ETFs for Uncorrelated Returns).
The latest addition in this corner of the market comes to us from VelocityShares, a company best known for its volatility ETFs, is now branching out into the hedged equity world. The latest funds from this company, which we have described in greater detail below, have a sophisticated long/short volatility strategy combined with a large cap equity allocation.
VelocityShares Tail Risk Hedged Large Cap ETF (TRSK - ETF report)
TRSK seeks to reflect the performance of the VelocityShares Tail Risk Hedged Large Cap Index before fees and expenses. The fund takes a net long position in large-cap equities, and a (net) short position in VIX futures.
For this exposure, the ETF charges 71bps in fees. This makes the fund a bit more expensive than unhedged products, though cheaper than many of the other leveraged or pure volatility funds currently on the market (also see Which Volatility Hedged ETF Should You Consider?).
At present the fund holds just a handful of securities. The top 3 holdings are actually ETFs; Vanguard S&P 500 ETF (VOO - ETF report), SPDR Trust Series 1 (SPY - ETF report) and iShares Core S&P 500 ETF (IVV - ETF report). The trio contributes 85% to the fund, leaving the rest for 2x long volatility (5.55%), and inverse volatility (9.45%).
The approach is designed to hedge “tail-risk” in the S&P 500, potentially making it a lower risk choice during turbulent market times. However, in rising markets, the ETF could underperform as the volatility component could push this product below unhedged funds.
VelocityShares Volatility Hedged Large Cap ETF (SPXH - ETF report)
SPXH seeks to reflect the performance before fees and expense of the VelocityShares Volatility Hedged Large Cap Index, which hedges "volatility risk" in the S&P 500. The fund takes a long position in the S&P 500 and a (net) long position in short-term VIX futures.
With this approach the fund tries to target a net neutral exposure, though this can fluctuate during trading sessions. Investors should also note that for this holding profile, the fund charges 71bps in fees (also see Hedge Your Portfolio with the Equity Bear ETF).
At present SPXH holds just a handful of securities as well. Once again, ETFs comprise the bulk of the exposure with the Vanguard S&P 500 ETF, iShares Core S&P 500 ETF and the SPDR Trust Series 1 accounting for 85% of the fund. The remainder goes to volatility with 3.9% going to 2x volatility, and 11.1% to inverse volatility.
This approach looks to hedge “volatility risk” in the S&P 500. The strategy could also be ideal during sluggish market conditions, but like its TRSK counterpart, could underperform during rising market environments.
The Bottom Line
Despite somewhat high fees, the two could be interesting picks for investors seeking to hedge out some broad market risks from their portfolios. The inclusion of volatility can potentially make these outperformers during uncertain market environments, acting as protection in turbulent times .
However, when stocks are doing well and risk levels are low, these types of funds may underperform broad markets. Not only are they more expensive, but volatility doesn’t have a good track record during these time periods, suggesting that these funds should be the focus only of those who are looking for heightened volatility levels, or broad market uncertainty to continue (also see Why I Hate Volatility ETFs).
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