July means a new earnings season, and possibly more stock market volatility as companies report their Q2 figures and outlook for the rest of the year. A number of widely-followed companies are reporting this week, including JPMorgan Chase (NYSE:JPM) and PepsiCo (NASDAQ:PEP) today, Citigroup (NYSE:C) and Delta Air Lines (NYSE:DAL) on Wednesday, and Taiwan Semiconductor Manufacturing (NYSE:TSM) on Thursday.
As a result, the CBOE Volatility Index could also see spikes. Many regard this leading benchmark for U.S. stock market volatility as a useful tool to appreciate the sentiment in broader U.S. equity markets.
Traders also refer to the VIX as the "fear index,” since the index usually escalates rapidly when the S&P 500 drops sharply. An index like the VIX tends to be highly mean-reverting, which means given the recent record highs we have seen in broader equity markets, many might be tempted to look for a bottom in the VIX.
It is not possible to foretell how investors could react to the upcoming quarterly numbers that will be posted by some of the darlings of Wall Street. Therefore, today we discuss two exchange-traded funds (ETFs) that could help diversify portfolios in times of heightened volatility.
1. Fidelity Low Volatility Factor ETF
Current Price: $48.36
52-Week Range: $36.43 - $48.37
Dividend Yield: 1.17%
Expense Ratio: 0.29% per year
The Fidelity® Low Volatility Factor ETF (NYSE:FDLO) provides access to large- and mid-capitalization U.S. businesses with lower volatility than the broader market.
The overall beta of the fund in the last 12 months has been 0.88. This metric shows the volatility of returns relative to the entire market. In simple terms, if a security has a beta below 1, it is less volatile than the overall market. On the other hand, a stock or fund with a higher beta has higher risk and also greater expected returns.
FDLO, which has 129 stocks, tracks the returns of the Fidelity U.S. Low Volatility Factor Index. Since the fund’s inception in September 2016, assets under management have grown to $473 million.
Stocks in the information technology sector have the largest slice, with 27.82%. Next in line are health care (13.87%), consumer discretionaries (12.76%), communication services (10.54%) and financials (10.39%).
Apple (NASDAQ:AAPL), Microsoft (NASDAQ:MSFT), Alphabet (NASDAQ:GOOG)(NASDAQ:GOOGL), Visa (NYSE:V), Amazon (NASDAQ:AMZN), Johnson & Johnson (NYSE:JNJ) and UnitedHealth Group (NYSE:UNH) are among the leading names in the roster. About 29% of assets are in the top 10 stocks.
In recent years, many of these stocks have been favorites of most long-term portfolios. Their quarterly metrics could potentially bring short-term declines in their share prices. Nonetheless, these businesses are likely to see many more quarters of sales growth and an increased return on equity.
The ETF is up more than 30% in the past year and 14% year-to-date. The fund saw a record high in recent days. Trailing P/E and P/B ratios stand at 28.37 and 5.53, respectively. In the case of a potential decline, long-term investors could find better value around $45.
2. iPath S&P 500 VIX Short-Term Futures ETN
Current Price: $29.24
52-Week Range: $28.07 - $144.04
Expense Ratio: 0.89% per year
Our next choice is an exchange-traded note (ETN), a topic we covered previously in detail. The iPath® Series B S&P 500® VIX Short-Term Futures™ ETN (NYSE:VXX) is an unsecured debt obligation issued by Barclays (NYSE:BCS).
VXX provides exposure to the S&P 500 Vix Short Term Futures ER, which follows the value of the near-term futures contracts written on VIX.
Thus, the objective of VXX is to achieve a daily return that exactly matches the daily change in short-term futures contracts tracking the VIX. This ETN typically has a high correlation with the spot price of the VIX index.
Therefore, VXX may enable bearish investors to hedge their portfolios against a market decline in the short run. In other words, the ETN could rally during the earnings season on the back of a potential weakness in equities.
Nonetheless, VXX is usually not suitable for long-term portfolios. Like other volatility exchange-traded products, this ETN is designed with daily returns in mind.
Put another way, if VXX is held for more than one trading session, both the positive and negative returns may easily be compounded. As the holding period increases, VXX traders tend to lose money due to moves in prices of futures. As a result, it is more appropriate for experienced traders who want a volatility product for a short-term bet.