The QYLD ETF has an enticing 12% yield but there’s a catch

2023-11-18 11:00

The Global X NASDAQ 100 Covered Call (QYLD) ETF stock price has bounced back in the past few days as demand for tech stocks rises. The shares jumped to a high of $17.10, the highest point since October 17th. It has jumped by over 5% from the lowest point in October and by almost 30% from the lowest level in 2022.

Is the 12% yield a good buy?

Demand for covered call ETFs has jumped sharply this year as many income investors seek to outperform the market in a high-interest rate environment. This explains why funds like JPMorgan Premium Equity (JEPI) and TSLY have seen huge inflows this year.

The Global X NASDAQ 100 Covered Call ETF is a leading fund that has a dividend yield of 12% and over $7.7 billion in assets. It has seen over $900 million of inflows this year. Other Nasdaq-focused funds like JPMorgan Nasdaq Equity Premium Income (JEPQ) and Nuveen Nasdaq 100 Dynamic Overwrite Fund (QQQM) have also seen huge inflows.

QYLD uses a relatively simple strategy to generate both growth and yield. In the first place, the fund buys the Nasdaq 100 index components, including companies like Microsoft, Tesla, Apple, and Nvidia.

It then writes monthly call options. A call option gives a person the right but not the obligation to buy an asset when it hits a strike price. In this case, the fund generates income by both taking the option premium and price appreciation.

Here’s an example for this. Assume that a stock is trading at $20 and you want to write a covered call option. Here, you can place an option trade with a strike price of $22. If the stock drops to $20, then the option is worthless since you can buy the stock at a cheaper price.

On the other hand, if the stock remains at $20, you will still make money since the call option has a premium, which you can keep. Further, if the stock rises, the covered call benefits from the appreciation and the premium. This explains why the QYLD fund is able to generate regular monthly income.

How the QYLD ETF works

Is it ideal to buy the QYLD ETF?

The QYLD ETF is a good way to generate monthly income, especially in high volatile environments. It is also an ideal way for hedging against risks in the popular Nasdaq 100 ETFs like Invesco QQQ.

However, it is worth noting that QYLD’s total return is not better than that of QQQ even with its 12% yield. For example, if you invested $10,000 in QYLD in January 2020 and reinvested dividends, you would have $11,450. If you did the same with Invesco QQQ, you would have over $18,000. As shown below, QYLD’s total return has been smaller than QQQ.

QYLD vs QQQ total return

Therefore, I believe that it makes more sense to invest in vanilla ETFs like QQQ and SPY instead of covered call ones. The alternative is where you invest in a fund like QQQ and allocate a small portion of your funds to QYLD and JEPQ.Notably, these covered call ETFs are not cheap. QYLD has an expense ratio of 0.60%, which is much higher than QQQ’s 0.25%. This spread can add up over time, as I wrote before.

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