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  1. Modern Alpha Channel
  2. An Options Strategy for Current Turbulent Markets
Modern Alpha Channel
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An Options Strategy for Current Turbulent Markets

Tom LydonMay 16, 2022
2022-05-16

With stocks faltering and bonds slumping at the hands of the Federal Reserve’s interest rate hikes, the current market climate is conducive to advisors and investors considering alternative strategies.

Options-based strategies should be part of that conversation, and exchange traded funds make it easier to get into the game. One of the newer members of the options-based ETF landscape is the WisdomTree Target Range Fund (GTR B+), which debuted last October.

The actively managed GTR “buys call options that are 15% in-the-money (ITM) and sells call options that are 15% out-the-money (OTM).” Translation: GTR offers investors an avenue for participating in potential broader market upside while limiting downside capture.

“As an options-based strategy, the Fund seeks to provide capital appreciation while attempting to hedge risk in equity markets through bull call option spreads. Each January, the Fund purchases call options that are 15% in the money on four ETFs, offering exposure to U.S., international and emerging market equities,” wrote WisdomTree analyst Brian Manby.

The ETFs used by GTR are the SPDR S&P 500 ETF (SPY A), the iShares Russell 2000 ETF (IWM A-), the iShares MSCI Emerging Markets ETF (EEM A-), and the iShares MSCI EAFE ETF (EFA A) — all of which are among the most liquid ETFs in the world and offer robust options activity.

“Simultaneously, the Fund also sells options on the same ETFs, in the same proportions, which are 15% out of the money, completing a spread strategy that attempts to deliver performance for the year ahead in a prespecified ‘target range.’ Selling options collects premium income from buyers, which helps offset some of the premiums paid for the other options purchased as part of the strategy,” added Manby.

At its core, GTR tries to limit variance in what its total returns will be. In a strong trending bull market, that might not be appealing to some investors, but at a time of various macroeconomic headwinds, capping variance could be attractive. Even if markets suddenly turn for the better, GTR’s long positions in call options present investors with an avenue for upside participation.

“Although global equities have fallen, rangebound markets are an ideal environment for GTR, and as of now, there seems to be no immediate end in sight for many of the risk factors that have weighed on sentiment this year,” concluded Manby. “The remaining value comes from extrinsic value, or time value, which represents additional upside potential that can still occur before expiry if markets catch a tailwind.”

For more news, information, and strategy, visit the Modern Alpha Channel.

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