Low Volatility Strategies: The Historical Performance
A review of the return-volatility relationship.
BY Isaac Lempriere and Yuriy Bodjov | May 19, 2015
Over the past few years low volatility investment strategies have emerged as an alternative to traditional active and passive investing programs, with the goal of providing market-type returns with lower risk. They seek to capitalize on the so-called low volatility anomaly where stocks with lower volatility historically have realized higher returns than predicted by theoretical models such as the Capital Asset Pricing Model (CAPM). Unlike traditional investing strategies that focus on generating abnormal returns from stock picking, investment styles, or risk factors, low volatility investing seeks to capitalize on a fundamental underpricing of risk in equity markets supported by a growing body of academic literature.
Given the surge in popularity of such strategies in the recent years, a logical question would be to ask if this is not just a recent phenomenon. There are opinions suggesting that the low volatility effect is due primarily to the environment of falling interest rates which favors specific sectors and it will fade out as soon as interest rates start to rise. Other studies describe low volatility as just another value strategy.
Are they confirmed by the historical evidence?
There is no easy way to give answers to these questions without going back in time as far as possible. Read the full paper.