‘Defined Outcome’ ETFs Debut

August 08, 2018

Today, Innovator ETFs, led by Bruce Bond and John Southard, original founders of ETF issuer PowerShares, now a unit of Invesco, has unveiled two long-anticipated ETFs providing protected exposure to the S&P 500 Index. The Innovator S&P 500 Power Buffer ETF – July (PJUL) and the Innovator S&P 500 Ultra Buffer ETF – July (UJUL) are described as “defined outcome” products that limit the amount investors can gain, but also—more importantly for many—the amount they can lose when they track the index.

PJUL and UJUL each come with an expense ratio of 0.79% and list on the Cboe BZX exchange, which is owned by ETF.com’s parent company Cboe Global Markets.

“For anyone who is interested in capital preservation, we think these are a great fit,” said Bond, noting that while many investors turn to bonds, money market funds or CDs to limit their downside risk, they end up forgoing the upside that can come with equity exposure.

“What this gives them is the opportunity to have exposure to the equities market, but with less risk than they’re used to having,” he added.

However, the products can also be a particularly good fit for investors who find themselves falling short of their retirement goals, a fairly common problem for retirees.

“A lot of retirees can’t afford a big downdraft in the market because they don’t have enough time to make that up in the future,” Bond said.

Investment Approach

The two ETFs both invest their portfolios primarily in FLexible EXchange options (FLEX options) on the S&P 500 Index. Currently, the funds are using the FLEX options to create a defined outcome for the period covering Aug. 8 through June 30, 2019, but going forward, the funds will reset annually to cover periods ranging from July 1 to June 30, according to the prospectus. The exact degree of protection is determined prior to each annual reset.

For the current period, PJUL protects against the first 15% of any negative performance from the S&P 500 Index, and after fees, limits the upside investors can realize to 7.13-8.09%. Meanwhile, with UJUL, investors can experience a decline of 5%, but from there, they are protected against any further declines in the index up to 35%. Their gains are limited to 7.48-8.51% after fees, as indicated by a press release from Innovator. If the S&P 500 falls more than the targeted amount of protection, investors will be exposed to that loss.

These are the first ETFs of their kind, and not surprisingly, their prospectus comes with a host of conditions under which investors should and shouldn’t invest in the products, mainly warning that they should understand the products fully before they invest in them.

“A lot of advisors have heard of these types of payoffs, so we expect the learning curve to be very short,” Bond said. He notes that investors not purchasing the funds on day one of their covered time period can expect a different outcome, and that the Innovator website provides a chart that shows what that altered expected outcome is based on the purchase price.

A third fund in registration that is not launching today will protect against up to 9% of losses. Bond says Innovator expects to bring out additional funds for each quarter of the one-year cycle.

Contact Heather Bell at [email protected]

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