In a recent Wall Street Journal article, columnist Jason Zweig highlights how this year’s performance of low-volatility funds—expected to “do better in bad times while still faring well in good times”—has been “perverse: Several lost at least as much as the market in February and March, but later lagged far behind when stocks shot up more than 50%.”

Zweig underscores the lesson: “Historical returns often paint a distorted picture, rigid rules have unintended consequences and the market loves to make monkeys out of people who think they’ve solved it.” He points out that very often, the “back tests” (hypothetical historical results) are “based not on one portfolio, but two. Researchers assume an investor bought the best stocks identified by the strategy and sold short, or bet against, the worst.” These back tests also tend to assume that investors put equal amounts in each stock instead of weighing more heavily in the biggest. And Zweig notes, “they usually pretend that trading has always been free.”

The article quotes Robeco quantitative portfolio manager Pim van Vliet, who describes owning low-vol stocks as “going to a party and standing there with your soda while everybody else is drinking liquor and jumping up on the tables to dance.”

Barclays head of quantitative equity research Arik Ben weighs in: “The key underlying assumption was that what happened before would be reflective of what was coming. But what happens when this is no longer the case?”

Although certain industries became more appealing when the pandemic hit (i.e. software and biotech), the article notes that low-risk funds are run “according to rules, not human judgement,” making changes on a predetermined schedule which, “in 2020, just so happened to fall at the worst possible time for some.”

Although managers say these funds are meant to be part of a diversified approach rather than represent an investor’s largest exposure, Zweig quotes FactSet’s Elisabeth Kashner (director of ETF research) who says, “When a product is sold with the implication that it’s going to deliver risk-adjusted outperformance, what would it dislodge other than core portfolio holdings?”

Zweig concludes: “It isn’t a mistake to try lowering your risk. It is a mistake, however, to assume that the future will resemble the past, that rules are infallible and that you should dive into any one strategy with both feet.”