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RSPA - Invesco Equal Weight Option Income ETF

RSPA started trading 8 days ago. It is based on RSP Equal Weight ETF. It uses an option income strategy that should generate 9% plus yearly income. Dividends are paid monthly. Expense ratio is 29 basis points. This is a balance as many of us have a good amount of tech holdings. Tech and Communication Services amount to 18% of the portfolio.

Comments are appreciated.

Comments

  • So the same as JEPI and JEPQ only different. It will be interesting to see what amount of income it actually generates especially with the equal weight mandate. I haven't been able to dig up a whole lot of info on the fund to date, even from the fund sponsor.
  • edited July 30
    Thanks for the heads-up @Mitchelg

    Not really understanding options very well I dug up some information from the fund’s prospectus and also about ELNs from another source. Possibly this may prove helpful for other ”Options Dummies” like myself.

    About RSPA

    ”The portfolio managers seek to construct the options-based income component of the Fund’s portfolio by investing in high-income, short-term ELNs with a focus on downside protection. The ELNs in which the Fund seeks to invest are hybrid derivative-type instruments that are specially designed to combine the characteristics of investing in one or more underlying equity securities or an index of equity securities and a related equity derivative, such as a put or call option (or a combination thereof), in a single note form (typically senior, unsecured debt) issued by financial institutions. The options within the ELNs in which the Fund invests will be based on the Index or on ETFs that replicate the Index, and such options will generally have covered call and/or cash secured put strategies embedded within them. When the Fund purchases an ELN from the issuing counterparty, the Fund is generally entitled to receive a premium generated by options positions within the ELN. Therefore, the ELNs are intended to provide recurring cash flow to the Fund based on the premiums received from selling the options.

    “Selling a call option entitles the seller to a premium equal to the value of the option at the time of trade. When the Fund sells call options within an ELN, it receives a premium but limits its opportunity to profit from an increase in the market value of either the underlying benchmark or ETF to the exercise price of the call option (plus the premium received). The maximum potential gain on the call option embedded within the ELN will be equal to the difference between the exercise price of the option and the purchase price of the underlying benchmark or ETF at the time the option is written, plus the premium received. Accordingly, because these premiums can partially offset losses incurred by the Fund's equity portfolio, the Fund's investments in ELNs may reduce the Fund's volatility relative to the Index, while providing limited downside protection against declines in the value of the Fund's equity portfolio.”


    Prospectus


    About ELNs

    ”An Equity-Linked Note (ELN) is a debt instrument, usually a bond, where the payout is based on the underlying entity. The underlying equity of the ELN can be a collection of stocks, a single stock or an equity index. A typical ELN is usually principal-protected meaning that the investor is guaranteed the return of the initial investment, but as ELNs have become more exotic in nature, fewer ELNs are principal protected.

    “Generally, the final payment is the amount invested times the gain in the underlying stock or index times a note specific participation rate. For example, if the underlying equity gains 150% during the investment period and the participation rate is 50%, the investor would receive $2.25 for every dollar invested. If the equity remains unchanged or declines, the investor receives the full investment back. However, if the underlying equity defaults, the investor will receive only what is available after bankruptcy.

    “Investors should understand everything they can about the underlying equity because what may seem like a safe investment may fail. For example, in 2008 equity-linked notes tied to equity in Lehman Brothers failed. Many investors sued the broker-dealers for promising 100% principal protection and still losing money.”


    Source


  • Since it started trading a buyer has purchased 240,000 shares every day. If you go to Invesco and click on Documents and then click on Product Flyer you will find a good summary.
  • Without going into too many details, here are some broad comments:

    This is marketed as a reduced risk investment. Prospectus:
    The Fund may also hold a substantial portion of its assets in cash or cash equivalents, including treasury bills and money market funds in an effort to maintain high liquidity and to provide additional downside protection by limiting the Fund's exposure to equity market risk. The Fund is designed to generate income while providing some downside protection in the event of broad equity market downturns and also providing some equity market upside participation exposure to the Index.
    ...
    The portfolio managers seek to construct the options-based income component of the Fund’s portfolio by investing in high-income, short-term ELNs with a focus on downside protection.
    Derivatives, including ELNs, can be used to reduce volatility. Though as implied at the end of the first paragraph above this comes at a cost of limiting upside potential.

    That's to be expected - just as higher risk should bring higher rewards, lower risk is expected to bring lower rewards.

    The derivative risk here may still be consequential. While Vanguard is curiously comfortable with trading this ETF, Fidelity requires investors to agree to the following:
    Fidelity has designated certain investment products identified as more complex and/or higher risk as “Designated Investments”. I understand that from time to time Fidelity may accept orders for Designated Investments only from self-directed, sophisticated, experienced investors who (1) have represented to Fidelity that they do their own investment research and analysis and (2) agree not to rely to any extent upon Fidelity for advice, guidance, information, direction or recommendations relating to these investments.
    Please don't rely on any guidance, information, direction or recommendation received here, either:-)

    Personally, I'm comfortable with the concept of ELNs, principal protected notes, etc. ISTM the key risk (aside from market risk) is counterparty risk (will the issuer default?). The other significant factor is the packaging cost. The issuer is packaging securities and options into a single product (note) for a fee (skimming returns).

    A risk in this ETF is that it is a black box. They say they are using ELNs in an "options-based income strategy". You're trusting them here. How good is that strategy? How well do they execute it?

    At least here you've got a bit of info to go on. The portfolio managers, Burrello, Devine, and Huxon are co- (not lead-) managers of another Invesco fund using the same strategy albeit in a different universe.

    GTNDX also uses a "portfolio of equity securities and equity-linked notes designed to generate high income while providing some downside protection." Summary prospectus. The differences are not in the strategy but in the equity portfolio. This is a global portfolio, not a domestic one, and it is actively managed, not an index. Still, it can offer some clues into how well these managers execute the stated strategy.

    Its annual report tells the story of what one gives up for reduced volatility.
    The Fund’s underperformance over the year [2023] was largely driven by the sub-portfolio of customized ELNs that reduced overall returns relative to the MSCI All Country World ex USA Index as equity markets rallied through much of the year; however, the defensiveness also helped reduce volatility and downside impact to performance during the more volatile periods throughout the year. In addition, the strategy delivered a higher yield relative to the dividend yield of the MSCI All Country World ex USA Index.
    image

    I brought up GTNDX because it is one of the highest yielding derivative income funds, and it still only yielded 8% last year (with a 13% total return). (Disregard the 1* rating for GTNDX; that's likely because it's being compared to domestic funds in the same category.)

    Domestic stocks typically have lower yields than foreign stocks, so it's an even harder task to reach 9% with a domestic portfolio. Invesco has a domestic fund SCAUX (actively managed) with the same team as GTNDX. In 2023 it (like domestic funds generally) outperformed the sibling global fund, but yielded in the 6% range.

    Based on the above, 9% target for RSPA seems more aspirational than realistic. Designed to attract investors, not necessarily to be achieved.

    If it's cash flow you're looking for, there are substantially unleveraged CEFs that can get you this yield. True, they return some principal, but that's usually just a transmutation of unrealized gains into distributions. You're not losing your original principal (though the unrealized gain portion of the total principal is being tapped). The industry has come up with an enticing name for this: constructive return of capital.

    For example, ETB. Tends to trade at a discount. Based on price, it yields over 9%, all domestic, no leverage. 150+ stocks. Just tossing this out, I haven't researched.
    https://www.cefconnect.com/closed-end-funds-screener

    Then there is the question of why track an equal-weighted S&P 500 index? John Rekenthaler found that between 1998 and early 2023 " the equally weighted S&P 500 portfolio has thrashed the conventional index." (50% greater value.) But that was then, this is now. As he also wrote, "I cannot prophesy that its success will continue." It didn't.

    VFIAX has crushed VADDX over the past YTD, 1year, 5 year, and 10 year. It has also beaten VADDX over the latter's lifetime (since 1997).
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