By Bansari Mayur Kamdar
An exchange-traded fund (ETF) that started trading on Thursday allows investors to leverage the higher volatility in emerging market equities by selling options.
The recently launched Global X MSCI Emerging Markets Covered Call ETF buys the iShares Core MSCI Emerging Markets ETF and sells call options on the same ETF.
The fund seeks to generate income while also offering investors exposure to volatility.
The higher volatility of emerging markets as compared to other major large cap equity indexes allows the fund to generate higher options premiums, or the price buyers have to pay for a contract, said Rohan Reddy, director of research at Global X ETFs.
Overall, the MSCI's index tracking emerging market stocks has lagged peers on Wall Street amid concerns about higher interest rates and economic growth in China, with the index nearly flat so far this year compared to the 14% gains on the S&P 500.
Foreigners pulled money out of emerging market portfolios for a third consecutive month in October, with $17.2 billion in outflows from stocks, according to data from the International Institute of Finance. Investors have flocked to ETFs that look to generate income and reduce portfolio volatility by selling options against stocks. Assets under management of U.S. listed, derivative strategy ETFs rose to $96.4 billion at the end of September, representing a 1-year growth rate of 85%, according to Global X.
"There is definitely much more of an awareness and familiarity of options trading in general compared to just five years ago," said Reddy.
However, the income generated by selling options may not be enough to protect investors if markets get especially turbulent, analysts warned.
"Investors remain exposed to extreme declines," said Bryan Armour, director of passive strategies research for North America at Morningstar.
"Whatever premium an investor collects from selling call options would be dwarfed by a significant drawdown like the global financial crisis in 2008."
(Reporting by Bansari Mayur Kamdar in Bengaluru; Editing by Chris Reese)