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This Sector Gains Prominence In Low Vol ETFs

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This Sector Gains Prominence In Low Vol ETFs
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With the Federal Reserve's plans for multiple interest rate increases widely known heading into 2018, it wouldn't have been surprising to see the rate-sensitive real estate sector lag.

Indeed, the MSCI US Investable Market Real Estate 25/50 Index is lagging the S&P 500 on a year-to-date basis, but over the past six months (a period that includes a rate hike), that real estate index is up more than 13 percent.

What Happened

In theory, rate-sensitive sectors, including real estate, should see increased volatility as interest rates rise -- that hasn't been the case this year. Actually, volatility has been waning in the real estate sector, prompting increased exposure to the group for some low volatility exchange traded funds, including the Invesco S&P 500 Low Volatility ETF (NYSE: SPLV).

SPLV tracks the S&P 500 Low Volatility Index, a collection of the 100 S&P 500 members with the lowest trailing 12-month volatility. The index is rebalanced in February, May, August and November. Following the recent August rebalance, the low volatility benchmark's real estate exposure increased.

Why It's Important

“In the latest rebalance (effective after market close Aug. 17, 2018), the S&P 500 Low Volatility Index added 5% to its allocation in Real Estate, bringing the sector’s weight to 18% (the second largest weight in the index after Utilities),” said S&P Dow Jones Indices.

When the rebalance takes effect in SPLV, the ETF's combined exposure to the utilities and real estate sectors should be roughly 43 percent, indicating those rate-sensitive sectors have not been all that volatile as borrowing costs are climbing.

Another low volatility strategy, the Invesco S&P 500 High Dividend Low Volatility ETF (NYSE: SPHD), also featured utilities and real estate as its top two sector weights as of Aug. 17. Those sectors combined for almost 37 percent of SPHD's weight. SPHD has traded modestly lower this year, but is gaining momentum with a third-quarter of almost 6 percent.

What's Next

“For insight into the latest rebalance, consider the trailing one-year volatility of sectors within the S&P 500,” said S&P Dow Jones. “Volatility crept up across all sectors, by generally similar amounts. Surprisingly, despite the recent turmoil in Technology, volatility there was relatively subdued, inching up only slightly. While the Industrials sector experienced relatively more volatility compared to other sectors, the difference seemingly was not commensurate with the significant weight drop in the S&P 500 Low Volatility Index.”

Disclosure: The author owns shares of SPHD.

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