As we look to well-rounded asset allocation for the new year, investors can consider an exchange traded fund strategy for generating consistent income.

In the recent webcast, Rethinking Asset Allocation and Income in 2021, Christopher C. Graham, CIO, Nationwide Funds Group, emphasized the importance in the path of asset allocation, especially with equity markets trading at high multiples. Meanwhile, the Federal Reserve has successfully pushed credit spreads back down to levels lower than they were pre-crisis, so fixed income investors are faced with low yields in a near-zero interest rate environment.

“It is very hard in this environment to justify an advisory fee for investing in any developed market government bond,” Aaron Gilman, Chief Investment Officer, Independent Financial Partners (IFP), said, pointing out that 11 of 56 countries with 10-year bonds now have negative yields.

Consequently, it is now impossible to beat inflation with government bonds without taking on new hurdles, such as country-specific or currency risk. Out of 41 asset classes yielding above 1%, some of the highest yielding assets include MLPs, business development companies, mortgage REITs, high yield bonds, and emerging market bonds. Yet many investors struggle to stomach the risk these investments could bring to their portfolios.

“Income investors need to think in ‘total returns’, not just yield, unless they want to take assume a lot of equity risk, default risk, or illiquidity,” Gilman added.

Gilman argued that investors should pay attention to the risk that comes with any yields that are above average, and consider a total return approach for portfolio construction since yield alone will not cut it.

The NUSI ETF as Part of a Comprehensive Portfolio

While conventional safe-haven assets have lost some of their luster this year, investors seeking to target current income with less risk relative to traditional income-focused investments have turned to the Nationwide Risk-Managed Income ETF (NYSEArca: NUSI). The Nationwide Risk-Managed Income ETF uses an options trading strategy called a protective net-credit collar to generate income. The options strategy sells an upside call option and uses a portion of the proceeds received to buy a put option to hedge downside risk on an underlying portfolio of securities.

Curt Brockelman, Co-Founder and CIO, Harvest Volatility Management, explained that through the combination of income generation and downside protection, NUSI can benefit investors and advisors as it’s a solution that can complement a traditional 60/40 allocation. It can also be used as a bond alternative that affords investors flexibility across varying market cycles. NUSI can further serve as a volatility dampener in augmenting existing allocations.

NUSI follows a three-step strategy. First, it fully replicates the constituents of the Nasdaq-100 Index. Secondly, the ETF deploys a rules-based options collar strategy that combines a covered call and a protective put. For the covered call component, a near-at-the-money to out-of-the-money Nasdaq-100 Index call option is sold, with the intent of generating options premium. For the protective put component, the strategy uses a portion of the options premium received to purchase an out-of-the-money Nasdaq-100 Index put option, which seeks to fully hedge the portfolio below the current market price and protect against potential losses in the equity portfolio.

Finally, a monthly distribution is paid out using a portion of the net credit generated by the collar. If there are remaining options, the ETF will reinvest in the underlying stocks for potential upside participation.

“In the midst of recent market disruptions, NUSI has maintained a high, stable yield profile, while simultaneously outperforming other popular income-focused investment solutions, since its inception,” Brockelman said.

“NUSI offered a measure of downside protection during the sell-off triggered in late February, but most notably delivered outperformance relative to the fixed income investments listed as the market recovered in the following months,” he added.

Financial advisors who are interested in learning more about asset allocation and income strategies can watch the webcast here on demand.