This weekend Steve Sears authored a Barron’s column with the headline “Profiting From Selling Puts, Calls” in which he noted the year-to-date performance of the CBOE’s BXM, BXY, and PUT indexes, and wrote —
“It was a good year to sell calls. It was an even better year to sell puts. In fact, 2012 will most likely be remembered as the year when all of Wall Street and much of Main Street embraced options as a more cost-effective way to buy blue-chip stocks that have stable business models and the financial strength to reliably pay dividends. …”
SOURCES OF RETURNS – RICHLY PRICED INDEX OPTIONS, AND FREQUENT COLLECTION OF GROSS PREMIUMS
A prudent investor exploring the possibility of writing index options might ask the questions –
How can a strategy of writing index options generate superior risk-adjusted returns?
What are the sources of returns for an index-options-writing strategy?
Two key factors that have helped lead to attractive risk-adjusted returns for index option writing strategies include –
(1) In the past index options often have been richly priced, with implied volatilities higher than the subsequent realized volatilities; and
(2) Index options can generate substantial options premium income; over the past two decades the CBOE S&P 500 BuyWrite Index (BXM) has generated an average gross premium of about 1.8% per month (however, net returns often will be less than gross premiums).
Below are links to research papers at www.cboe.com/benchmarks with analysis and charts to support both of the above two points –
· Asset Consulting Group. An Analysis of Index Option Writing for Liquid Enhanced Risk-Adjusted Returns (January 2012) http://bit.ly/ACG-op-sell
· Callan Associates. “An Historical Evaluation of the CBOE S&P 500 BuyWrite Index Strategy.” (October 2006). http://bit.ly/BXM-Call
· Ennis Knupp & Associates. “Evaluating the Performance Characteristics of the CBOE S&P 500 PutWrite Index” (December 2008). http://bit.ly/PUT-Enn
· Hewitt EnnisKnupp. The CBOE S&P 500 BuyWrite Index (BXM) – A Review of Performance (2012). http://bit.ly/HewittEK-BXM
· Ibbotson Associates. Feldman, Barry, and Dhruv Roy, “Passive Options-Based Investment Strategies: The Case of the CBOE S&P 500 BuyWrite Index.” The Journal of Investing. (Summer 2005). http://bit.ly/BXM-Ibb http://bit.ly/Ibbotsn-BXM-2-pager
RETURNS AND VOLATILITY OVER PAST TIME PERIODS
While the column by Mr. Sears presented year-to-date performance figures, one also should know that there now is more than 26 years of data history for CBOE’s BXM and PUT indexes, and that the BXM, BXY and PUT indexes all have had higher returns and less volatility than the S&P 500 over the past five years.
For more information, please visit www.cboe.com/benchmarks and read the disclosures at that page. Past performance is not a predictor of future returns.