Liquid Strategies formed in 2013 and has been using its options overlay strategy in separately managed accounts for high-net-worth investors. The company put the strategy into ETFs to make it more accessible to retail investors.
All five Overlay Shares ETFs have a management fee of 0.75%. “Our funds are very actively traded, so 75 basis points is very competitively priced for an active strategy,” Ball says.
And whether it’s for a stock or bond fund, the options overlay for all five ETFs in this group consists of an actively managed strategy of selling puts against the S&P 500 index.
Ball notes that the overlay strategy has typically generated incremental returns of 3% to 5% above the returns of an underlying index, but has averaged a little more than 3% since the strategy’s inception. He adds this strategy aims to reduce volatility while creating a consistent, repeatable stream of returns for investors.
“The volatility risk premium associated with selling options is the amount of premium you collect versus the amount of losses you incur,” Ball explains. “The options we’re selling offer downside protection on the S&P 500, and in 29 of the past 30 years those options have had a positive risk premium. That means if you sold downside protection with options against the S&P 500, in 29 of those years there was a positive outcome.”
As such, he posits the Overlay Shares ETFs are designed to be long-term core holdings in investor portfolios.
All-Weather Design
Ball offers that traditional buy-write options strategies typically are defensive because investors are willing to give up some of the potential upside of the underlying index in return for income and dampened volatility. He says his firm’s options overlay approach doesn’t give up any upside in an index, and is neither a bull- nor bear-market strategy.
“It’s just an overlay that sits on top of portfolios and is relatively timeless,” Ball says. “A large-cap fund with an overlay is just a better large-cap fund with an alpha engine. It’s the same thing with all of our ETFs. It’s a passive index, plus an alpha engine of 3%.”
But not always. Ball acknowledges his firm’s options overlay strategy produces extra alpha to an underlying index when the markets are up, flat, or slightly down. “It’s only if the market is down by more than 2% or so that we begin losing,” he says, adding that the spread between selling and buying put options for downside protection cushions losses on the overlay strategy during down markets.