Providing your portfolio with more 'options'
In a persistently low-interest-rate environment, the need for income may not be completely satisfied by traditional fixed-income investments. One way to generate more income is to consider including options in an investment portfolio.
What are options?
Options are agreements that grant the right, but not the obligation, to buy or sell a stock at a set price on or before a certain date.
In general terms, a portfolio manager (PM) of a mutual fund may write (sell) options on investments to secure immediate income in the fund and minimize the risk and impact of stock price fluctuations.
Options can be complex, but when managed by an experienced PM, they can provide a variety of benefits:
One of the most common ways for a PM to generate income using options strategies is to sell options on stocks. When options are sold, the PM collects an up-front cash premium from the option buyer. That premium serves as income for the portfolio, whether the buyer exercises their option or not.
Lower portfolio opportunities
Using options strategies can also help lower the overall volatility and improve the return of a portfolio by generating premiums that help offset the risk of fluctuating stock prices. Over longer periods of time, options writing has proven to be less volatile than equities.
Over time, many investment asset classes have become more closely correlated to each other. As a result, it has become increasingly difficult to diversify a portfolio. Not only do options perform differently than traditional asset classes, they are also less sensitive to interest-rate movements. Their 10-year correlation to bonds is particularly low, making them a good complement to fixed-income portfolios.
There are many different options strategies used for a variety of investment scenarios and when managed by an experienced PM they can offer significant benefits without the introduction of significant risk.
Lieh Wang, Vice-President and Senior Portfolio Manager
, Sentry Investments, has extensive experience in managing options strategies, and employs options in Sentry Alternative Asset Income Fund as well as Sentry Growth and Income Fund. He uses them as a tool to help enhance yield and reduce volatility.
To learn more about options and the role they can play in your portfolio, speak to your financial advisor.
The contents of this piece are not to be used or construed as investment advice or as an endorsement or recommendation of any entity or security discussed.
Commissions, trailing commissions, management fees and expenses all may be associated with mutual fund investments. Please read the prospectus before investing. Mutual funds are not guaranteed, their values change frequently and past performance may not be repeated.