Troy Cates, co-founder and managing partner at NEOS Investments, recently appeared on ETF IQ to talk about the NEOS Enhanced Income Cash Alternative ETF (CSHI ), a fund that launched at the end of August last year and is benefiting from the current interest rate hiking regime of the Fed, as well as NEOS S&P 500 High Income ETF (SPYI ). Both funds offer monthly income opportunities for investors by utilizing tax-efficient index options on the S&P 500.
CSHI is an options-based, actively managed fund that is long on three-month Treasuries and also sells out-of-the-money SPX Index put spreads that roll weekly to account for market changes and volatility. It seeks to deliver 100–150 basis points above what 90-day Treasuries are yielding while also taking advantage of tax-loss harvesting opportunities and the tax efficiency of index options.
The distribution yield of CSHI is 5.66% as of 02/28/2023 and the fund is offering up a higher yield than cash while maintaining low volatility, making it an appealing cash alternative option in the current environment.
“When we built the products, Treasuries were yielding nothing,” said Cates. “We have this product that went from just trying to yield 1-1.5% yearly distribution over cash to now it’s yielding over 5.5%.”
When asked what kinds of environments would be most challenging for a strategy that’s layering put spreads on top of ultra-short Treasuries, Cates explained that a month where the S&P 500 had a sharp decline could affect the fund since it is selling S&P 500 index puts, but that impact is likely less than investors might think.
“We launched right at the end of August and September was a tough month for the S&P 500, down over 9%. If you look at the Treasury bills’ index was up 20 basis points for the month of September; CSHI for the month of September at NAV was up 14 basis points so our option portfolio technically lost only six basis points when the S&P was down 9%,” Cates said. The put options that the fund writes roll on a weekly basis and are far out-of-the-money at about 8-10% typically.
Income Within Equities With SPYI
The discussion turns to the NEOS S&P 500 High Income ETF (SPYI ) that seeks to fully replicate the S&P 500 Index and also utilizes a laddered covered call strategy layered on top — the fund currently has a 12.06% distribution yield as of 02/28/23. The fund writes call options that it earns premiums on and then can use the money earned from the written calls to buy long, out-of-the-money call options on the S&P 500 Index.
An out-of-the-money call option has no intrinsic value because the current price of the underlying asset is below the strike price of the call. Should the equity markets rise or fall, NEOS can actively manage the call options to capture gains in the underlying assets or minimize losses.
“On a monthly basis we’re selling calls anywhere from 1.5-4% out-of-the-money and the goal is to bring in 1% of premium a month,” explained Cates. “The nice part about it is that you don’t necessarily have to sell 100% of the notion off on the portfolio, so we have anywhere from 20-30% of the portfolio is technically not covered by the short calls.”
Should the markets make strong gains, this allows for part of the fund’s underlying assets to participate in the full upside appreciation. “On average, we’re getting a 60-70% upside capture while still paying a nice 1% monthly dividend.”
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