Following my discussion of the bearish markets, I felt it was important to delve into strategies for safeguarding a portfolio in the event of a downturn.
Indeed, there exist several methods to achieve this, ranging from selling stocks to keep cash and purchasing put options to engaging in market shorting. Some ways are more complicated that the others.
In this post, I want to focus on a relatively new product known as buffer ETFs. Buffer ETFs offer a straightforward means to access options without direct involvement – all you need to do is invest in a buffer ETF.
A buffer ETF typically offers safeguarding against downward market movements. You have the flexibility to determine the extent of protection for various assets. For instance, if you opt for a 10% buffer for the S&P 500, the ETF will shield you from the initial 10% of losses. If the S&P 500 experiences a 20% decline, you will only incur a 10% loss. If the index drops by 30%, your loss will be limited to 20%. This results in reduced losses thanks to the protective mechanism.
A buffer ETF not only provides downside protection but also offers potential upside gains if a market decline does not occur. Nevertheless, there is also a limit on the extent of these upside gains. This limitation is the trade-off for obtaining the hedge. Consequently, in a bullish market, the S&P 500 ETF would have experienced more significant growth, whereas a buffer ETF’s gains would be capped.
To add to the complexity, there are various buffer ETFs according to calendar months. It’s crucial to grasp that these ETFs reset annually in alignment with the designated month, resulting in the new buffer amount and upside cap.
The critical decision lies in choosing the right one. Your initial consideration should be determining the extent of buffer you require. Innovator offers a range of buffer ETFs, with options spanning from 9% to 30%.
Subsequently, as market prices have fluctuated, the level of buffer and the potential upside have also adjusted. This implies that a 15% buffer ETF might have already utilized 2% of its protection, leaving you with 13% if you were to buy it at this point.
For instance, referring to the table below, you can see a compilation of various 15% buffer ETFs for different months. As of now, POCT retains a buffer of 13.57%, while PSEP stands at 11.69%. Consequently, it’s crucial to check the most up-to-date figures.
Buffer ETFs represent a viable strategy among the numerous options available for safeguarding your investments against potential market declines. For investors holding a pessimistic outlook on the markets, buffer ETFs offer a means to mitigate potential losses. However, it’s important to acknowledge that this protection comes at a cost, as the upside potential is limited, and there is an associated expense ratio, such as the 0.79% expense ratio for POCT.
