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Low Volatility Is Working Here, Too

April 27, 2016 1:12 pm
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Investors are hearing plenty this year about the boffo performances turned in by low volatility exchange-traded funds. They are also hearing quite a bit about the resurgence of emerging markets stocks and ETFs.

Marry those two themes and the result is a perfect explanation as to why the iShares MSCI Emerging Markets Minimum Volatility ETF (iShares Inc. (NYSE: EEMV)) is up 6.5 percent year-to-date. While EEMV is lagging the iShares MSCI Emerging Markets Indx (ETF) (NYSE: EEM) by 130 basis points, that does not mean the case for EEMV is extinct.

Low Volatility ETFs, Here And Abroad

As is the case with U.S.-focused low volatility ETFs, it is reasonable to expect an international equivalent, such as EEMV, to lag traditional funds when the target asset class is overtly rallying. And that is what emerging markets stocks are doing this year. Likewise, it should be expected that when emerging markets stocks slump, EEMV will perform less poorly, which the fund did last year.

Related Link: Evaluating Tracking Error Concerns And Low Volatility ETFs

“This strategy has had a good track record. During the trailing 15- and 10-year periods through March 2016, this fund's underlying index generated about 400 basis points of annualized outperformance versus the cap-weighted MSCI Emerging Markets Index, with significantly lower volatility,” said Morningstar in a recent note.

What Sets EEMV Apart?

Indeed, EEMV makes good on the low volatility promise. The ETF's three-year standard deviation of 13.3 percent is 330 basis points below the same metric on EEM.

EEMV's recipe for volatility reduction is not a surprise. For example, Brazil and Russia are two of the most volatile emerging markets and only represent a fraction of EEMV's lineup. Actually, the ETF features no Russia exposure while allocating less than 1.4 percent to Brazilian stocks.

On the other hand, historically low beta developing economies Malaysia, South Korea and Taiwan combine for about 38 percent of EEMV's geographic weight. Of the 17 countries represented in EEMV, China commands the largest weight at nearly 18.5 percent.

“Thanks in part to the heterogeneity of the emerging-markets equity asset class, low-volatility strategies in emerging markets have historically resulted in a greater reduction in portfolio volatility relative to a cap-weighted index than in U.S. equities. In other words, there is more diversity (lower correlations) among emerging-markets equities, which allows for greater reduction in price fluctuations in an emerging-markets low-volatility portfolio,” added Morningstar.

EEMV has a rival in the form of the PowerShares S&P Emerging Markets Low Volatility Portfolio (PowerShares Exchange-Traded Fund Trust II (NYSE: EELV)). EELV is up 11.5 percent year-to-date, an advantage that is largely attributable to the ETF's overweight position in rebounding South African stocks.

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