BlackRock has entered a booming corner of the US ETF industry – defined outcome investing – with the launch of two ‘Buffer’ funds based on the S&P 500.
Dominik Rohe, Head of Americas ETF and Index Investments at BlackRock.
Defined outcome investing refers to an investment strategy that shapes the potential outcomes of a reference asset or index to fit specific protection and return levels, allowing for a more controlled investment experience.
The risk-controlled approach has soared in popularity in recent years as investors have sought to navigate increasingly uncertain equity markets – there are five existing providers of defined outcome ETFs in the US which collectively house around $28 billion in assets across their product suites.
BlackRock’s debut defined outcome ETFs are the iShares Large Cap Moderate Buffer ETF (IVVM US), which aims to protect against the first 5% of quarterly losses in the S&P 500; and the iShares Large Cap Deep Buffer ETF (IVVB US), which seeks to protect against quarterly losses ranging from 5-20%.
To achieve their defined outcome profiles, the ETFs invest in FLexible EXchange (FLEX) Options – customizable exchange-traded option contracts guaranteed for settlement by the Options Clearing Corporation – on the iShares Core S&P 500 ETF (IVV US).
Each defined outcome ETF’s downside protection comes at the expense of a cap on its potential upside over the quarterly outcome period. The cap is set at the beginning of the quarterly outcome period and is dependent upon market conditions at that time. According to BlackRock, the initial caps for IVVM and IVVB are 5.57% and 6.57%, respectively, before fees and expenses.
Defined outcome ETFs have a perpetual structure meaning that, once their initial outcome periods end, new outcome periods begin with the cap and buffer reset. The initial quarterly outcome periods for BlackRock’s defined outcome ETFs expire at the end of September 2023.
By resetting quarterly, rather than annually as is the case for many existing defined outcome ETFs, IVVM and IVVB can more frequently adjust their buffer ranges to reflect prevailing market levels, providing a safeguard against ongoing volatility.
Investors should note, however, that, as the defined outcome profiles have been tailored for the entire outcome period, this may affect the ETFs’ interim returns during the outcome period in two ways.
Firstly, due to the time value of the underlying options, the ETFs are likely to exhibit lower betas than traditional index-tracking ETFs. As such, they may lag the performance of their reference ETF when markets are trending upwards.
Secondly, the ETFs’ buffers are referenced from the start of their outcome periods. Investors who purchase shares of the ETFs after the outcome period has begun may be immediately exposed to downside risk in so far as the S&P 500 has appreciated since the start of the outcome period.
While these dynamics can present a challenge, BlackRock provides full daily disclosure for each of its defined outcome ETFs including remaining cap and buffer levels, remaining downside before buffer, and remaining days in the outcome period.
Each ETF has been listed on Cboe BZX Exchange with an expense ratio of 0.50% which significantly undercuts rival defined outcome ETFs already on the market which typically charge fees between 0.75% and 0.85%.
Dominik Rohe, Head of Americas ETF and Index Investments at BlackRock, commented: “Whether you are nearing retirement or a first-time investor, market volatility remains a top concern for investors. iShares buffer ETFs unlock access to institutional-quality risk management solutions in the convenience of the ETF wrapper, helping investors play defense and, importantly, stay invested during turbulent market conditions.”
Jaime Magyera, co-Head of BlackRock’s US Wealth Advisory business, added: “BlackRock is focused on equipping advisors and investors with resilient portfolio solutions that can help them meet their long-term financial goals. iShares buffer ETFs expand the investment toolkit for clients searching for new ways to manage risk and pursue clearer financial outcomes.”