Larry Berman

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A few weeks back, I highlighted a handful of New ETFs that were featured at the Inside ETFs Conference. Today, I wanted to do a deeper dive on the Innovator Defined Outcome ETFs. I mistakenly called them ETNs two weeks ago. They are ETFs. The difference is that an ETN carries counter party credit risk. This ETFs hold only exchange-traded options and there is no counter party risk like you could have in an Exchange Traded Note (ETN).

I highlighted the POCT Innovator S&P 500 Power Buffer ETF – October. The series of ETFs issued by INNOVATOR are called defined outcome ETFs. When they are issued, the options strategy they employ basically provides some degree of upside potential and some degree of capital preservation through the term of the ETF. These ETFs have a term of about one year after which a new strategy is written. As always with options, the key variable is the implied volatility of the market. The January series offer the follow return to risk parameters when volatility was considerably higher.

BJAN 9 per cent buffer with a 22.3 per cent price cap

PJAN 15 per cent buffer with a 13.9 per cent price cap

UJAN 30 per cent buffer (-5 per cent to -35 per cent) with a 12 per cent price cap

Back in August (when they launched the quarterly July 2018 series), when volatility was considerably lower, they issued the first series of defined outcome ETFs with a July 2019 target date. I’ve plotted their returns since inception. Notice how much lower the price caps are when volatility is lower.

BJUL 9 per cent buffer with 10.85% price cap

PJUL 15 per cent buffer with 8.11 price cap

UJUL 30 per cent buffer (-5 per cent to -35 per cent) with a 8.77 per cent price cap

We can see that while the peak to trough decline in the S&P 500 was about 20 per cent, the three buffer strategies went down less and all went up when the market was up in Q2. The ETFs were launched in August.

The buffer does not fully play out until the one-year holding period is up. In this case to June 30 (the July series). The BJUL nine per cent buffer started to drop more aggressive once the market fell more than nine per cent while the PJUL started to fall more once the market was down 15 per cent. The UJUL, fell faster the first five per cent downside than the other two, but declined much less once the buffer (-five per cent to -35 per cent) kicked in. The reason price actually changes and we see some drawdowns despite the buffer is the way option prices work and as changes in volatility play out.

The ideal way to use these ETFs is to buy the buffer version that best suites your return and risk parameters and when the markets fall to the levels that you would like to own it at, you sell the buffer ETF and but the back the SPY ETF and get 100 per cent of the market upside when it recovers. As the markets move from inception days, the caps and protection levels change. i.e. the protection only kicks in from the original date the strategy was launched. These are detailed daily on their website.

If you think a deep correction is likely, the U buffer series makes the best hold, a medium decline 10-15 per cent use the P buffer series, and minor corrections only, use the B series as it will have the highest upside capture.

The caps on each series change based on the level of implied volatility. We volatility is lower (say VIX <15) the caps will be lower. It all depends on how much premium the options can earn when they are written.

ETF structures are increasingly bringing sophisticated “hedge fund” like strategies to the average investor. Like always, education is the key and you need to understand the exposure you are buying. I’m a big fan of these products for investors who are more risk adverse, especially late in the investment cycle. They should help you sleep better at night.

Learn to Sleep at Night in a Bear Market

The previous Investor’s Guide to Thriving tour wrapped up on December 1, 2018. Aptly named “How Long Can a Bull Market Run?” we may have received our answer. The market printed the worst December since the Great Depression – bringing most of the major indices officially into bear market (-20 per cent+) territory. Markets have rebounded in January as they always do after steep declines, but we are likely in the early phases of a bear market where average corrections are closer to 30 per cent and extreme corrections are more than 50 per cent. If this is case, we haven’t seen the last of market volatility and a downward pattern of lower highs and lower lows. Many people are surprised at this phase because it can take some time for the fallout to move from Wall Street to Main Street – showing up as a recession. Job markets are relative robust still and Central Banks are still talking about raising rates. Markets are forward looking and generally anticipate economic downturns, so even as rates continue to rise, employment appears to be strong, and many companies are still posting record earnings – you should be paying attention to the growing cracks in the system.

Larry will take the audience on a more detailed tour of past bear markets to see what we can learn about how this next one might compare. Will it be a gentle panda or a deadly grizzly? Can we hope for a soft landing due to aggressive government policy? How would we recognize a market bottom – when the next major bull market might begin? Why not go to cash or put all your money into a GIC right now? There are many questions to ask – and while (spoiler alert) we don’t have a crystal ball to give you the definitive answers, Larry can show you how to navigate a bear market so that you will use it as an opportunity rather than something to fear. Using some of his favorite indicators and techniques, you will learn how to use a tactical approach to trading, and strategic asset allocation (including the use of gold, real assets, and other non-equity vehicles), to help keep your portfolio within your emotional comfort zone – while avoiding costly emotional mistakes. Success in difficult markets is both a science and an art, so Larry will also discuss the psychological aspect of managing portfolios under stressful conditions.

You will take away from this live presentation a timely perspective on how to approach your investments in 2019 and beyond – along with actionable ideas to help strengthen your portfolio, and even a few tools and resources to use at home.
 

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