[This is the fourth in a series of nine blogs that are being published in early July at the CBOE Options Hub on nine CBOE benchmark indexes which have price histories that begin on June 30, 1986, more than three decades ago.]
Over the past thirty-year time period (ending June 30) the CBOE S&P 500 30-Delta BuyWrite Index (BXMD) rose 1955%, with higher returns and lower volatility than the S&P 500®, MSCI EAFE®, and S&P GSCI indexes.
Note in the line chart below that the BXMD index (which writes out-of-the money (OTM) SPX options) generally had bigger upside moves during bull markets than the CBOE S&P 500 BuyWrite Index (BXM), (which writes at-the-money (ATM) SPX options).
The CBOE S&P 500 30-Delta BuyWrite Index (BXMD) is designed to track the performance of a hypothetical covered call strategy that holds a long position indexed to the S&P 500 Index and sells a monthly out-of-the-money (OTM) S&P 500 Index (SPX) call option. The call option written is the strike nearest to the 30 Delta SPX call option at 10:00 a.m. CT on the Roll Date.
HIGHER RISK-ADJUSTED RETURNS FOR BXMD INDEX
Exhibit 6 of the paper by Keith Black and Edward Szado. Performance Analysis of CBOE S&P 500 Options-Selling Indices. (2016) presents a table with several metrics for 11 indexes; the table below presents excerpts from Exhibit 6 and shows that the BXMD Index had higher risk-adjusted returns (as measured by the Sharpe Ratio, Sortino Ratio and Stutzer Index) than the S&P 500, MSCI EAFE, S&P GSCI, and 30-Year Treasury Bond indexes.
An inquisitive investor might ask – how could the BXMD have higher returns, lower volatility and higher risk-adjusted returns than several key “traditional” indexes over several decades? One possible explanation for the strong relative performance of the BXMD Index is the volatility risk premium – in recent decades SPX options generally have been richly priced. To read more, please see this paper – “Finding Alpha via Covered Index Writing.” Financial Analysts Journal. (Sept.-Oct. 2006). pp. 29-46, and see other research papers at www.cboe.com/benchmarks.
LESS LEFT TAIL RISK
The table below shows that, for the five months in which the S&P 500 Index dropped by more than 10%, the BXMD Index experienced drops that were not quite as severe as those of the S&P 500. The premium received by the BXMD Index often served as a slight cushion in the event of a drop in stock prices.
The histogram with the S&P 500 and BXMD indexes shows that the S&P 500 had 26 months with declines of worse than six percent, while the BXMD Index had 17 such months. Certain index options strategies can be used to help manage left tail risk.
A recent CBOE Blog provides histogram analyses for nine CBOE benchmark indexes. While some of the nine benchmark indexes (including the CBOE S&P 500 Iron Butterfly Index (BFLY), CBOE S&P 500 95-110 Collar Index (CLL), and CBOE S&P 500 5% Put Protection Index (PPUT)) were better at managing left-tail risk than the BXMD Index, the BXMD Index had higher returns over the 30-year period than all the other eight CBOE benchmark indexes.
CAPACITY AND NOTIONAL VALUE OF VOLUME IN SPX OPTIONS
After investors see the strong performance for CBOE indexes such as the BXMD, another question asked is – what about capacity of the SPX options markets, particularly if institutional investors were to allocate billions of dollars to index option-writing strategies? The chart below shows that the dollar notional value of average daily volume in S&P 500 options (for all strikes and maturities) has been in the tens of billions of dollars this year. Of course, investors should do their own due diligence regarding the capacity and liquidity for the strikes and maturities for their planned options strategies.
The microsite for the BXMD Index is at www.cboe.com/BXMD.
For more information on dozens of CBOE benchmark indexes, please visit www.cboe.com/benchmarks for research papers and price charts.
If you would like to hear expert speakers discuss options and volatility, please visit www.cboermc.com to learn more about these upcoming CBOE Risk Management Conferences —
- RMC EUROPE 2016, Sept. 26 – 28, 2016, Powerscourt Hotel, County Wicklow, Ireland
- RMC ASIA 2016, Nov 30 – Dec 1, 2016, Conrad Hong Kong Admiralty, Hong Kong
- RMC US 2017, March 8 – 10, 2017, St. Regis Monarch Beach, Dana Point, California
(The author thanks Paige Stodden for her assistance in creating charts for this Blog).