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Do Low Volatility ETFs Outperform During Market Turmoil?

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Stocks have been on a wild ride lately as investors struggle to gauge the impact of the coronavirus and oil price war on the global economy. Some investors are seeking refuge in low volatility ETFs that tend to perform well in a turbulent market environment. These ETFs underperform the broader indexes during strong bull markets but hold up relatively well during market declines.

According to traditional finance theories, investors demand a higher rate of return for taking on greater risks but academic studies show that lower risk stocks have rewarded investors with higher risk-adjusted returns than the broader markets over longer-term. 

Low-volatility anomaly was overserved in almost all stock markets around the globe. Investors tend to chase hot, riskier stocks, and ignore low-risk, cheap stocks and thus misprice risk.

The two most popular low volatility ETFs--iShares Edge MSCI Min Vol USA ETF (USMV - Free Report) and Invesco S&P 500 Low Volatility ETF (SPLV - Free Report) —take different approaches in selecting their holdings.

USMV holds stocks that, in the aggregate, have lower volatility compared to the broader market. It takes into consideration correlations between stocks in addition to volatility. SPLV selects 100 stocks from the S&P 500 index that have the lowest realized volatility in the past 12 months and weights them according to their volatility.

USMV’s top holdings include Newmont Mining (NEM), Waste Management (WM - Free Report) , McDonald's (MCD - Free Report) and Visa (V - Free Report) . SPLV’s top holdings include Consolidated Edison (ED - Free Report) and Walmart (WMT).

Both these ETFs have performed better than the broader market in the past few weeks. To learn more about low volatility ETFs, please watch the short video above.

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