Whether looking to diversify income streams or to enhance income potential in existing exposures, investors find themselves with a diverse array of options-based ETFs to choose from. Troy Cates, co-founder, managing partner at NEOS Investments and Cinthia Murphy, investment strategist at VettaFi talked tax-efficient income on the recent Alternatives Symposium hosted on the VettaFi platform. The pair discussed the rise of options-based income strategies, portfolio applications, and opportunities for investment.
The last two years saw a proliferation of options-based ETFs come to market, as well as significantly increased flows into the category. Cates noted that over 650 ETFs currently include some type of option within their strategy. The shift makes sense, given the macro environment of the last few years. Rising and high interest rates led to decreased bond prices (albeit increased yields).
Looking for Income Opportunities Beyond Bonds
For investors with an eye to income, looking beyond bonds for opportunities became increasingly more attractive. Options-based strategies are well-positioned in environments of ongoing or elevated market volatility. Option writing strategies earn more on premiums when volatility rises. This translates to higher income, while also providing a diversified income stream. And the proliferation of options-based ETFs means investors now have a variety of underlying asset class exposures to choose from. This ranges from core equity exposures like the S&P 500, to bonds, to alternatives like bitcoin or gold.
“There’s so many ways and so many different strategies within the option market now where you can source this income,” explained Cates. “For us, it’s really looking at it as where can you use those option portfolios, where can you source that liquidity and provide income off of those underlying reference assets.”
For some investors, adding an options-based ETF may be about augmenting the income potential of existing exposures. One example Cates gave was that of S&P 500 investors wanting to increase distributions. By investing in an options-based strategy on the S&P 500, they can increase total returns. By combining any dividends the companies pay with income earned on option market volatility, investors create the potential for enhanced income. For other investors, options-based strategies are about the diversification potential the options market provides for portfolios.
Whichever a client prioritizes, tax-efficiency remains a central focus for advisors. When it comes to options-based ETFs, understanding the underlying strategy and the tax efficiency is paramount. Two funds may generate similar yields, but differences in the tax-efficiency of distributions may mean that one preserves total returns better than another.
Digging Into Tax-Efficient Income With NEOS
NEOS (Next Evolution Option Strategies) is home to some of the pioneers of options-based ETFs from over a decade ago, including Cates and Garrett Paolella, co-founder and managing partner. The firm currently offers a suite of 12 ETFs, the majority with a focus on enhanced tax-efficient income. The strategies cover a range of asset classes, including equities, bonds, real estate, bitcoin, and gold.
One of the firm’s flagship funds, the NEOS S&P 500 High Income ETF (SPYI ), hits three years at the end of this month and has amassed over $4.5 billion in AUM. The fund touts an impressive distribution rate of 12.15% as of June 30, 2025. Distribution rate annualizes the most recent distribution and then divides by the fund’s NAV, a more forward-looking metric.
The fund invests in the S&P 500 using replication and then layers on an actively managed short call ladder that rolls monthly. The options positions are rules-based and systematic, determined by NEOS’s model. What differentiates the firm from most others on the market is the type of options it’s using.
“We’re using S&P 500 Index options, not only for their liquidity and the transparency to see what we’re doing, but also the tax efficiency,” said Cates. These options qualify as 1256 Contracts under IRS rules that mean they are taxed at 60% long-term capital gains and 40% short-term capital gains. The 60/40 capital gains apply regardless of holding period.
SPYI also offers part of its distributions as Return of Capital, when possible. The strategy isn’t “trying to return principal, but as a return of capital from an IRS perspective, where you lower your cost basis and defer your taxes down the road to potentially a long-term cap gain that is more tax efficient in that tax year, for that client,” Cates explained. This is notably different from ordinary income taxation that many strategies provide.
Branching out to the Nasdaq-100
The firm offers a similar strategy in the Nasdaq-100, the award-winning NEOS Nasdaq 100 High Income ETF (QQQI ). QQQI invests in the Nasdaq-100 while also using its data-driven covered call options strategy on the NDX. These qualify as section 1256 contracts, offering the same tax-efficient benefits as SPYI.
NEOS can actively manage the call options to capture gains in the underlying assets or minimize losses. The fund managers engage in tax-loss harvesting opportunities throughout the year on the call options, equity holdings, or both.
For more news, information, and analysis, visit the Tax-Efficient Income Content Hub.
