Covered Call Writers, Have You Been Looking for a Performance Benchmark?

May 15, 2002 12:00 PM



In this market environment, are you looking for alternative investments that can provide added income and lessen portfolio volatility? Are you willing to forego significant upside potential in order to strive to improve your risk-adjusted returns? If so, one strategy you could consider is a "BuyWrite" strategy (also known as a Covered Call). A BuyWrite strategy generally is considered an investment strategy in which an investor buys a stock or a basket of stocks, and writes covered call options that correspond to the stock or basket of stocks. It is important to note that while BuyWrite strategies provide option premium income that can help cushion downside moves in an equity portfolio, BuyWrites often under perform stocks in rising markets. (An example of how you can use a BuyWrite/Covered Call strategy in your clients' portfolios is on page two.) In the past few years the Chicago Board Options Exchange (CBOE) has received general interest from institutional and individual customers in having the Exchange create a benchmark index to measure the performance of certain stock and options strategies. In response, CBOE created the CBOE BuyWrite Monthly Index (ticker symbol BXM). The BXM is a passive total return index based on selling the near-term, at-the-money S&P 500 Index (SPX) call option against the S&P 500 stock index portfolio each month, on the day the current contract expires. The SPX call that is sold (or written) will have one month remaining to expiration, with an exercise price just above the prevailing index level (i.e., slightly out of the money). Each time a new call option is written, it is assumed to be written at the reported bid price, usually at 10:00 a.m. on the third Friday of the month. The premium collected from the sale of the call is added to the portfolio's total value. The SPX call is held until its expiration, at which time a new one-month, at-the-money call is written. The expired option, if exercised, is settled in cash. In March 2002 the CBOE began disseminating BXM prices as a general indication of a hypothetical S&P 500 buy-write strategy, but the CBOE has no immediate plans to also offer listed options or exchange-traded funds (ETFs) based on the BXM Index. The BXM daily prices are available at www.cboe.com/bxm, and from quote vendors that provide options data. The price level of BXM was set to 100 on June 1, 1988, the first day for which BXM prices are available, and the first day that Standard and Poor's began reporting the daily cash dividends for the S&P 500 index portfolio. By April 15, 2002, the BXM Index price had risen to a price level of 566.56. The CBOE does not provide specific recommendations for mutual funds, but interested investors might explore the possibility of doing some research on the returns and risks of mutual funds that engage in covered call writing for at least a portion of their investment portfolios. Experienced investors could ask their brokers about the possibility of directly engaging in an S&P 500 buy-write strategy by investing in stocks and SPX options. As always, investors interested in this and other buy-write strategies should consult with their brokers and legal advisors for applicable advice on relevant issues, including but not limited to, considerations regarding margin requirements. For more information about margin requirements, please see CBOE Rule 12.3, CBOE Regulatory Circular RG99-09, and the CBOE web site at www.cboe.com/margin. For more information on BXM, including how and why it was created, as well as theoretical volatility, please visit the BXM website at www.cboe.com/bxm. Supporting documentation for claims, comparisons, statistics or other technical data is available by calling 1-888-OPTIONS, sending an e-mail to help@cboe.com, or by visiting www.cboe.com/bxm. S&P 100 and S&P 500 are registered trademarks of McGraw Hill, Inc. and are licensed for use by the Chicago Board Options Exchange, Inc. Past performance is not an indicator of future performance.

Options involve risk and are not suitable for all investors. Prior to buying or selling an option, a person must receive a copy of Characteristics and Risks of Standardized Options. Copies of this document are available from your broker or The Options Clearing Corporation, 400 S. LaSalle Street, Chicago, IL 60605. CBOE and Chicago Board Options Exchange are registered trademarks of the Chicago Board Options Exchange, Incorporated. 2002 Chicago Board Options Exchange, Incorporated, All Rights Reserved.