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Are Low-Volatility Stocks the Answer to Market Swings?

Investors caught off guard by the sudden return of market volatility in early 2018 may have found themselves newly appreciative of the steadier holdings in their stock portfolios. But low-volatility stocks aren’t just useful during bouts of turbulence—over time they actually tend to outperform their more-volatile peers.1

Of course, we’ve all been taught that with greater risk comes potentially greater rewards—and that wisdom holds true when comparing asset classes. (Equities, for example, tend to outperform lower-volatility bonds over the long term.) Within the category of equities alone, however, stocks with higher risk profiles may yield lower long-term returns.

A hypothetical portfolio comprising the Russell 1000® Index’s least-volatile stocks, for example, would have declined 27% during the depths of the 2008 financial crisis—compared with 37% for the Russell 1000 as a whole and 45% for the Russell 1000’s most-volatile stocks.2 And over the ensuing decade, that low-volatility portfolio would have continued to outperform—returning more than twice as much as its high-volatility counterpart (see “Built to last,” below).

So, what’s the best way to put low-volatility stocks to work in your portfolio? First you need to determine the volatility of the stocks you already own—say, by checking their Price Volatility Outlook in their Schwab Equity Ratings® reports (see “Storm watch,” below). Once you know your exposure, you can determine whether it makes sense to shift additional dollars into less-volatile equities.

Storm watch

Schwab Equity Ratings, which assigns letter grades A through F to approximately 3,000 U.S.-traded stocks, now includes a Price Volatility Outlook as a way to gauge expected volatility during the next six months. To view a stock’s Price Volatility Outlook, log in, enter its ticker symbol in the search field, click its Schwab Equity Rating grade and then click on the Schwab Equity Ratings Report link on the right-hand side to view an in-depth PDF.

How much, if any, to shift depends on your tolerance for big price swings. Aggressive investors may wish to keep low-volatility stocks to a minimum, whereas more conservative investors might choose to migrate a greater portion of their portfolios into relatively stable stocks.

That said, there might be times when a historically turbulent share price is worth the risk. Investors in technology stocks, for instance, are often willing to stomach their ups and downs in exchange for potentially higher growth.

In the end, what matters most is building a portfolio you can live with, even as markets go through their inevitable gyrations. Knowing all you can about your individual holdings should help you help you do just that.

Steven Greiner, Ph.D., is a senior vice president of Schwab Equity Ratings at the Schwab Center for Financial Research.

Mahmoud Shammaa, CFA, is a director of Schwab Equity Ratings at the Schwab Center for Financial Research.

1Andrew Ang, Robert J. Hodrick, Yuhang Xing and Xiaoyan Zhang, “The Cross-Section of Volatility and Expected Returns,” The Journal of Finance, February 2006. Xi Li, Rodney N. Sullivan and Luis Garcia-Feijóo, “The Low-Volatility Anomaly: Market Evidence on Systematic Risk vs. Mispricing,” Financial Analysts Journal, Vol. 72, No. 1, 2016.

2Every month over a 20-year period, all Russell 1000 companies were ranked by their past one-year volatility, with the lowest-volatility tercile classified as low volatility and the highest-volatility tercile classified as high volatility.

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Important Disclosures

The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision.

All expressions of opinion are subject to change without notice in reaction to shifting market conditions. Data contained herein from third-party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed.

Examples provided are for illustrative purposes only and not intended to be reflective of results you can expect to achieve.

Schwab Equity Ratings and the general buy/hold/sell guidance are not personal recommendations for any particular investor or client and do not take into account the financial, investment or other objectives or needs of, and may not be suitable for, any particular investor or client. Investors and clients should consider Schwab Equity Ratings as only a single factor in making their investment decision while taking into account the current market environment.

Schwab Equity Ratings are assigned to approximately 3,000 of the largest (by market capitalization) U.S. headquartered stocks using a scale of A, B, C, D and F. Schwab's outlook is that Arated stocks, on average, will strongly outperform and Frated stocks, on average, will strongly underperform the equities market over the next 12 months. Each of the approximately 3,000 stocks rated in the Schwab Equity Ratings universe is given a score that is derived from several research factors. The assignment of a final Schwab Equity Rating depends on how well a given stock scores on each of the factors and then how that stock stacks up against all other rated stocks.

Past performance is no guarantee of future results.

Investing involves risks, including loss of principal.

The Schwab Center for Financial Research is a division of Charles Schwab & Co., Inc.

Indexes are unmanaged, do not incur management fees, costs and expenses, and cannot be invested in directly.

The Russell 1000 Index measures the performance of the large-cap segment of the U.S. equity universe. It is a subset of the Russell 3000 Index, representing approximately 90% of the total market capitalization of that index. It includes approximately 1,000 of the largest securities based on a combination of their market cap and current index membership.

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