Over the past year, EnnisKnupp says that many institutional investors have expressed interest in exploring investments that have less volatility and downside risk than the well-known stock indexes. The new study examined the performance of five indexes for the period from July 1986 through October 2008 – the S&P 500 Index, the MSCI EAFE Index, the Barclays Capital Aggregate Bond Index, 3-Month Treasury Bills, and the CBOE S&P 500 PutWrite Index over a 22-year period.
According to EnnisKnupp, the PUT Index is a benchmark index calculated by the Chicago Board Options Exchange (CBOE) that systematically sells one-month, at-the-money put options on the S&P 500 Index collateralized by a portfolio of Treasury bills. A put option gives the holder the right to sell the underlying security at a specified price for a certain fixed period of time.
Among the key findings of the study highlighted were the following:
- Highest Annualized Returns. The PUT Index had annualized returns of 10.32% during the period analyzed, higher than the other four indexes studied. (The annualized returns were 8.77% for the S&P 500, 7.16% for the Barclays Capital Aggregate Bond Index, 6.11% for MSCI EAFE, and 4.09% for 3-Month Treasury Bills.)
- Volatility Lower Than Stocks and Higher Than Fixed Income. The PUT Index had an annualized standard deviation of returns of 9.91%, which was 36% less than the 15.39% standard deviation for the S&P 500. (Other annualized standard deviations were 17.39% for MSCI EAFE, 4.05% for the Barclays Capital Aggregate Bond Index, and 0.53% for 3-Month Treasury Bills.)
- Relative Performance in Up- and Down-Months. The PUT Index has tended to outperform the S&P 500 in quiet and falling markets, and underperform the S&P 500 in months when stock prices rise sharply. In the months in which the S&P 500 experienced large positive returns, the average monthly returns were 4.14% for the S&P 500 and 2.11% for the PUT Index. In the months in which the S&P 500 experienced large negative returns, the average monthly returns were negative 5.38% for the S&P 500 and negative 2.93% for the PUT Index.
- High Gross Monthly Premiums and Sources of Excess Return. On average, selling the at-the-money put option each month earned a premium of 1.65% of the notional value of the index, which averaged 19.8% per year. The income return of 19.8% exceeds the total return of 10.3%, as a portion of premiums are paid to insure losses of the put buyers. The PUT Index had a higher Sharpe Ratio, higher Sortino Ratio, and more negative skewness than the S&P 500 Index. A key source of excess returns for the PUT Index lies in the fact that index options have tended to trade at prices above their fair value, and so some sellers of short-term index options have been able to generate excess risk-adjusted returns. Annual income from the sale of put options is higher from the sale of 1-month options than the sale of longer maturity options.
The first licensed fund designed to track the PUT Index was launched in April 2007, and the fund and the PUT Index had a very similar risk-return tradeoff, experiencing a correlation of 0.99 since inception, according to the report.
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