By Derek Moore
This article will address adjustments to ZBIG strategies currently holding positions that have an expiration in December 2021. Those with 2022 or 2023 still have the conventional portfolio build.
ZEGA’s buffered equity strategies are designed to provide a “buffer” to the downside as the strategy name implies. Rather than a floor like in Buy & Hedge, the three iterations (ZBIG Leveraged, ZBIG Standard, ZBIG IRA) create parameters where accounts will not realize a good portion of the downside.
Buffered or defined risk equity strategies are designed with a maturity date in mind. We use liquid instruments with full visibility within the accounts. But the options we use to synthetically create defined profit and loss mechanics have expiration dates.
The strategy also contains a short duration fixed income portion used to fund the long exposure. We calculate expected dividends and potential moves in the underlying index to help offset costs for the upside capture. Often targets can be met early if the fixed income portion appreciates enough.
For the positions expiring in December 2021, we know that short duration high yield has performed well and provided not only dividend income but also price appreciation. Since in the final year and months of this tranche of ZBIG accounts, the risk of a shorter-term pullback affecting the defined outcome of the strategy outweigh the benefits holding until expiration.
The tactical adjustment the team made rotated out of the fixed income exchange traded funds and into a synthetic high yield dividend capture short spread position. Wow, that sounds complicated! Let me simplify for you. When we sell short put spread on a high yield ETF, a degree of the dividend is contained in the short put.
So, we capture a synthetic dividend and buy the value of the dividend in the option premiums. The spread allows us to also define our max downside risk. Essentially, we reduce the potential downside compared to the short duration high yield ETF while still earning a significant portion of the desired dividend.
You might also have noticed a combination partial collar instituted within these accounts as well. This included selling premium above the market creating a covered call position to match up with all the long call positions already in the account. Then we matched up long puts about 10% out of the money below the market on half the position.
This provided some offset available in case markets materially correct in the remaining months until maturity. It also provided some income in the form of the short call position as well as funding some of the long-put position.
So, to wrap up, we took risk off from our high yield position in favor of using a reduced risk defined spread strategy to capture dividends. We then added a hedge on half the position while selling volatility premium above the market to pay for it.
We have received a few questions on the goings on within the strategy for those holding 2021 maturity positions so hopefully this will help explain the rationale behind it. Eventually your accounts will be rebuilt with 2024 expiration positions. As always, hit ZEGA up with any questions.
Buy & Hedge Retirement
Some of you probably have seen a few adjustments within the portfolio over the past two weeks or so. This had to do with the fixed income portion of the portfolio.
Remember, Buy & Hedge Retirement takes a smaller amount of risk to control but not own shares in the S&P 500. We then use fixed income to help offset a portion of the cost of those long equity exposures.
In March we instituted, with a slice of the fixed income portion, a position in the TLT ETF. This holds US Treasuries in the 20 years to maturity range. This involved limiting the downside and upside using a collar strategy around the ETF itself.
As rates moved lower and bonds rallied off their lows, we were able to realize most of the profit target associated with this tranche and decided to take the trade-off.
The position had only a marginal amount of unrealized profit left to earn but did have downside (albeit minimal) left in the days leading up the Federal Reserve announcement on interest rates.
We now rotated those proceeds into several ultra-short duration fixed income ETFs as a holding area until the ZEGA team identifies another yield producing piece to roll back into. These ETFs have very little interest rate risk since their duration is so short and do pay some interest while we wait.
We know you and your clients may have noticed some trade confirmations coming through in the recent weeks as this position had several pieces to it. As always, reach out to the ZEGA team with any questions.