Strong Long-Term Performance for CBOE’s BXY and PUT Indexes

Can index-option-writing strategies have relatively strong performance even when the VIX has dipped below the 16 level?  As shown in charts below, over the past quarter-century both CBOE S&P 500 PutWrite Index (PUT) and CBOE S&P 500 2% OTM Buy-Write Index (BXY) have had relatively strong returns and lower volatility when compared to some key “traditional” benchmark indexes.

mm 1 Indexes 1988 thru Sep 30

 mm 2 Return SD thru Sep 30

SOURCES OF RETURN

 In the past some investors (who are relatively new to options) have asked me how options-writing strategies can have higher returns and lower volatility if the markets are efficiently priced and if VIX is below 16 (and the amount of gross premiums generated might be lower). I have raised these questions with some experienced option writing managers, and was told that a key source of strong risk-adjusted returns for index-option-writing strategies is the fact that S&P 500 implied volatility usually has been higher than historic or realized volatility.

So far in 2014, the average daily closing values have been 13.5 for VIX, and 9.96 for 20-trading-day historic volatility of the S&P 500. As shown in the line chart above, since mid-1988, (1) two index-option-writing indexes (BXY and PUT) both rose more than 1350% (due in part to the fact that there usually has been a risk premium with the strategy of selling richly priced index options), but (2) the CBOE S&P 500 95-110 Collar Index (CLL) rose only 462%. The CLL Index buys SPX put options and sells SPX call options; the purchase of index put options can lessen left-tail risk, but purchases of protective puts might not boost long-term returns if the puts are expensively priced.

In 2014 some observers have asked if the VIX has been low relative to worldwide geopolitical concerns, but it is worth noting that the comparative historic volatility for the S&P 500 generally has been even lower than the VIX this year.  To read papers and disclosures on options-based benchmark indexes and pricing of index options, please visit www.cboe.com/benchmarks.     mm 3 SP vol in 2014 thru Sep 30