So Sophisticated, I Can't Figure It Out

We spend a lot of time here looking at funds with sophisticated strategies in an ongoing pursuit of trying to learn more and refine the portfolio. Sophisticated funds are becoming more readily accessible all the time. There can be plenty to learn from these strategies even if you never use a particular fund. It's fun to explore these and learn about them. I always caveat this to say I look at far more funds than I ever use. 

That brings us to the Quadratic Interest Rate Volatility & Inflation Hedge ETF (IVOL). The fund has been around for a little while. It's one I've been trying figure out pretty much since it started trading. Here's the investment objective:

The Quadratic Interest Rate Volatility and Inflation Hedge ETF (the “Fund”) is a fixed income ETF that seeks to hedge relative interest rate movements, whether these movements arise from falling short-term interest rates or rising long-term interest rates, and to benefit from market stress when fixed income volatility increases, while providing the potential for enhanced inflation-protected income.

And more;

 

Here's how it's done;

 

The reason to compare it to Schwab US TIPS ETF (SCHP) is because 84% of IVOL is in SCHP. The rest is in the option strategy and cash. The problem this year, despite headline price inflation having increased so much is that SCHP takes on a little bit of duration and as indicated in the bottom of the picture of the investment strategy, the options are expected to decrease in value when the curve inverts. Since it hit the market in 2019, IVOL has tracked pretty closely to SCHP except for a few months in early 2021.

There's a lot here I don't fully understand. The fund's boilerplate also talks about benefiting from increasing volatility in the bond market. Maybe the loss so far does reflect the fund having benefited from increased bond volatility, not sure if they mean the MOVE Index or something else. 

I don't doubt the fund is behaving the way it should to the current and ongoing set of variables that are relevant to the strategy. I can't figure why anyone would buy the fund. The AUM is huge though, at just over $1 billion. IVOL's yield now is pretty good at 4.23% per Yahoo Finance but SCHP shows a yield of 7.09% also per Yahoo Finance. So similar tracking between the two funds but much more yield from the much cheaper SCHP. 

The yield curve is now massively inverted and it seems that market expectation are for it to stay inverted for a while. The fund should benefit once the yield curve started to steepen with a positive slope, I'm sure it will do that because it is supposed to. I obviously have no idea when that will happen. What I wonder, and don't know, is whether the fund will benefit from here, the current level of inversion, back to flat, before the slope goes positive. If it should do well in that part of the reversion back to normal then maybe IVOL will absolutely rip higher. Or not, again I don't know and I am not sure it makes sense to wait in this fund for that outcome. 

I've described some funds before by saying "I want it to work" and while I think it does what it is supposed to, right or wrong (I'm sure I'm wrong), I don't see any utility in adding this fund. It is intriguing and I will continue to watch it and try to learn but I have no interest or intention of adding this fund either for clients or personally.