Macro Risk of Low-Volatility Portfolios

Abstract

This article examines the exposures of low-volatility portfolios to various sources of systematic risk. The analysis includes interest rate, implied volatility, liquidity, commodity, sentiment, macroeconomic, and climate risk factors. The author finds that low-volatility portfolios lower the exposure to all significant drivers of systematic risk. The risk reductions vary from a minimum of 20% to over 90% across the various risk factors. Although low-volatility portfolios are very effective at dampening known structural risk factors, the 2020 COVID-19 pandemic episode illustrates that event risk is harder to control for data-driven methods.