New research on the low-risk anomaly—in which less risky stocks earn higher risk-adjusted returns—shows “exactly which types of stocks are likely to perform poorly over time, especially in a bear market.” This according to an article in Advisor Perspectives by Larry Swedroe, director of research for the BAM Alliance.

The article offers a summary of the study results, which were published in the June 2019 issue of the Journal of Financial and Quantitative Analysis:

• “It is possible to identify stocks ex-ante with differing sensitivities to bear markets.”
• The stocks that suffer most during downturns are the “risky small-growth stocks with high short-term debt, high capital expenditures and low dividend yields.” Swedroe writes, “Investors seeking to avoid the worst outcomes during bear markets should shun stocks with those characteristics.”
• Conversely, the stocks that suffer the least during downturns are large, profitable, dividend-paying value stocks that make smaller investments with limited debt.
• “The unconditional average returns of safe stocks are much greater than those of risky stocks,” the study shows, with a safe portfolio outperforming the market by approximately 0.2% per month. The results, writes Swedroe, “are not due to small illiquid stocks, but are pervasive patterns across the market.”

According to Swedroe, the study findings are “certainly puzzling for classical finance theory because they suggest that insuring against bad times is not valuable to investors.” The takeaway for investors, he concludes, is to “make sure you understand the nature of the risks in the stocks in your portfolio.”