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Over the past 12 years, U.S. investors have faced
four investment challenges that were much
more severe than they were in the period from
1982 through 1999:
(1) Low interest rates and higher future risk for fixed income
(2) Sluggish equity returns
(3) Higher correlations among many asset classes
(4) Less liquidity for certain investments in times of stress
In light of these challenges, many investors are exploring
investments beyond the “traditional” investments of
U.S. stocks and bonds. More than $25 billion has been
invested in buy-write funds since the 2002 introduction
of the first major benchmark for options performance,
the CBOE S&P 500 BuyWrite Index (BXM).
Challenge No. 1: Low Interest Rates
And Higher Risk For Fixed Income
Many investors think of fixed-income investments as
being very safe, and many fixed-income instruments have
performed relatively well during the past few decades. For
example, as shown later in this article, the Treasury bond
Figure 1
End-Of-Quarter Yield
18%
15%
12%
9%
6%
3%
Figure 2
Yields For US Treasury Notes And S&P 500
(Mar. 1962 - Dec. 2011)
15.84%
6.21%
0%
3/62 3/74 3/86 3/98 3/10
■ 10-Year US Treasury Rate
■ S&P 500 Index - Dividend Yield
2.10%
1.88%
Sources: Bloomberg and S&P Dow Jones Indexes. The S&P 500 yields are based on the
end-of-quarter price and the last 4 quarters of dividend payments. The average yields
in chart above were 6.71% for 10-year Treasurys and 3.07% for the S&P 500 Index.
$1.75
$1.50
$1.25
$1.00
$0.75
$0.50
Indexes Since March 2000
$0.25
3/00 3/02 3/04 3/06 3/08 3/10 3/12
■ BXY - CBOE S&P 500 2% OTM BuyWrite ■ S&P 500 ■ MSCI EAFE (US$)
$1.59
$1.16
$1.11
Sources: Bloomberg and CBOE
Note: Month-end for total return indexes, rescaled to 1 on March 31, 2000. (March
31, 2000-July 31, 2012)
www.journalofindexes.com
index had slightly higher returns than the S&P 500 Index
over a recent two-decade period.
However, with interest rates so low in 2012, some
commentators are noting that the outlook for U.S. fixedincome
investments might not be very rosy. Professor
Burton Malkiel of Princeton University wrote in a March
2012 op-ed piece:
Bonds are the worst asset class for investors. Usually
thought of as the safest of investments, they are anything
but safe today. At a yield of 2.25%, the 10-year U.S.
Treasury note is a sure loser. Even if the overall inflation
rate is only 2.25% over the next decade, an investor
who holds a 10-year Treasury until maturity will realize
a zero real (after-inflation) return. … Given the likely
trends, U.S. Treasurys and high quality bonds are likely
to be extremely poor investments and are very risky. 1
Further, an August 2012 news article noted:
For many investors, the appeal of investmentgrade
corporate bonds is obvious. Interest rates on
Treasury bonds are even lower … But skeptics say the
ravenous demand for corporate bonds has pushed
yields on the securities down too far to compensate
investors for their risk. … When interest rates eventually
rise, prices of recently issued corporate bonds
will fall. “The guy buying a [new] bond today is a guy
buying a certain loss,” says Anders Maxwell, a managing
director at investment bank Peter J. Solomon
Co. “Rates have to go higher, and when they do these
low-coupon bonds will drop precipitously in value.” 2
The average yields in Figure 1 were 6.71 percent for 10-year
Treasurys, and 3.07 percent dividend yield for the S&P 500.
Key interest rates in the Wall Street Journal on August
20, 2012, included:
• 0.11 percent: 4-week U.S. Treasury bills
• 0.44 percent: 3-month Libor
• 1.41 percent: 5-year CD
• 1.82 percent: 10-year U.S. Treasury notes
• 1.95 percent: Barclays Capital Aggregate
• 5.93 percent: Merrill Lynch High-Yield 100
In light of the low yields and higher risks for many
“traditional” fixed-income instruments, many investors
now are exploring a variety of strategies, including the
writing of index options, with the goals of enhancing
yields and lowering portfolio volatility. This subject will
be discussed later in this paper.
Challenge No. 2: Sluggish
Equity Returns Since Year 2000
Since the bursting of the tech bubble in the year 2000,
many major stock market indexes for developed countries
have had sluggish returns, as stocks faced crises such as
terrorist attacks and the 2008 financial crisis.
In the period from March 31, 2000 through July 31,
2012, the S&P 500 Index was up 16 percent and the MSCI
EAFE Index was up 11 percent, while the CBOE S&P 500
2 percent OTM BuyWrite Index (BXY) was up 59 percent,
November / December 2012 21