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Time to Bet on Buy-Write ETFs

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Worries over longer-than-expected higher interest rates and a weakening Chinese economy have been playing foul on the stock market in recent months. Against this backdrop, investors are looking for investments that provide capital appreciation opportunities in the equity world but at the same time offer downside protection. A lucrative option for now could be the Buy-Write strategy, which provides consistent income from the premiums received from writing call options.

Investors seeking to make a play on the stock market using this strategy could consider Global X Nasdaq 100 Covered Call ETF (QYLD - Free Report) , Amplify CWP Enhanced Dividend Income ETF (DIVO - Free Report) , Global X S&P 500 Covered Call ETF (XYLD - Free Report) , Global X Russell 2000 Covered Call ETF (RYLD - Free Report) and Aptus Collared Investment Opportunity ETF (ACIO - Free Report) .

Weak Market Trends

A raft of strong economic data has heightened fears of higher interest rates for a longer period. Activity in the services sector rose unexpectedly in August, with a strong show in new orders and employment. Inflation in the United States came in hotter than expected, with the Consumer Price Index rising for the second consecutive month. The index rose 3.7% year over year in August, faster than the 3.2% pace recorded in July and ahead of the Wall Street consensus forecast of a 3.6%.

Federal Reserve Chair Jerome Powell, at the Jackson Hole Economic Symposium, expressed confidence in continued economic growth in the United States, citing “robust” consumer spending and early signs of a recovery in the housing market. However, the Fed warned that inflation is still too high and that the central bank is prepared to raise interest rates further and keep borrowing costs high until inflation comes down to the target range of 2% (read: Market Slump in the Cards? ETFs to Save You).

Meanwhile, China, the engine of global growth, is in deep trouble, given falling consumer prices, a deepening real estate crisis, slumping exports and a record-high youth unemployment rate. This has raised global slowdown concerns.

Buy-Write Strategy in Focus

A buy-write, also known as a covered call strategy, is an investment strategy used to generate income and potentially hedge against downside risk. It involves buying a stock or a basket of stocks and then selling or writing call options on those same assets.

With this process, the portfolio aims to generate additional monthly income from the call option (premiums collected). The income from option premiums can help to offset losses from the underlying stocks, which can potentially result in lower portfolio volatility. This means that buy-write strategies might experience smaller price swings compared to a pure equity investment.

If the product stays flat or declines slightly, investors keep the premium and their stock. However, if prices rise, investors only receive the premium and stocks are sold at the price that was agreed upon on the covered call. As such, the strategy outperforms in neutral to bear markets but underperforms in bull markets in the short term.

Investors seeking to make a play on the stock market using this strategy could consider the following ETFs (see: all the Large Cap ETFs here):

Global X Nasdaq 100 Covered Call ETF (QYLD - Free Report)

Global X Nasdaq 100 Covered Call ETF follows the Cboe Nasdaq-100 BuyWrite V2 Index, which is designed to buy the stocks in the Nasdaq 100 Index. It “writes” or “sells” corresponding call options on the same index. Global X Nasdaq 100 Covered Call ETF has $8.1 billion in AUM and trades in a solid volume of 4.2 million shares a day on average. It charges 60 bps in annual fees from investors.

Amplify CWP Enhanced Dividend Income ETF (DIVO - Free Report)

Amplify CWP Enhanced Dividend Income ETF is an actively managed ETF of high-quality large-cap companies with a history of dividend growth, along with a tactical covered call strategy on individual stocks. It has accumulated $2.9 billion in its asset base and charges 55 bps in fees per year. Amplify CWP Enhanced Dividend Income ETF trades in a good volume of 306,000 shares.

Global X S&P 500 Covered Call ETF (XYLD - Free Report)

Global X S&P 500 Covered Call ETF buys stocks in the S&P 500 Index and “writes” or “sells” corresponding call options on the same index. It tracks the Cboe S&P 500 BuyWrite Index, charging 60 bps in fees per year. Global X S&P 500 Covered Call ETF has amassed $3 billion in its asset base and trades in a good volume of 462,000 shares.

Global X Russell 2000 Covered Call ETF (RYLD - Free Report)

Global X Russell 2000 Covered Call ETF buys stocks in the Russell 2000 Index (at times by exposure to the Vanguard Russell 2000 ETF) and “writes” or “sells” corresponding call options on the Russell 2000 Index. It follows the Cboe Russell 2000 BuyWrite Index and charges 60 bps in fees per year. Global X Russell 2000 Covered Call ETF has AUM of $1.5 billion and trades in an average daily volume of 746,000 shares.

Aptus Collared Investment Opportunity ETF (ACIO - Free Report)

Aptus Collared Investment Opportunity ETF invests in 50 large-cap stocks and pursues additional income by selling coverall calls on those stocks. ACIO has an added goal of minimizing the downside using long put options on a broad-based market index. It charges 79 bps in annual fees and trades in a lower volume of 91,000 shares per day on average. Aptus Collared Investment Opportunity ETF has AUM of $559.4 million.

Bottom Line

Investors should note that the buy-write strategy leads to premium income and some level of downside protection provided by the premium. However, the trade-off is that the strategy caps investors’ upside potential. If the stock's price surges, they will not benefit from the gains above the strike price.

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