First Trust has brought its ‘Target Outcome’ line-up to Europe with the launch of a new ETF offering S&P 500 exposure with moderate downside protection.

Derek Fulton, CEO of First Trust Global Portfolios.

Target outcome, or 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.

While still in its infancy in Europe, defined outcome investing has taken off in the US over the past few years. First Trust offers an extensive suite of Target Outcome ETFs in the US, collectively housing over $11 billion in assets, with products based on US large-cap (S&P 500), US small-cap (Russell 2000), US growth (Nasdaq 100), developed ex-US (MSCI EAFE), and gold exposures.

Derek Fulton, CEO at First Trust Global Portfolios, said: “Demand for buffer ETFs has increased as investment professionals seek new tools to navigate equity market uncertainty. We are excited to bring this long-standing and successful Target Outcome risk management strategy to our European clients who are looking for a more certain outcome.

“Although increased market volatility can make it difficult for investors to maintain discipline, exposure to equities may be necessary for achieving long-term goals. Target Outcome ETFs have grown in popularity among investment professionals because they are effective tools for loss protection, which can help investors stay invested.”

First Trust’s inaugural Target Outcome ETF in Europe is the First Trust Cboe Vest US Equity Moderate Buffer UCITS ETF – August (GAUG LN) which has been listed on the London Stock Exchange in US dollars.

Actively managed by options investing specialist Cboe Vest Financial, GAUG seeks to match the price return of the S&P 500 while offering protection against the first 15% of losses over a one-year outcome period.

The fund’s Target Outcome profile is obtained through investing in FLexible EXchange (FLEX) options – customizable exchange-traded option contracts guaranteed for settlement by the Options Clearing Corporation – on the S&P 500.

The ETF’s downside protection comes at the expense of a cap on its potential upside over a specific outcome period. The cap for the fund is set at the beginning of the outcome period and is dependent upon market conditions at that time.

According to First Trust, GAUG’s initial cap is 13.80% (before fees and expenses) and its initial one-year outcome period ends on 16 August 2024.

First Trust’s Target Outcome ETFs have a perpetual structure meaning that their buffers and caps are reset at the end of each annual outcome period.

Investors should note that, as the ETF’s Target Outcome profile has been tailored for a specific outcome period, this may affect the fund’s interim returns during the outcome period in two ways.

Firstly, due to the time value of the underlying options, the ETF is likely to exhibit a lower beta than traditional index-tracking ETFs. As such, it may lag the performance of the S&P 50 when markets are trending upwards.

Secondly, the ETF is designed to provide a specific level of protection as referenced from the start of its outcome period. An investor who purchases shares of the ETF after the outcome period has begun may be immediately exposed to the S&P 500’s downside in so far as the index has appreciated since the start of the outcome period.

While these dynamics can present a challenge, First Trust provides full daily disclosure for its Target Outcome ETFs including remaining cap and buffer levels, remaining downside before buffer, and remaining days in the outcome period.

GAUG comes with an expense ratio of 0.85%.

First Trust is the second ETF issuer to bring defined outcome investing to Europe following the February 2023 launch of two ‘Buffer’ funds from Global X.

The Global X S&P 500 Quarterly Buffer UCITS ETF offers protection against the first 5% of losses in the S&P 500 on a quarterly basis, while the Global X S&P 500 Quarterly Tail Hedge UCITS ETF delivers a 9% buffer, protecting against losses between -3% and -12% each quarter.

Each fund comes with an expense ratio of 0.50%.