Another Covered Call ETF Arrives

Writing covered calls is a popular options strategy used by income investors. Also known as a “buy-write” strategy, covered calls involve selling call options on a stock the investor already owns.

In a hypothetical example, an investor that owns 100 shares of Apple Inc. AAPL wants to write covered calls on her position on Apple calls with a strike price of $220.

She writes one contract (100 shares) at 75 cents, meaning $75 in premium for that contract. If the stock stays below $220 into expiration date, the investor keeps her shares and the $75 in premium. If the stock goes above $220, the investor's gains are capped at $220 and if Apple (in this hypothetical example) goes above $220.75, the strike price plus the options price, the investor would have been better off just holding the stock.

What Happened

Issuers of exchange traded funds have brought to the covered call strategy to the ETF wrapper, often using well-known equity benchmarks, such as the S&P 500 and the Nasdaq-100 Index, for these strategies.

On Monday, Global X continued its brisk pace of ETF launches in April with the debut of the Global X Russell 2000 Covered Call ETF RYLD.

Why It's Important

RYLD tracks the Cboe Russell 2000 BuyWrite Index, meaning the new ETF writes covered calls on the Russell 2000 Index, one of the most widely followed gauges of domestic small-cap stocks. Small-cap stocks are usually more volatile than large caps, meaning options premiums on the Russell 2000 can be higher than those on the S&P 500. RYLD is the third covered call ETF in the Global X stable.

“Since RYLD is writing at-the-money covered call options on a monthly basis, the time to expiration is one month, and the strike price is equal to the current price of the index, meaning these factors have little variation on a monthly basis in determining the option premium received,” said Global X in a research note.

What's Next

RYLD aims to harness the added volatility in small caps to deliver more income to investors.

“Historically, small caps, such as those tracked by the Russell 2000, have displayed greater volatility than their large cap counterparts, tracked by the S&P 500,” according to Global X. “All else equal, this implies that the option premiums for writing calls on a small cap index is expected to be higher over time than writing calls on a large cap index.”

The new ETF pays a monthly dividend and charges 0.60 percent per year, or $60 on a $10,000 investment.

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