ETF with Covered Call ideal for stable income seekers??

The ETF products have evolved so much that almost any theme, sector, value/growth, dividend etc that you can think of are available in the US market, so much so that one is spoilt for choice.

One of the dilemma in selecting which ETF is better also depend on the objective as well as risk and return tolerance of investors. Often, there is trade off between these ETFs.  

For purpose of illustrating one of the trade off , I have used the following 4 ETFs :-

QQQ (PURPLE line in chart) - Invesco QQQ is an exchange-traded fund (ETF) that tracks the Nasdaq-100 Index. The Index includes the 100 largest non-financial companies listed on the Nasdaq based on market cap. Current dividend yield is 0.51%, distributed quarterly.

SPY (BLACK line in chart) - is the SPDR S&P 500 ETF Trust seeks to provide investment results that, before expenses, correspond generally to the price and yield performance of the S&P 500 Index, which consists of the 500 largest companies on US market. Current dividend yield is 1.3%, distributed quarterly.

XYLD (RED line in chart) - The Global X S&P 500 Covered Call ETF (XYLD) follows a “covered call” or “buy-write” strategy, in which the Fund buys the stocks in the S&P 500 Index and “writes” or “sells” corresponding call options on the same index. Current dividend yield is around 12%, distributed monthly.

QYLD (GREEN line in chart) -The Global X Nasdaq 100 Covered Call ETF (QYLD) follows a “covered call” or “buy-write” strategy, in which the Fund buys the stocks in the Nasdaq 100 Index and “writes” or “sells” corresponding call options on the same index. Current dividend yield is around 14%, distributed monthly.

Please do note that foreign individual is subject to 30% withholding tax on US dividend. 

The chart above does not take into consideration of dividend paid as it is the price of each ETF. Just to give some comparison in terms of return (ex-dividend) basis from Jun 2013 to Apr 2022 (almost 9 years). Numbers below are quick estimates from website without verifying the actual dividend paid over the last 9 years:-

Cummulative price appreciation (dividend pay out not factored in):-

QQQ   +386% (annual dividend around 0.3%)

SPY    +177% (annual dividend around 1.2%)

XYLD   +22% (annual dividend from 8 - 10%) 

QYLD   -13% ( annual dividend from 9 - 12%)

The last 2 years has seen drastic growth in Tech sector, especially after the covid pandemic, hence QQQ's return has been remarkable in the last 2 years while SPY also consists of many giant tech companies also recorded impressive return. In comparison, ETFs with covered call strategy(XYLD & QYLD) while providing good and steady dividend income about 10% p.a, did not show good capital gain as they sell covered call and lost the upside potential when price keep going up and Call being trigerred. Hence, even with the high dividend* included, ETFs with covered call strategy will still fall behind on total return in the growing market, especially if the growth is fast and significant.

We can see during 2014 to 2018 when the growth was not that significant, the total return gap between straight forward ETFs and Covered Call ETFs are not that big and I would say during the down market, Covered Call ETFs would probably provide the cushion with Covered Call strategy to continue with good dividend income though the price will fall just as the normal ETFs.

Hence, if we seek stable income eg retirees who need monthly cash flow,  and willing to trade off with potentially high capital return, ETFs with covered call strategy may not be a bad option. There is always an ETF that fit into one's objective but no ETF can meet all needs (capital gain, dividend, steady, monthly, etc).   

 

 * Non US resident is subject to 30% withholding tax on dividend.