The Quadratic Interest Rate Volatility and Inflation Hedge ETF (IVOL ) historically outperforms during periods of fixed income stress. It’s a strong contender when inflation and interest rate volatility threatens, provides mitigation for a stagflation environment, and offers strong performance year to date.
With the onset of U.S. tariffs in April, markets were forced to recalibrate their inflation outlooks for the year. Inflation protection strategies, such as Treasury inflation-protected securities (TIPS), will likely prove increasingly popular as tariff impacts begin to trickle through the economy.
“TIPS prices are sensitive to real growth,” KFA Funds explained in a recent IVOL update piece. “If we indeed get lower growth in 2025-26, one could expect real yields to move lower and help TIPS investments.”
Benefits of TIPS Without the Drawbacks
Although TIPS increase in value with inflation, different durations of these Treasury bonds carry different interest rate sensitivities. That’s a commonality among bonds. TIPS also, by nature, carry longer duration profiles than other Treasuries. This means when inflation rises, the interest rate impact on TIPS may sometimes erase the benefits of the inflation hedge they provide.
IVOL aims to help solve for this problem. It combines TIPS investing with long, over-the-counter (OTC) rate options that are fully funded. The strategy seeks to provide investors with a way to harness inflation beyond the limitations of the CPI Index while mitigating the long duration nature of TIPS. “IVOL addresses this issue through its positive convexity, which seeks to profit from rising long term yields,” the authors noted.
The fund also harnesses interest rate volatility for potential gains. The options held may benefit from a steepening yield curve due to their long positioning on interest rate volatility. The strategy may prove a notable addition to an alternatives sleeve, as an inflation hedge, or even add value for those focused on spreads. Because it invests in interest rate spreads, it proves a notable diversifier to strategies with exposure to corporate credit spreads.
“Many of our investors use IVOL as a spread and return product rather than loading up on additional corporate credit risk, as most have plenty of corporate risk from their stock portfolios already,” the authors shared.
Mitigate Stagflation Risk With IVOL
IVOL also delivers consistent returns, with distributions of at least 30 bps monthly for the last five years, according to KFA Funds. The fund was the first ETF of its kind to offer access to the OTC fixed income options market, the mechanism it uses for long interest rate volatility. The fund invests in a mix of U.S. TIPS of any maturity, which are U.S. government bonds whose principal amounts increase with inflation.
IVOL also invests in long options directly tied to the shape of the U.S. interest rate swap curve. The curve steepens when the spread between longer-term debt instrument swap rates and shorter-term debt instruments grows larger. It flattens when the spread grows smaller, and inverts when the spread is negative. In the challenging market environment of 2025, with forecasted growth impacts and rising inflation, IVOL could be well positioned.
“There is a risk that we get both inflation and recession: stagflation,” the authors explained. “We believe that IVOL could be helpful in the current environment, especially for stagflation risk mitigation.”
The ETF is actively managed by Quadratic Capital Management, an alternative asset management firm with experience in the options and volatility markets. The strategy generally buys options with an expiry between six months and two years.
IVOL carries an expense ratio of 1.02%.
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