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Investors have all sorts of ways of looking at risk. For retirees, the raw performance of their portfolios isn’t the only important measure. Financial markets and individual securities can go up and down, but what retirees need most is a steady income.
The traditional approach of constructing a portfolio with equities and fixed income can fall short. One solution is employing covered calls, which offer exposure to volatile growth sectors of the equity market while generating reliable income.
“For those looking for consistent monthly cash flow while capitalizing on growth from their investments, the covered-call strategy is a solid way to do that,” says Paul MacDonald, chief investment officer at Harvest Portfolios Group Inc. in Oakville, Ont.
This strategy generates income from the premiums on call options written on a portion of the investment portfolio while giving up some potential upside should the price of the underlying investment rise past its strike price.
The approach seeks to produce relatively steady monthly income that’s often higher than what traditional fixed-income strategies generate. It’s also tax efficient as the income is generally treated like a capital gain as opposed to interest income.
Mr. MacDonald acknowledges that rates on fixed income are more competitive now than they were five years ago. “But we’re big believers in the need for investors, including retirees, to get longer-term growth owning quality businesses in areas of the market such as health care or technology.”
These sectors offer the kind of long-term growth that can stay ahead of inflation, something that income-focused investors desire and retirees often need.
Yet, these sectors also involve significant short-term volatility. When interest rates jumped in 2022, health and technology stock prices tumbled. Then, in 2023, many of the biggest names recovered, including Alphabet Inc. GOOGL-Q and Microsoft Corp. MSFT-Q. They and other big tech names dragged the S&P 500 to positive gains in the year as other listings struggled.
The volatility is hard to swallow, but many investors want growth. What’s more, bonds likely can’t meet the long-term needs of retirees, even at today’s higher yields, Mr. MacDonald notes.
“A good first question advisors and their clients should be asking is: What areas of the market they want to be invested in? The next question will help guide the strategy: What are the cash flow needs?”
With covered calls, not all strategies are equal, he adds. “It’s important to look for a track record of executing the strategy successfully.”
Harvest is among a handful of asset managers with just that, offering a suite of covered-call exchange-traded funds (ETFs) that include Harvest Healthcare Leaders ETF HHL-T.
The ETF is now coming up to its tenth anniversary and has delivered the same income for more than nine years. The monthly distribution is 5.83 cents per unit. The cash flow to support the monthly distribution is largely generated by the covered-call strategy.
Harvest Healthcare Leaders ETF provides investors with exposure to 20 leading U.S. health care companies, including Johnson & Johnson JNJ-N, Merck & Co. Inc. MRK-N and biotech leader Regeneron Pharmaceuticals Inc. REGN-Q. Besides yielding more than 8 per cent annually, this ETF has generated an annualized return of more than 10 per cent during the past three years.
This ETF is part of Harvest’s comprehensive covered-call equity strategy, which has grown to 16 ETFs since 2016 The lineup also includes technology sector exposure via Harvest Tech Achievers Growth & Income ETF HTA-T as well as a leveraged version, Harvest Tech Achievers Enhanced Income ETF HTAE-T.
More recently, the asset manager expanded its scope with the launch of two covered-call solutions for fixed income: Harvest Premium Yield Treasury ETF HPYT-T, with exposure to long-duration bonds, and the intermediate-duration Harvest Premium Yield 7 to 10 Year Treasury ETF HPYM-T. They provide monthly distributions made up mostly of options premiums, in addition to coupon income.
As well, Harvest launched a complementary fund, Harvest Canadian T-Bill ETF TBIL-T, which holds up to three-month durations and doesn’t use covered calls.
“What it does, though, is offer investors an efficient way to buy Canadian treasury bills,” Mr. MacDonald explains. “It’s a simple way for advisors and their clients to generate short-term income with low volatility without having to continually buy new treasuries themselves as existing holdings mature.”
The three new fixed-income products further add to the diversity of covered-call strategies for advisors and do-it-yourself investors to build portfolios blending growth with steady, tax-efficient income, Mr. MacDonald adds.
“Our goal is helping retirees, other investors and advisors have the right tools to build strategies generating strong cash flows that is consistently paid on a monthly basis.”
Advertising feature produced by Globe Content Studio with Harvest Portfolios Group. The Globe’s editorial department was not involved.