ETF features a pre-determined upside cap, while buffering against potential losses
First Trust Canada has expanded its family of “target outcome” ETFs with the launch of the hedged units of the First Trust Cboe Vest U.S. Equity Buffer ETF.
Sub-advised by Cboe Vest Financial LLC using a “target outcome strategy” or predetermined investment outcome, the fund seeks to provide investors with returns (before fees, expenses and taxes) that match the price return of the SPDR® S&P 500® ETF Trust (“SPY” or “underlying ETF”), up to a pre-determined upside cap, while buffering against potential losses.
Karl Cheong, CFA, Head of Distribution at First Trust Canada, said: “We believe a buffer against a level of losses can help investors stay invested during volatile times.
“Our goal at First Trust Canada is to provide high-quality, innovative tools for investment advisors. We believe this ETF will be effective for those seeking equity-like upside potential for their clients, with a limited downside buffer.”
To achieve its objectives, the fund uses FLexible EXchange Options (“FLEX Options”) that reference the price return of the underlying ETF. FLEX Options are equity or index option contracts that trade on an exchange but provide investors with the ability to customize key contract terms like exercise prices, styles and expiration dates.
As the fund will invest in FLEX Options which are traded in U.S. dollars, the fund will, in respect of its hedged units, generally seek to hedge substantially all of its U.S. dollar currency exposure back to the Canadian dollar.
The fund seeks to shield investors from the first 10% of losses, based on the value of the underlying ETF at the time the fund enters into the FLEX Options on the first day of a defined period known as the target outcome period. However, the fund can be held indefinitely as terms will reset at the end of each outcome period and the cap and buffer for each subsequent target outcome period will likely differ from the initial outcome period. The cap for the initial target outcome period has been set at 8.57%.
“Investors want to reduce their exposure to downside risk in equities, while retaining the opportunity for meaningful upside returns. We are delighted to work with First Trust Canada to offer an ETF which provides a 10% buffer on U.S. Large Cap Equities, providing an opportunity for upside potential while shielding against a level of losses,” said Karan Sood, CEO of Cboe Vest.
In a statement, First Trust said the fund’s investment strategy is designed to deliver returns that match the price return of the underlying ETF (before fees, expenses and taxes) if the fund’s hedged units are purchased on the day on which the fund enters into the FLEX Options (i.e., the first day of the applicable target outcome period) and held for the entire target outcome period, subject to a pre-determined cap, or until those FLEX Options expire at the end of the target outcome period.
“If an investor does not hold its hedged units for an entire target outcome period, the returns realized by that investor may not match those the fund seeks to achieve. In the event an investor purchases hedged units of the fund after the first day of a target outcome period or sells hedged units prior to the expiration of the target outcome period, the value of that investor’s investment may not be buffered against a decline in the market price of the underlying ETF and may not participate in a gain as a result of an increase in the market price of the underlying ETF up to the pre-determined cap for the investor’s investment period.”