Covered-call strategies require clear client conversations

Since covered-call ETFs entered the market nearly 15 years ago, they’ve evolved from a simple, passively managed solution to a complex, active strategy, says Robert Bechard, executive director, exchange traded funds, CIBC Asset Management.

“Transparency and education have also improved, with advisors now benefiting from detailed reporting, [and] robust communication from the ETF providers,” he said in an Aug. 26 interview. “Ultimately, these developments have empowered advisors to offer more sophisticated, customized solutions that address a broader range of their client needs.” 

Listen to the full conversation on the Advisor To Go podcast, powered by CIBC Asset Management.

The most significant change in the covered-call ETF space has been a shift towards active management, Bechard said. “It has allowed the combination of active stock picking with an active option overlay. While yield remains an important factor, the quality of security selection should become the priority consideration when constructing the underlying portfolio.”

Bechard said advisors should look at the fund manager’s skill in picking stocks and trading options, as well as how they choose strike prices and manage risk in various market cycles.

Fees are another consideration, he said, as well as liquidity, trading volume and the bid/ask spread.

Covered-call ETFs tend to perform well in markets that are either moving sideways or moderately bullish, Bechard said, where equity prices remain stable or rise slowly. “In these environments, the premiums collected from selling calls can provide a steady income stream,” he said.

Advisors should explain covered-call ETFs to clients using simple terms and making the concept as relatable as possible, he said.

“You can use an analogy, like comparing it to renting out your house,” he suggested. “You’re earning extra income from something that you already own, but you’re also agreeing that if the renter wants to buy it at a price, you’ll sell it.”

The rent they pay is like the premium paid for the option to buy your shares at a specific price at a certain date. It is extra income.

He said is important to be clear about possible outcomes. “If the stock stays below the strike price, you keep both the shares and the premium,” he said. “If it rises above the strike price, you may have to sell the shares at that price, but you will still keep the premium.”

As a trade-off, he said the client’s upside potential is capped if the stock price rises significantly, like in a strong bull market. Also, the strategy doesn’t protect against large losses if the stock price falls sharply.

Bechard said covered-call ETFs are often well suited to income-oriented investors, retirees, those who want to supplement fixed-income allocations, and risk-averse investors who still want some equity exposure.

“Ultimately, embracing these strategies with a focus on education, transparency and ongoing communication will help advisors build stronger, more trusted client relationships, and deliver superior long-term outcomes in an ever-changing investment landscape,” he said.

This article is part of the Advisor To Go program, sponsored by CIBC Asset Management. The article was written without input from the sponsor.