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The research, conducted by The University of Technology, Sydney (UTS), found that by writing covered calls, the mean return on the diversified balanced portfolio increased by 0.16 percent per annum and risk was reduced by 0.71 percent per annum. The probability of negative returns was also significantly reduced.
If a superannuation fund of $100 million can achieve extra returns of 0.16 percent per annum this would result in an additional $160,000 per annum. Compounded over many years, this could make a significant difference to members’ portfolios. Importantly, the superior returns are achieved at a lower level of risk.
This latest study confirms earlier research from SIRCA, which found that using a buy-write strategy (ie. writing covered calls) over the S&P/ASX 200 produced returns 2.24 percent per annum higher than those produced by following the S&P/ASX 200 Accumulation Index, and also had a lower risk profile over the 14 year period of the study.
Normally, higher returns can be achieved only by accepting a higher level of risk. However, the buy-write strategy appears to be an exception to this rule because the selling of calls over a long stock position raises premium income while at the same time reducing the volatility of the portfolio.
The UTS study used individual stock options, rather than options over the index (XJO). Additionally, the UTS considered an equity portfolio that was embedded in a more broadly diversified “balanced” portfolio. The Australian equities segment of the portfolio amounted to only 40% of the assets invested. This accurately represents the way in which most superannuation monies are actually invested.
The UTS study confirmed the finding that a buy-write strategy offered excess returns. That is, it is possible to increase the return of a portfolio while simultaneously reducing the risk.
Michael Roche, ASX Executive General Manager of Market Services, said that the UTS study showed that equity options are a very useful tool in the management of superannuation assets: “Most superannuation funds have a diversified balanced portfolio similar to that studied by UTS, and there is now clear evidence that the risk-adjusted returns can be improved by employing a covered call strategy. This relatively modest enhancement of annual investment returns, which is achieved at a lower rate of risk, can be extremely significant for superannuation funds when compounded over many years."
Michael Saba, Senior Derivatives Analyst, Goldman Sachs JBWere, said:
"This additional research is welcome as it underscores industry evidence on options strategies that clients have been executing in the market over recent years. Many fund managers concerned about lower returns in the market have been using these types of options strategies to enhance returns without adding additional risk to the portfolio, in fact risk is reduced, as shown in the report. We know that in reality these strategies really do work, and Goldman Sachs JBWere regularly provides institutional clients with this kind of industry based research as well as daily trade identification."
Copies of the research are available at: http://www.asx.com.au/markets/pdf/Covered_Calls_Report_Final.pdf
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