RIAs must evolve or risk incurring avoidable losses. Much like navigating the high seas, where only the most adaptable sailors can chart a course to calmer waters, RIAs now face the challenge of integrating exchange-traded options into portfolios, a financial contract that gives you the right, but not the obligation, to buy (calls) or sell (puts) on an underlying asset at a specific price before or on the contract’s expiration date.
The need to incorporate options strategies into portfolios may not feel immediately relevant to RIAs or the typical financial advisor. However, specific use cases I’ve encountered indicate that the appropriate use of options can offer value in increasingly volatile financial markets. Consider the following:
• Many RIAs I’ve worked with have broadened the way they invest by using option overlays on a client’s long portfolio.
• A basic tactical approach of purchasing put options on a broad market index or ETF, for example, offers portfolio protection from significant losses if the market declines. This strategy helps manage risk by providing a safety net during volatile market conditions.
• Yet another basic use case, to name but a few, is the strategic use of covered calls, which involves selling call options on stocks that the client already owns. This approach can generate additional income through the premiums received from selling the options – which may enhance a portfolio’s overall return in a sideways or mildly bullish market.
As more clients become aware of these opportunities, and AI-driven solutions appear on the horizon, the pressure is on RIAs to navigate these shifting tides with greater precision and added flexibility. Whether they are asset allocators or asset managers, the future belongs to RIAs that can master the art of customization while leveraging options strategies to deliver real value.
Understanding Asset Allocators' Perspective
Asset allocators in the RIA space are turning to ETFs with embedded options. Why? Because these products can offer a streamlined approach to options-based portfolio construction that is simplified and work-flow efficient. By using these ETFs, asset allocators can deploy the benefits of options—such as income generation and risk management—without the burden of managing each individual option position. This can help in making the strategy easier to explain to clients and ensure that portfolios remain aligned with clients’ goals.
This convenience comes at a cost. ETFs with embedded options can be more expensive due to higher management fees, which might lead some asset allocators to consider a do-it-yourself approach as a more cost-effective solution. Balancing these trade-offs is crucial as asset allocators aim to deliver value without sacrificing returns due to excessive fees.
As the volume of ETFs with embedded options grows so does the regulatory oversight of their use. Asset allocators must be prepared to address concerns surrounding the use of these “complex products.” It’s important for them to proactively communicate the controlled risks and benefits that options can bring to a tailored investment strategy. This transparency is key to navigating the increasingly stringent regulatory landscape.
Asset Managers: Demonstrating Expertise With Options In The Age Of AI
For asset managers, options aren't just a tool—they're a strategic and tactical advantage. In a world where AI-driven solutions are fast becoming the norm, the ability to utilize options effectively, understanding their use and risks, can set asset-managing RIAs apart.
The surge in options trading among both institutional and retail investors underscores the growing demand for strategies that offer the potential for higher beta-adjusted returns. As the market continues to evolve, asset managers should consider leveraging their expertise in options to create bespoke solutions that differentiate their practice from automated services. As model portfolios become increasingly sophisticated, it is crucial for human advisors to demonstrate a higher level of expertise and personalization to meet market demands. According to a 2024 study by Cerulli Associates, 55% of self-directed investors still prefer to consult with an advisor.
Like asset allocators, asset managers must remain vigilant about regulatory developments concerning options. Clear communication about the role of options may provide in achieving client investment objectives and the associated risk not only helps in compliance but also reinforces their value proposition to clients seeking personalized, sophisticated investment strategies.
Preparing For The Future
Options are fast becoming a cornerstone of modern portfolio management for both asset allocators and asset managers. They offer unparalleled flexibility and customization, enabling RIAs to design strategies that closely align with individual client objectives without tampering with existing positions that might result in significant tax consequences. Whether it's for hedging short-term risks or seeking higher beta-adjusted returns, options provide a powerful toolset.
Additionally, as more advisors in the RIA space plan to retire within 10 years, building a value-added practice is important now, so that next-gen advisors know how to stand out in a marketplace crowded with tech-driven alternatives, such as standardized model portfolios.
Despite the many benefits, there remains a considerable gap in understanding options among advisors and their clients. A concerted educational initiative is needed to demystify these strategies, helping to align expectations and enhance transparency. Brokerage firms are already stepping in to address some of these gaps. It’s now up to RIAs to lead the way in educating their clients.
Gary Martino is vice president of business development and sales at TradingBlock (member Finra and SIPC), a provider of customizable trading solutions for RIAs, hedge funds and retail traders. Prior to this role, Martino was chief operating officer at brokersXpress, where he helped onboard hundreds of independent reps and advisors.