Although low-volatility stocks were very appealing in the wake of the financial crisis (assets under management have risen to approximately $46 billion since then), some argue that these stocks are “effectively bond proxies that have benefited from the declining interest rates over the last few decades.” This according to an article in CFA Institute.

Do rising rates present a risk to this asset class? CFA Institute attempted to find out by creating a long-only portfolio of the top 10% of U.S. equities ranked by price volatility over the last year (with monthly rebalancing) and found that it outperformed the U.S. stock market as a whole since 1991. “These initial results,” the article states, “make a strong case for low-volatility stocks.”

A breakdown of the underlying U.S. portfolio reflected that “the strategy was largely a bet on two sectors: real estate and utilities. Together, these accounted for more than 50% of the stocks across the time period.” It explains that such sectoral biases are not surprising, since low-vol stocks are usually mature businesses that generate stable cash flows. It adds, however, that these stable businesses also tend to carry more debt and are therefore more sensitive to interest rate fluctuations.

The article argues that while the declining rates of the past several decades made a low-volatility strategy a good risk-reduction play, it also served as a major component in the low-volatility strategy performance—and the current rising rate climate in the U.S. is making such stocks “riskier bets.” The long bull market, it concludes, “may have run its course, and if bond and equity markets correct simultaneously, low-volatility stocks may not provide so safe a haven.”