ETF funds have become very popular with the investing public over the last few years. What are ETF funds? What are their advantages and disadvantages? Can ETFs be used effectively as the underlying vehicle for covered calls and cash-secured puts? This section will discuss these issues and enable you to assess whether they can form part of your safe-options-selling program.
ETF is short for “Exchange-Traded Fund”. These exchange-traded funds hold assets such as stocks, bonds, currencies, etc. They are similar in some respects to open-ended mutual funds in that they invest in a wide variety of securities and therefore provide some measure of diversification compared to individual issues. They are traded on the major stock exchanges just like individual stock issues. ETFs have been available in the U.S. since the early 1990’s.
ETF funds provide the easy diversification and low expense ratios of mutual funds. Unlike mutual finds they have several additional attributes that make them particularly interesting to safe-options-sellers. Many of them are optionable, meaning that calls and puts are available. Therefore, we can use many ETF’s as the underlying for cash-secured puts and covered calls. Unlike open-ended mutual funds, ETFs can be bought and sold during the trading day. Also, unlike mutual funds, ETF’s can be sold short.
Have you used ETF's in your option trading? If you would like, please share it!
What are the drawbacks of using ETFs? Firstly, not all of them have listed options. So, in order to write covered calls or cash-secured puts, the ETF must have listed options. Secondly, some ETF’s are thinly traded. This means that there may be relatively few buyers and sellers trading some ETFs, giving rise to large bid-ask spreads, which can result in obtaining poor execution prices. Additionally, there has been a veritable proliferation in ETF offerings over the last few years, with well over 1500 funds available to US investors, providing a bewildering array of choices for both the newbie and the seasoned investor.
The most popular types of ETFs are Index ETF, such as QQQ, DIA, and SPY. These are highly diversified and very actively traded. We have discussed these elsewhere on this site and they can make good underlying vehicles for safe-option sellers in many cases. Over the last ten or so years, a wide variety of ETF types have emerged, focusing on specific market niches and sectors. The links below will provide additional information about a number of ETF types of potential interest to us. We will explore their use to conservative options sellers.
Don't limit investing to the financial world. Invest something of yourself, and you will be richly rewarded.
-Charles R. Schwab