The Cheap and Simple Allure of Listed Options

When it comes to investment strategies, simple and transparent are gaining ground.

That’s the conclusion of a study released today by Greenwich Associates on institutional investors’ use of exchange-traded options to provide downside protection and generate income. By using listed options — rather than complex over-the-counter contracts negotiated with banks — investors get full transparency, real-time pricing, and central clearing that eliminates counter-party risks.

The study is based on Greenwich’s interviews with 80 U.S. institutional investors, including asset managers, corporate and public pension plans, and endowments. Greenwich found that 81 percent of institutions were satisfied with the performance of the options strategies they employ. Investors primarily used the products to protect portfolios, as a preferred alternative to OTC derivatives, and in a range of strategies, including covered-call writing, protective puts, cash-secured put writing, and protective collars.

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Listed options have been popular strategies among high-net-worth investors, according to Joseph Cusick, director of institutional education and business development for the Options Industry Council. The OIC sponsored the study and, it’s worth noting, has a vested interest in the sectors’ success.  

Listed options are still a small part of institutions’ allocations to alternatives investments, such as private equity and private credit, according to the study. Almost half (48 percent) of the asset managers surveyed were considering future investments in listed options and 38 percent said they may invest in OTC options strategies.

Pension plans and endowments were less bullish about listed options. Only 16 percent were planning new or increased allocations, with a mere 3 percent planning to use OTC derivatives. This compares to 36 percent of pensions and endowments planning to put more money to work in illiquid credit, and 40 percent planning for more investments in private equity. 

Of the options users, Greenwich found that 29 percent of respondents used covered calls, which aim to increase yield from a portfolio; 24 percent employed protective puts, which help manage drawdowns; 22 percent used short puts and 17 percent used collars, which give investors relatively cheap downside protection. On average, firms that invest in listed options have 16 percent of their total assets exposed to the strategies.

Asset managers that use listed options are doing so in part to improve the portfolio’s yield. Pensions and endowments, however, are less driven by income. “This divergence is somewhat surprising, as the potential of generating income from the portfolio should be a strong draw, especially for those pension plans suffering from underfunding,” said the report.