How The Newest Low Vol ETF Breaks The Mold

How The Newest Low Vol ETF Breaks The Mold

When it comes to ETF innovation, Ben Fulton is a pro, and he’s spilling the beans on just how hard it is to break new ground in the ETF market.

Reviewed by: Cinthia Murphy
Edited by: Cinthia Murphy

Ben Fulton has brought many ETFs to market over the years, and he has been breaking new ground with his new firm Elkhorn Investments. Here he tells us how his latest launch, the Elkhorn Lunt Low Vol/High Beta Tactical ETF (LVHB) breaks the mold on traditional low-vol investing, and how being a new ETF issuer is a lot harder than it seems. You helped bring to market one of the most popular low-vol funds, the PowerShares S&P 500 Low Volatility Portfolio (SPLV), while at PowerShares. Now you’ve launched LVHB under Elkhorn. How is LVHB an evolution or an innovation relative to SPLV?

Ben Fulton: It goes back to my view of low-vol and factors in general. The majority of factor ETFs aren’t really designed to be long-term buy-and-hold; they're access products. You're accessing a part of the market where you either feel it's undervalued, there's opportunity or better risk management.

Low vol is an interesting one, because most of the time, low-vol-type stocks provide a great way to get a respectable yield and better risk management and to remove a lot of downside draft. But there are times low-vol can become overpriced or out of favor.

We and our partner, Lunt Capital Management, believe in owning in the low-vol space. The idea was to own low vol two-thirds of the time, but a third of the time be in high beta, which is the flip side of low vol. There are times it's going to provide outperformance, or opportunities you can't find within low-vol names.

SPLV was never designed to be a stand-alone product; it was designed to be an add-on. If you already owned S&P 500 names, but were trying to tilt your portfolio to get more low-vol exposure, that's where you ended up—in SPLV. Today people are using it as a replacement product for S&P 500 funds. And I'm not sure if that’s right all the time.

We’re trying to create a product that harnesses the power of what’s in SPLV, but that has a relief valve to give you exposure to the counter-area of high-beta names. Investing in low vol or high beta no longer has to be a situation where you either own one or the other. So LVHB is either in low-vol or in high-beta stocks at any given time?

Fulton: The majority of the time, it's in low vol. It's never a blend. It's either low vol or it's high beta. You could call this a low-vol rotation strategy. What's the trigger for the switch? Is it valuations?

Fulton: It’s a proprietary methodology of Lunt's. It is a relative strength model. Essentially, they're looking at where the strength in the market is and where the leadership is. When you get to a point where low vol begins to become overextended, that's when you see the conversion. About a third of the time you actually want to be in high beta—it averages two to three changes per year, so it's very tactical. If you cover both sides, is this a good replacement for the S&P 500?
The group that brought in the initial seed—a large RIA out of Utah by the name of Soltis—used it to replace part of their traditional S&P 500 or large-cap U.S. exposure. That's the way they chose to use LVHB.

I think that's an artful approach, because you're looking at constant exposure to S&P 500 names, but you're picking what side of the coin of S&P 500 names you want to own at different times. It's not 50/50. Is there a point when low vol is no longer effective because there's too many people buying into these strategies? Does it ever get too crowded to be effective?

Fulton: I think you get some momentary ineffectiveness, and that's really what this fund is addressing. When you get to a point where you have such buying that low vol loses its leadership, you need a place to step out.

But it's a little bit like saying, do growth and value tend to lose their effectiveness? There are times growth is going to show leadership, and there're times value will. I think some of it is valuations, some of it is capital market-driven. Same thing with low vol/high beta. Does this product reflect your philosophy about factor investing—the idea that you should not load up on one factor, perhaps—or was it just designed this way because that’s what a specific client wanted?

Fulton: That's a great question. First, we have to recognize that factors are a vital part of the attributes of a stock, of an ETF. I do think you have to, at a minimum, blend factors. Ultimately, switching or rotating in and out may be an even better approach. But to have constant ownership in a single factor probably presents problems at some point. There'll be periods of underperformance.

You have to be nimble, especially if you’re going to try to outperform, say, the SPDR S&P 500 (SPY). You have to do something besides just own a static hold of a single name, or a single factor. How hard is it to be a new issuer? You personally have the benefit of great name recognition, but how do you plan to gather assets? There are a lot of great ideas dying on the vine because marketing and distribution aren't there.

Fulton: There are some classic things we do. We have a wholesale team; we do marketing and education. Those are the blocking and tackling of our industry. But one of the things we're recognizing is you need to find alternative sources of assets early on to make sure products are approved and get on the platforms and have a chance to trade and are recognized.

It’s a much tougher market today because there are a lot more gatekeepers and approval processes for all new products. And it's a crowded market space. So differentiating yourself isn’t easy. But if you're not known in the space, it's tougher to get in front of and be recognized by the industry.

I'm a product person at heart, so it has to be a product that truly adds value for you to have any chance.

The one thing to always remember is that the tag line for Elkhorn is “Designed with purpose.” We are a design, engineering and solutions firm first. There are firms out there that are a lot better at pure distribution and sales. We sell with high conviction because we believe in our products, so we think, in the long term, that's what will differentiate us in the marketplace. To raise assets and get traction, is it crucial today to be on a commission-free platform? Is that a driver in advisors' decision-making when they're picking which ETFs to buy?

Fulton: That’s a great question. We were one of the first to do that at PowerShares by partnering with Schwab early on. I've chosen not to do that so far here at Elkhorn—not because I don't like and respect these platforms, but because I realize if it's a good product, I don't think it matters to the advisor whether it’s in a commission-free platform.

The jury's still out on the assets that are sitting in those ETFs. Is it because of the free commission, or is it because those are widely held products anyway? I think it's going to be interesting as we start seeing some of those contracts be renewed and renegotiated. There are a lot of leadership changes in distribution. We have now robo advisors, for example.

But we continue to look and talk. I won't say we won't add some of our products into those suites—we’ve got a couple now that I think can make sense. But it's not a guarantee for success that negotiating that fee, will all of a sudden make your ETFs successful; it's just one facet of distribution. But it’s an interesting question. And to get traction, you often need to start with traction, as in a good seed. LVHB came with a $50 million seed—the second-largest in the ETF market this year—but we don't really see any more big seeding of ETFs. Is it more difficult to get seed money today?

Fulton: It's very difficult. The major change happened quite a few years ago when what we call [Reg NMS (Regulation National Market System)] rolled out. And Reg NMS essentially ended the traditional “specialist role” on exchanges and introduced what we’ll call this “highly connected autobahn” for securities to be able to transact freely and with unbelievable speed.

But the problem then became that, once you introduced that, it was great for the Apples or the SPYs of the world, but it was problematic for a new company or a new ETF coming into the marketplace, because we're driving one of those little smart cars, which are not the best thing on the autobahn. It probably should stay on the side roads until it can keep up with the speed.

The other problem was that when there was a specialist world, all the people complained that we're creating these little monopolies where specialists get the first and last look at every trade, and all that. But the benefit was that they were willing to commit large amounts of capital to new products because they were essentially buying into a franchise. And they were taking the business risk with all involved to build into that franchise.

Today the franchising is gone. Everyone's free to operate. If I'm a market maker, I'm not putting large seed there because it's of zero benefit to me to take on that risk. The marketplace has been much kinder to ETF sponsors than the reward they reap from it. Thankfully, they still stood in the gap and provided seed, but it's hard to put down a business case as to why it makes sense for them to do it.

I do like some of the things that are happening in exchanges now. They're beginning to explore some different pricing for new or smaller securities. It may include ETFs. Those types of advancements could at least back up the clock a little bit and start saying, “Hey, let's slow this down. Let's think about how we get more marketplace involvement.” And that could at some point equal new seed dollars coming. So the barrier to entry for new issuers is higher today.

Fulton: It's almost impossible, I'll say. That's one of the benefits of my having 20 years' experience and the close to 300 ETFs I've launched. It's a little easier for someone like me to call someone and say, “Look, this is an idea.” If you're unknown in this space and you want to do it, I don't know how you do it. Is that detrimental to investors, or is that beneficial? Because in theory it keeps a lot of products out—it doesn't really open the floodgates to new ETF issuers and new products.

Fulton: It's kind of like saying, is garage band music good for the music industry? I don't know; people like it. To me, it's the flavor of the day and it's what people want.

The burden should come down to the firm: Can they afford to continue to operate? Like the garage band, can they continue to write music and tour around, and can they keep their van running to get to the next gig?

That's a personal-preference question. I'm a free marketer. If the company can't survive, then the marketplace will vote with their dollars and they'll shut down. That's fine. But for it to be a regulatory train wreck that was created by people who didn't really understand the marketplace; that's a real shame. And that's what happened with that.

Reg NMS should have never been put in place for ETFs. I complained before they did it, and I look now and say, “You're getting exactly what I always said was going to happen.”

Contact Cinthia Murphy at [email protected]


Cinthia Murphy is head of digital experience, advocating for the user in all that does. She previously served as managing editor and writer for, specializing in ETF content and multimedia. Cinthia’s experience includes time at Dow Jones and former BridgeNews, covering commodity futures markets in Chicago and Brazil equities in Sao Paulo. She has a bachelor’s degree in journalism from the University of Missouri-Columbia.