Structured products: US covered calls offer tasty income in volatility

Covered call funds investing in US equities are able to deliver a dividend yield up to three times higher than that of the S&P 500 while offering a downside cushion amid volatile markets.

Funds using this strategy sell call options on the underlying index, which means although the upside potential of the underlying stocks is capped, the premium generated from the sale of the call option can soften the blow to the fund from any market falls.

BNP Paribas, for example, offers the IFSL Harewood US Enhanced Income fund, an Oeic that aims to provide exposure to the S&P 500 total return index, with dividend yield enhancement and reduced volatility.

Gary Potter, (pictured) co-head of the multi-manager team at Thames River Capital, invests in this BNPP US Enhanced Income fund as an efficient way of taking advantage of market volatility while providing a high dividend yield.

He said: ‘Most active managers fail to beat the S&P 500 over a long period of time – it’s hard to outperform as it’s such an efficient market.

‘Therefore, given the volatility we are seeing, which we don’t expect to subside, it’s a useful opportunity to take advantage of volatility.’

He added: ‘Volatility is this fund’s friend. It will likely still be a volatile year, so the fund can use the options market to enhance the premium.  

‘The only time this fund doesn’t really perform is if it’s a very bullish market or upward trending. But if you are a raging bull and this fund lags, then the rest of your portfolio could do well.’

Potter highlights the added benefit of diversification that the fund provides.

He said there are several covered call writing funds in the UK, a market that historically has a reasonable dividend paying record – typically higher than the US, although the US provides a useful diversification element.