Covered Calls and Cash Secured Puts (Part 8)

Aside from being less risky than stock, the $BXM is another reason I am biased to believe in CCs and CSPs.

When the stock market is in a bullish phase, success trading CCs and CSPs is reported a thousand different ways by investment newsletters, services, and retail traders seen in forums and mailing lists over the Internet.  While everyone has their own particular way of doing this, I want to know how it all shakes out on average.  Is there any true Edge?

The Chicago Board Options Exchange along with Standard & Poor’s created a benchmark index that tracks performance of a hypothetical CC strategy on the S&P 500 index.  Known as the $BXM, this index was created in 2002.  The index is designed as follows:

• Hypothetically purchase the S&P 500 index [e.g. using spot SPX price]
• Sell a one-month slightly out-of-the-money (OTM) [SPX] option
• Hold until expiration Friday and then cash-settled
• Sell a new one-month slightly OTM call

 
In 2004, Ibbotson Associates performed a 16-year backtest on $BXM.  The backtest ran from June 1, 1988, through March 31, 2004.  The compound annual return of the $BXM was 12.39% vs. 12.20% for the S&P 500.  Volatility of the $BXM was only about two-thirds that of the S&P 500, though.  This makes for higher risk-adjusted performance:  0.22 vs. 0.16 (Stutzer index) in favor of the $BXM.

In 2006, Callan Associates performed an 18-year backtest on $BXM to extend the research done by Ibbotson.  The backtest ran from June 1, 1988, through August 31, 2006.  The compound annual return of the $BXM was 11.77% vs. 11.67% for the S&P 500.  Again, volatility of the $BXM was only about two-thirds that of the S&P 500, which again makes for higher risk-adjusted performance:  0.20 vs. 0.15 (Stutzer index).

Both studies noted $BXM outperformance in down markets and underperformance in bull markets due to limited upside profit potential.

I will continue this discussion in my next post.