Low volatility stocks: how the ranking works

Textbook finance says investors should be paid more for taking more risk, so riskier stocks should earn higher returns. In practice, research has repeatedly found that lower-risk stocks have done better than that theory predicts. This pattern is often called the low volatility anomaly or low-risk anomaly.

Whatever the explanation, a calmer stock is easier to hold through a downturn. A low volatility ranking looks for stocks with steady prices and the financial footing to ride out a rough patch.

Each stock receives a 0–100 score on up to four measures, blended with fixed weights:

• 60-day volatility (weight 3): the standard deviation of the last 60 daily log returns, annualized by multiplying by the square root of 252. Lower scores higher.
• Beta (weight 2): how strongly the stock has moved with the overall market. Lower scores higher, so a stock that moves less than the market beats one that moves more.
• Interest coverage (weight 1): operating income divided by interest expense, a sign the company can ride out a rough patch. Higher scores higher.
• Dividend yield (weight 1): calm stocks often pay steady dividends. Higher scores higher.

Each measure is ranked as a percentile against the other stocks: the best scores 100, the worst 0, and equal values share the midpoint. The overall score is the weighted average of the measures that apply to the stock.

Two measures can be left out. A company that pays no dividend ranks at the bottom on yield rather than being left out, but a stock whose dividend figure isn't reported is scored on the others. Banks and insurers have no interest coverage, so they are scored on the other measures.

Assume ten fictional companies pass the same filters and have complete data. Company A is scored against the other nine. The figures are made up for illustration and do not describe any listed company.

Low volatility score = 266.7 + 133.4 + 44.4 + 77.8 = 522.3, divided by the total weight of 7, gives 74.6 out of 100.

If Company A were a bank with no interest coverage, it would be scored on the other three measures: (266.7 + 133.4 + 77.8) ÷ 6 = 79.6. The score describes A's position among these companies; it is not a forecast of its return or risk.

1. Choose Low volatility in the scoring-model picker.
2. Optionally filter by sector, size or other metrics. Beta is a filter-only metric elsewhere, and this is the one model that scores it.
3. Consider switching on Compare within each sector to find the calmest stock in every sector, not just the defensive ones.
4. Open a stock's breakdown to see its score on each measure.

The model uses this fixed recipe, so metric Score switches and custom weights don't change it. Stocks without 60 trading days of prices, or without a beta, are left out and listed as unranked. At least ten eligible stocks are needed. See the full methodology.

• Calm is not safe. Low volatility stocks can still fall, sometimes sharply.
• The measures look backward. Sixty days of prices and past market sensitivity may not describe tomorrow.
• Sector clustering. Calm stocks often sit in defensive sectors, which can lead to concentrated results.
• Calm can be expensive. The model does not look at valuation, so popular defensive stocks can be priced richly.
• Volatility counts gains too. A stock with large upward swings is ranked as risky.

Stock Meadow's scores are research tools based on reported financial data. They do not predict returns or recommend buying a particular stock.

Among the well-known studies of the pattern are Andrew Ang, Robert Hodrick, Yuhang Xing and Xiaoyan Zhang, “The Cross-Section of Volatility and Expected Returns” (Journal of Finance, 2006), and Malcolm Baker, Brendan Bradley and Jeffrey Wurgler, “Benchmarks as Limits to Arbitrage: Understanding the Low-Volatility Anomaly” (Financial Analysts Journal, 2011). This guide describes Stock Meadow's implementation; Stock Meadow is independent of those authors.

Each measure has its own page with a formula, how to read it and common pitfalls.

• Stock Volatility (60-Day): how much the price has swung lately.
• Beta: how much the stock moves with the market; 1 moves in step.
• Interest Coverage Ratio: how easily profits cover interest payments.
• Dividend Yield: yearly dividends as a share of the price.

What is the low volatility anomaly?

Academic studies have found that, over long periods, less volatile stocks have often earned returns similar to or better than more volatile ones, which standard theory does not predict. The pattern is debated and does not hold in every period.

What is the difference between volatility and beta?

Volatility measures how much a stock's own price swings. Beta measures how strongly it moves with the overall market. A stock can swing a lot yet move independently of the market, or the reverse.

Do low volatility stocks still fall in a bear market?

Yes. Calm stocks tend to fall less when markets fall, but they can still lose money. The measures look at the past, and conditions change.

Why do low volatility stocks cluster in a few sectors?

Defensive sectors such as utilities and consumer staples tend to have steadier prices. Switch on Compare within each sector in Stock Meadow to find the calmest stocks in every sector.