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Minimum
volatility
strategies
Dispelling the myths
Introduction
Amid today’s economic and political uncertainties, the
financial markets are prone to bouts of unsettling volatility.
Investors have turned to minimum volatility exchange traded
funds (ETFs) to help weather the market’s turbulence.
While the popularity of minimum volatility ETFs has received
a lot of press, the true measure of their success has been their
ability to deliver on intended outcomes. Minimum volatility
ETFs aim to provide lower volatility with similar exposure to a
broad market equity index over the long term.
Any popular investment will garner its skeptics, and minimum
volatility ETFs are no exception. Some are concerned that the
valuations of these funds have become too rich and that they
are vulnerable to a sell-off. Another concern is that so many
investors have bought minimum volatility funds that their
effectiveness may be compromised, an investment
phenomenon known as “crowding.”
The success of minimum volatility
ETFs has been their ability to deliver
their intended outcomes.
1
MINIMUM VOLATILITY STRATEGIES: DISPELLING THE MYTHS
What does the data say about valuation
and crowding concerns?
Some investors are wondering whether
the time to buy minimum volatility
strategies has come and gone.
Investors seeking to mitigate risk can
consider buying minimum volatility
strategies at any time if their primary
objective is to obtain equity exposure
with less risk.
Valuation and crowding
concerns about minimum
volatility ETFs do not appear
to be borne out by the data.
Minimum volatility ETFs have
been shown to reduce risk
whether their valuations were
historically high or low.
Total assets within these
ETFs represent a small
fraction of the market caps
of their underlying securities
and therefore are unlikely to
merit crowding concerns.
Minimum volatility strategies are
designed to deliver their outcomes
of reduced risk over a long period—they
are not designed to be used
as market timing vehicles. The
importance of investing in minimum
volatility strategies with a longer
term horizon becomes apparent
if one considers how minimum volatility
ETFs work and the outcomes they are
designed to provide.
Why minimum volatility strategies have worked
By emphasizing stocks with more stable prices, minimum
volatility strategies aim to deliver exposures that
approximate the broad market but with less risk over
the long term.1 How have stocks with a history of lower
volatility than the market still managed to deliver marketlike returns if risk and return are positively correlated?
This is explained by the “low volatility anomaly,” a wellestablished phenomenon that persists across asset classes
and also points to a weaker relationship between risk
and return than is commonly believed.
The “low volatility anomaly” is partly driven by the individual
investor’s tendency to underpay for lower risk stocks and to
overpay for higher risk, more volatile stocks. Hoping to find
the next Google, individual investors have been inclined to
seek “home run” investments that may carry a lot of
uncertainty. It is counterintuitive, but stocks that are more
volatile have tended to have lower returns, after adjusting
for risk, than their lower volatility counterparts.
The “low volatility anomaly” is also likely to persist for
structural reasons. Many professional investors have high
return targets, yet they are prohibited from using leverage
and other means to achieve them due to policy or
regulatory constraints. This causes them to generally
overweight riskier stocks, potentially lowering their riskreturn trade-off. Riskier stocks generally haven’t lived up to
the promise of high returns, while lower risk stocks
historically have had higher risk-return ratios.2
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2
MYTH
1
Minimum
volatility
strategies
suffer from
crowding.
DISPELLING MYTH 1
Minimum volatility strategies
have ample capacity
As explained above, the performance of minimum volatility ETFs could be partly
dependent on professional investors being drawn to higher volatility stocks. Some
are concerned that the rising popularity of minimum volatility ETFs will create large
flows into lower volatility stocks, and thereby, will reverse the dynamic that
minimum volatility ETFs depend on.
A look at stock—level ownership dispels crowding concerns about minimum
volatility ETFs. Of the S&P 500’s total market cap of $18.6 trillion, active equity
mutual funds hold on average about 13.8% of each stock in the index. Exchange
traded products collectively own on average 6.0% of each stock. See Exhibit 1.
What about minimum volatility strategies? All U.S. minimum volatility ETFs own a
mere 0.2% of the S&P 500’s stocks, implying that there is ample capacity remaining in
minimum volatility strategies.3 Thus, the fraction of total market capitalization held by
minimum volatility strategies is unlikely to merit crowding concerns.
Exhibit 1: Crowding concerns about minimum volatility strategies are not borne out by the data.
U.S. minimum volatility ETFs own a tiny fraction of the stock-level market capitalization of the S&P 500 Index.
Active Equity Mutual Funds
S&P 500
$18.6 TRILLION
in total market cap.
All U.S.
Min Vol
ETFs
0.2%
Exchange Traded
Products
6.0%
13.8%
Percentages reflect average ownership in stock–level market capitalization of the S&P 500 Index. Data as of 3/31/2016. Source: BlackRock, Bloomberg, Morningstar, Thomson Reuters.
MYTH
2
DISPELLING MYTH 2
Minimum
volatility ETFs
are vulnerable
to a sell-off.
Minimum volatility ETFs
are performing as intended
The popularity of U.S. minimum volatility ETFs has boosted their valuations and
their performance above that of the broader equity market. Their higher valuations
have sparked concern that these funds are vulnerable to a sell-off. Historically, high
valuations of MSCI USA Minimum Volatility Index (the index that the iShares® Edge
MSCI Min Vol USA ETF seeks to track) have not resulted in periods of dramatic
underperformance for the index.
3
MINIMUM VOLATILITY STRATEGIES: DISPELLING THE MYTHS
Since the index’s 2008 inception, periods when the index has had higher valuations have been followed
by stronger performing, less volatile markets. The index has then participated in some of the upside of
these stronger markets, but not all, just as one would expect (See Exhibit 2).
The index has historically delivered less downside capture in negatively trending markets as well as less
upside capture in positively trending markets.4
Over the long term, the primary investment outcome has been reduced risk.
Exhibit 2: A performance pattern over time
30%
50%
40%
20%
30%
20%
10%
0%
0%
-10%
-10%
-20%
Rising valuations of the MSCI USA Minimum Volatility
Index have been followed by strengthening markets,
periods when the index has then underperformed the
market, though not dramatically.
-20%
Valuations
Returns
10%
-30%
-40%
-30%
7/2013
4/2013
1/2013
10/2012
7/2012
4/2012
1/2012
10/2011
7/2011
4/2011
1/2011
10/2010
7/2010
4/2010
1/2010
10/2009
7/2009
4/2009
1/2009
10/2008
7/2008
-50%
MSCI USA Index Subsequent 3Y Return (left-hand axis)
MSCI USA Minimum Volatility Index Subsequent 3Y Return (left-hand axis)
The price-to-earnings premium or discount of the MSCI USA Minimum Volatility Index to the MSCI USA Index (right-hand axis)
Bars represent forward three-year rolling periods. Thus, the bar dated 7/2013 represents the three-year rolling period ending 6/2016. P/E data is trailing. Index returns are for illustrative
purposes only. Index performance returns do not reflect any management fees, transaction costs or expenses. Indexes are unmanaged and one cannot invest directly in an index. Past
performance does not guarantee future results. Source: BlackRock, MSCI 07/2008-06/2016.
Returns below and above the market’s along the way
When looking at a 15-year period, one sees the degree to which the MSCI USA Minimum Volatility Index
has underperformed or outperformed during varying levels of market volatility (see Exhibit 3). During
periods when volatility was highest, the index outperformed the broad market by an average of 8% with
nearly 6% less risk. But, that outperformance doesn’t come without cost—during low volatility periods,
the index underperformed by about 2.5% on average, and risk reduction is limited to 0.6%.
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4
Exhibit 3: Minimum volatility - losing less in high volatility periods
Risk and return sorted by volatility bucket (January 2001–January 2016)
26.5
Average return
20
25%
24.2
9.6
10
9.3
0
-10
-20
-16.1
-24.4
-30
Low
Volatility
Low-Medium Medium-High
Volatility
Volatility
MSCI USA Index
22.4
20
10.2 10.4
Annualized risk
30%
High
Volatility
16.7
15
13.5
9.5
10
5
6.2
5.8
7.8
9.8
0
Low
Volatility
Low-Medium Medium-High
Volatility
Volatility
High
Volatility
MSCI USA Minimum Volatility Index
Analysis compares the MSCI USA Index with the MSCI USA Minimum Volatility Index from January 1, 2001 to January 21, 2016. Monthly returns have been sorted equally by volatility
as measured by the VIX Index. This analysis uses back tested index data. For more information, see the end of this document. Index returns are for illustrative purposes only and do not
represent actual iShares Fund performance. Past performance does not guarantee future results. Source: MSCI and BlackRock.
Buying minimum volatility funds in order to capture a period of outperformance requires market timing to
avoid their inevitable periods of underperformance. The average investor can potentially perform poorly
when seeking to time the market. To potentially benefit from the intended outcome of minimum volatility
strategies, a longer term holding period may be required.
Since its inception, the iShares Edge MSCI Min Vol USA ETF has gained 15.8% on an annualized basis
versus the S&P 500’s 14.7%, but with volatility (as represented by standard deviation) of 8.4% versus 10.5%,
respectively, delivering on its objective of less risk.5 (Past performance does not guarantee future results.
For standardized performance, see the end of this document.)
DISPELLING MYTH 3
MYTH
3
Minimum
volatility
strategies with
heightened
valuations won’t
reduce risk.
Minimum volatility strategies
have reduced volatility regardless
of valuations
It stands to reason that valuations of minimum volatility ETFs will rise and fall over
time. On a price-to-earnings basis, current valuations of many minimum volatility
strategies may appear high versus the overall equity market’s.
The more important point, however, is that there has been no definitive relationship
between the valuations of minimum volatility strategies and their ability to deliver
lower risk. Over rolling three-year periods, the MSCI USA Minimum Volatility Index
delivered less risk than the market regardless of whether it carried a higher or
lower valuation than the broader U.S. equity market (see Exhibit 4).
5
MINIMUM VOLATILITY STRATEGIES: DISPELLING THE MYTHS
The MSCI minimum volatility indexes are designed
to offer lower risk during market downturns and/or
when volatility spikes, and it has a long track record
of doing just this. We have no reason to believe this
market environment will be any different.
Exhibit 4: Volatility reduction regardless of valuations
40%
30%
30%
20%
10%
10%
0%
Valuations
0%
-10%
-10%
-20%
-20%
-30%
-30%
-40%
-40%
7/2013
4/2013
1/2013
10/2012
7/2012
4/2012
1/2012
10/2011
7/2011
4/2011
1/2011
10/2010
7/2010
4/2010
1/2010
10/2009
7/2009
4/2009
1/2009
-50%
10/2008
-50%
7/2008
Risk
20%
40%
The percentage difference between the 3-year forward volatility of the MSCI USA Minimum Volatility Index versus that
of the equity market (left-hand axis)
The price-to-earnings premium or discount of the MSCI USA Minimum Volatility Index to the MSCI USA Index (right-hand axis)
The chart measures the trailing P/E premium or discount of MSCI USA Minimum Volatility Index to the market, as represented by the MSCI USA Index. The chart also reflects the percentage
difference between the 3–year, rolling annualized standard deviation of returns for the MSCI USA Minimum Volatility index versus the MSCI USA index. The “date” signifies the return
period start date. Data presented beginning inception of the index (6/2008) and thus “investability”. Index returns are for illustrative purposes only. Index performance returns do not
reflect any management fees, transaction costs or expenses. Indexes are unmanaged and one cannot invest directly in an index. Past performance does not guarantee future results.
Source: BlackRock, MSCI.
Conclusion
For now, there are variety of reasons that the market could remain prone to unsettling volatility, whether it’s Brexit, the U.S.
election or a persistent uncertainty about global growth. Yet, no matter what point in time we are in, market-moving events
are as inevitable as they are unpredictable.
Investors who seek market-beating performance as a primary objective may be attracted to minimum volatility strategies
when these strategies are outperforming. There are other kinds of strategies that may be better suited for these short-term
investors. Minimum volatility ETFs are designed for those primarily seeking risk reduction, in all market environments.
About the authors
Andrew Ang, PhD
Ananth Madhavan, PhD
Head of BlackRock’s Factor Based Strategies Group
and author of Asset Management: A Systematic
Approach to Factor Investing
Global Head of Research for iShares and author
of Exchange-Traded Funds and the New Dynamics
of Investing
BlackRock
6
Want to know more?
blackrock.com
1
B eyond incorporating stocks with a history of lower volatility, the index that the iShares Edge MSCI Min Vol USA ETF (USMV) seeks to track also takes into account correlations among stocks.
Moreover, the index incorporates constraints on sector and country exposures to help deliver its outcome.
2
“ The Cross-Section of Volatility and Expected Returns,” Andrew Ang, Robert J. Hodrick, Yuhang Xing, Xiaoyan Zhang, 2006.
3
“Crowding, Capacity, and Valuation in Minimum Volatility Strategies,” by Andrew Ang, Ananth Madhavan and Aleksander Sobczyk, 2016.
4
Source: MSCI as of 6/30/16. Past performance does not guarantee future results.
5
Source: Morningstar and BlackRock. Returns and standard deviation data as of 8/12/2016.
Index disclosures
Index data as of June 30, 2016
Returns
Index Name
MSCI USA Minimal Volatility Index
1-Year
5-Year
10-Year
Index
Inception Date
Dates of Back-Tested
Returns
Associated
iShares ETF
17.33%
14.77%
9.80%
6/2/2008
1/1/2001-6/1/2008
USMV
This analysis contains back-tested index data. Index returns are for illustrative purposes only. Indexes are unmanaged and one cannot invest directly in an index.
Data for time periods prior to the index inception date are hypothetical and is provided for informational purposes only to indicate historical performance had
the index been available over the relevant time period. Hypothetical data results are based on criteria applied retroactively with the benefit of hindsight and
knowledge of factors that may have positively affected its performance, and cannot account for risk factors that may affect the actual fund performance.
The actual performance of the fund may vary significantly from the hypothetical index performance due to transaction costs, liquidity or other market factors.
This analysis uses back-tested index data from MSCI Inc. Index methodology is available upon request.
Standardized performance as of June 30, 2016
Fund Name
USMV
iShares Edge MSCI Minimal Volatility USA ETF
1-Year Returns
Since Inception
Fund Inception
Date
Gross Expense
Ratio
NAV
Mkt Price
NAV
Mkt Price
10/18/2011
0.15%
17.14%
17.17%
16.00%
16.00%
The performance quoted represents past performance and does not guarantee future results. Investment return and principal value of an investment will
fluctuate so that an investor’s shares, when sold or redeemed, may be worth more or less than the original cost. Current performance may be lower or higher than
the performance quoted. Performance data current to the most recent month end may be obtained by calling toll-free 1-800-iShares (1-800-474-2737) or by
visiting www.iShares.com.
Shares of ETFs are bought and sold at market price (not NAV) and are not individually redeemed from the Fund. Brokerage commissions will reduce returns. Market returns are for most ETFs), and do
not represent the returns you would receive if you traded shares at other times based upon the midpoint of the bid/ask spread at 4:00 p.m. eastern time (when NAV is normally determined.
Carefully consider the Funds’ investment objectives, risk factors, and charges and expenses before investing. This and other information can be found
in the Funds’ prospectuses or, if available, the summary prospectuses which may be obtained by visiting www.iShares.com or www.blackrock.com. Read the
prospectus carefully before investing.
Investing involves risk, including possible loss of principal.
The iShares Minimum Volatility ETFs may experience more than minimum volatility as there is no guarantee that the underlying index’s strategy of seeking to lower volatility will be successful.
This material represents an assessment of the market environment as of the date indicated; is subject to change; and is not intended to be a forecast of future events or a guarantee of future
results. This information should not be relied upon by the reader as research or investment advice regarding the funds or any issuer or security in particular. The information presented does not
take into consideration commissions, tax implications, or other transactions costs, which may significantly affect the economic consequences of a given strategy or investment decision.
The iShares Funds that are registered with the US Securities and Exchange Commission under the Investment Company Act of 1940 are distributed in the US by BlackRock Investments, LLC
(together with its affiliates, “BlackRock”).
iS-18807-0816
In Latin America and Iberia: this material is for educational purposes only and does not constitute investment advice nor a solicitation to sell or a solicitation of an offer to buy any shares of
any Fund (nor shall any such shares be offered or sold to any person) in any jurisdiction in which an offer, solicitation, purchase or sale would be unlawful under the securities law of that
jurisdiction. If any funds are mentioned or inferred to in this material, it is possible that some or all of the funds have not been registered with the securities regulator of Brazil, Chile, Colombia,
Mexico, Panama, Peru, Portugal, Spain Uruguay or any other securities regulator in any Latin American country and thus might not be publicly offered within any such country. The securities
regulators of such countries have not confirmed the accuracy of any information contained herein.
The iShares Funds are not sponsored, endorsed, issued, sold or promoted by MSCI Inc., nor does this company make any representation regarding the advisability of investing in the Funds.
BlackRock is not affiliated with MSCI Inc.
©2016 BlackRock. All rights reserved. iSHARES and BLACKROCK are registered trademarks of BlackRock. All other marks are the property of their respective owners.
007108A_ISHR_MinVolDefense_v9b
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