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The tranquility of low-volatility ETFs

Published on 03-04-2024

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BMO offering performs as expected


The stock market offers good profit potential, but many investors worry about the risk. They hear stories about market crashes, such as we experienced in 2022, and they fear having their life savings wiped out.

The financial industry, which is always sensitive to investor emotions, has come up with a product designed specifically for these nervous folks. They’re called low- or minimum-volatility funds, and they’re structured to reduce the chances of heavy losses when markets tank.

They do this by focussing on low-beta stocks. These are securities that are less sensitive to the up-and-down gyrations of the market – think of them as plateaus as compared with mountain peaks.

The theory is that these low-beta stocks will outperform when markets are falling but underperform in bull markets, thereby smoothing out the rough edges of stock movements.

Do they work? Based on the evidence to date, yes. These funds don’t eliminate stock market risk, but they contain it quite efficiently.

Here’s one example from the recommended list of my Internet Wealth Builder newsletter.

BMO Low Volatility Canadian Equity ETF

BMO Low Volatility Canadian Equity ETF (TSX: ZLB) invests in a portfolio of large-cap Canadian stocks that have a low beta history, meaning they are less sensitive to broad market movements and, therefore, theoretically less risky. The portfolio is actively managed. It is rebalanced in June and reconstituted in December. The fund has a respectable gain of 9.39% in 2023. The 10-year average annual compound rate of return is 10. 2%. The MER is 0.39%.

The fund was launched in October 2011 and has $3.3 billion in asset under management. There are 49 positions in this equal weight portfolio, all Canadian companies. Three grocery giants are in the top five: Loblaw (4.05% of assets), Metro (3.87%), and Empire (3.28%). Other top five positions are Hydro One (3.57%) and Thomson Reuters (3.2%).

In terms of sector breakdown, 19.36% is in financials (a significant underweight from the TSX Composite), 16.09% in consumer staples, and 14.58% in utilities. Energy, which is the second-largest sector in the Composite, has negligible representation.

The fund makes quarterly cash distributions, which are currently running at $0.28 per unit ($1.12 per year). At that rate, the yield at the current price is 2.6%. The tax report for 2023 was not yet available at the time of writing. However, in 2022, about 59% of the distributions were treated as eligible dividends, meaning they qualified for the dividend tax credit if held in a non-registered account. Another 39% was classed as capital gains. So, this is a very tax-efficient fund.

The big selling point for this ETF is its low risk nature. Over the past decade, it has been down in only two calendar years, and both times the declines were minimal. The worst was a drop of 2.83% in 2018. In 2022, which was a terrible year for stocks, this fund lost only a fractional 0.37%.

This ETF has a proven history of downside protection during stock market selloffs. It will likely underperform during bull markets, but its long-term record shows it’s a good choice for conservative investors.

Gordon Pape is one of Canada’s best-known personal finance commentators and investment experts. He is the publisher of The Internet Wealth Builder and The Income Investor newsletters, which are available through the Building Wealth website.

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Notes and Disclaimer

Content © 2024 by Gordon Pape Enterprises. All rights reserved. Reprinted with permission. The foregoing is for general information purposes only and is the opinion of the writer. Securities mentioned carry risk of loss, and no guarantee of performance is made or implied. This information is not intended to provide specific personalized advice including, without limitation, investment, financial, legal, accounting, or tax advice. Always seek advice from your own financial advisor before making investment decisions.


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