One theme that I will spend more time on in 2016 and beyond is the low volatility anomaly, which has been discussed in considerable detail in the academic world, leading to papers such as the following:
- Benchmarks as Limits to Arbitrage: Understanding the Low Volatility Anomaly (Malcolm Baker, Brendan Bradley and Jeffrey Wurgler)
- Stock return volatility, operating performance and stock returns: International evidence on drivers of the ‘low volatility’ anomaly (Tanuj Dutt and Mark Humphery-Jenner)
- The Limits to Arbitrage and the Low-Volatility Anomaly (Xi Li, Rodney N. Sullivan and Luis Garcia-Feijóo)
- Low Risk Stocks Outperform within All Observable Markets of the World (Nardin L. Baker and Robert A. Haugen)
In a nutshell, the research supports the claim that low volatility and low beta stocks in the United States and across the globe outperform high volatility and high beta stocks, with low volatility stocks generating substantially higher risk-adjusted returns.
Not coincidentally, the groundswell of research pointing to outperformance by low volatility stocks has created a land rush for low volatility ETPs in the first generation of “smart beta” or factor-based investment products in ETP wrappers. Since I believe smart beta or factor-based ETPs is one of the key revolutionary ideas to appear in the investment world in recent memory, I will have a great deal to say about this subject and the many tangential ideas that arise from it going forward. After nine years focusing primarily on the VIX, volatility and related subjects, it is time to charge off in some new directions, starting with some that have a whiff of volatility and ETP innovation.
For now I am going to be content with updating a February 2013 post, with the title The Options and Volatility ETPs Landscape. At that time, I wanted to capture those ETPs which employed a buy-write / covered call approach, employed a put-write strategy, focused on the convertible bond space or targeted low volatility stocks. Well, a lot has changed in the past three years, notably in the low volatility space. This time around, I have some enhancements to the options and volatility ETPs graphic. As is the case with The Current VIX ETP Landscape, I have added yellow stars for those ETPs with an average daily volume of 1,000,000 or higher and pink stars for ETPs with an average daily volume between 100,000 and 1,000,000. Additionally, I have highlighted the new currency-hedged crop of low volatility ETPs by using a red font and have captured the demise of HFIN, a financials buy-write ETF that closed in March 2015 with a X-HFIN designation.
There are a number of other sub-categorizations I will delve into at a future data, but note that whereas O:FTHI is a buy-write only, O:FTLB adds an out-of-the-money put. Three other relatively new arrivals, O:CFO, O:CDC and O:CSF, are structured so that they will hold up to 75% of portfolio assets in cash in adverse market conditions. Another intriguing new entrant, N:SLOW, attempts to avoid sector bias by forcing greater sector diversification than most other low volatility ETPs. So if you found 2015 volatility to be daunting and are looking to dampen volatility in your portfolio in 2016 or tap into the performance benefits of the low volatility anomaly, keep the list above in mind. While comprehensive and including many ETPs with marginal liquidity, this list may not touch upon some of the many new and illiquid products that might be flying under the radar.