First Trust launches diversified S&P 500 defined outcome ETF

Aug 11th, 2020 | By | Category: Alternatives / Multi-Asset

First Trust has extended its suite of defined-outcome ETFs with the launch of a laddered fund of funds that diversifies across four of the firm’s S&P 500 ‘Buffer’ ETFs.

Ryan Issakainen, Senior Vice President, ETF Strategist at First Trust.

Ryan Issakainen, Senior Vice President, ETF Strategist at First Trust.

The FT Cboe Vest Fund of Buffer ETFs (BUFR US) has listed on Cboe BZX Exchange and is structured as an ETF-of-ETFs.

It invests equally in the four underlying Buffer ETFs, creating a diversified or “laddered” target outcome strategy.

Defined (or target) outcome ETFs provide exposure to an index (in this case, the S&P 500) up to a pre-determined cap while protecting, or ‘buffering’, invested capital against a pre-determined amount of potential losses over a specific outcome period.

The funds are always exposed to the market with a hedge that is always in place. The cost of that hedge is a pegged upside participation.

The four underlying buffer ETFs that make up the new fund, each fund shields investors from the first 10% of losses in the S&P 500 over a one-year outcome period.

The target outcome periods for the four ETFs are spaced at quarterly intervals starting in February, May, August, and November.

To achieve their target outcome profiles, the Buffer ETFs invest in FLexible EXchange (FLEX) Options on the SPDR S&P 500 ETF (SPY US). FLEX Options are customizable exchange-traded option contracts guaranteed for settlement by the Options Clearing Corporation.

The downside protection comes at the expense of a cap on the potential upside of each ETF over the outcome period. The cap for each fund is set at the beginning of the outcome period and is dependent upon market conditions (notably implied volatility) at that time.

The funds have a perpetual structure meaning that once an outcome period ends, a new target outcome period begins, with the cap and buffer reset.

Each ETF is actively managed by Cboe Vest Financial, the funds’ sub-advisor, in line with a systematic rules-based model.

First Trust’s intention with BUFR is to offer an ETF that can be allocated to at any point during the year without regard for the outcome period of the underlying ETFs.

The fund aims to provide lower volatility, beta, and drawdowns relative to the S&P 500. The laddered approach allows a smoother exposure to the upside cap limit compared to individual Buffer ETFs which are dependent on volatility expectations at fund inception.

BUFR comes with an expense ratio of 1.05% which consists of a 0.20% management fee as well as 0.85% in acquired fund fees for investing in the underlying Buffer ETFs.

Ryan Issakainen, Senior Vice President, ETF Strategist at First Trust, said, “As US equities have rebounded more quickly than expected over the past couple months, we believe many investors are seeking ways to have some downside risk protection while still maintaining some exposure to the market. We believe this ETF will be an effective tool for investment professionals as they seek to achieve that balance for their clients.”

Karan Sood, CEO of Cboe Vest and portfolio manager for the funds, added, “Cboe Vest is proud to continue its heritage of leading-edge innovation, working with First Trust to launch BUFR, a laddered portfolio of target outcome ETFs. We are motivated to offer this strategy for investors looking for risk diversification who would otherwise have to construct and manage laddered portfolios on their own. BUFR offers exposure to target outcome ETFs with the convenience of built-in diversification that recalibrates a portion of the investment to the prevailing levels of the reference asset each quarter.”

First Trust’s new ETF coincides with the launch of a comparable product, the Innovator S&P 500 Diversified Power Buffer ETF (BUFF US), from rival in the defined-outcome ETF space, Innovator Capital Management.

The Innovator fund invests equally across 12 underlying Innovator Power Buffer ETFs with each protecting against the first 15% of losses and having one-year outcome periods spaced at monthly intervals. This fund has also listed on Cboe BZX Exchange and comes with an expense ratio of 0.99%.

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