Buffer ETFs Aim to Offer Stock Market Participation with Some Protection

In a year like 2023, some investors are confident that the worst of the stock market’s recent performance is over. Others… not so much. The war in Ukraine, high inflation, and elevated interest rates all spell one thing: this coming year’s outlook is uncertain.

This uncertainty can leave investors worried that their portfolios are too susceptible to a downturn in the market. On the flip side, investors may be worried they do not have enough exposure to the stock market in their portfolios and might miss out on stock upside. These contrasting possibilities can leave investors paralyzed.

Enter the Buffer ETF. This is a new(ish) investment vehicle that aims to provide some participation in the market should stock prices go up but limits some of the participation in the market should stock prices go down. This is an interesting proposition, especially as we think about linking investments with goals. Take, for instance, an investor who may have a limited ability to tolerate a drop in the stock market. Some of their portfolio will likely be invested in bonds. Bonds offer lower risk but also lower expected return than do stocks. A Buffer ETF’s goal is to allow these investors the possibility of stock market upside while shielding them from some of the downside.

We say this type of investment is new(ish) because the options strategy that makes up these funds is not new. It’s a well-established options trade pattern. What is new is that they have been packaged into an ETF wrapper, which allows some additional tax efficiencies and ease of trading without having to manage complicated options trades independently.

We see these as a different type of investment. They are not subject to the same drivers as the bond market, and they have a return pattern that is different from stocks. Last year, this strategy was put to the test in our portfolios. In a down market for both stocks and bonds, it provided an alternative strategy that helped stabilize portfolios.

Because of their unique characteristics, buffer ETFs are not a great fit for everyone. Please let us know if you would like further information.  For investors where these do fit, they can provide some peace of mind during volatile markets and help us achieve our goal of Bringing Together Money and Meaning.

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