Columbia's new buffer ETFs hedge the S&P 500, not the stocks they hold

Columbia Threadneedle began trading two buffer ETFs on NYSE Arca on Wednesday that hedge the S&P 500, not the stocks they hold.

Most investors cannot buy them. Columbia's fund pages say each is offered only through certain wrap fee programs sponsored or managed by Ameriprise or its affiliates, advisory accounts that charge one bundled fee. Columbia Management, the adviser, is owned by Ameriprise.

The Columbia RECS Laddered Deep Buffer ETF, RECD, and the Columbia RECS Laddered Moderate Buffer ETF, RECM, are actively managed. Each charges 0.69% a year. The Oct. 28 prospectus shows that as the total annual expense, with no fee waiver.

RECS, in both names, is the Columbia Research Enhanced Core ETF, RECS, which has tracked the same stock index since Sept. 25, 2019. The new funds hold that portfolio and add options on top.

How the S&P 500 hedge works

The stocks seek to track the Beta Advantage Research Enhanced U.S. Equity Index, which Columbia Management owns. It typically holds 325 to 400 large- and mid-cap companies.

The puts are separate. Each fund buys one-year put options on the S&P 500, or on an ETF that tracks that index, and about 25% of those puts expire each quarter. To help pay for the puts, the funds sell call options that generally expire in one to three weeks. Those sales give up gains if the S&P 500 rises past the level of the option.

"The Fund does not directly hedge the Equity Portfolio itself," the Oct. 28 prospectus says.

The puts are on the S&P 500. The stocks are a different index. The prospectus says the protection works only to the extent the stock portfolio moves with the S&P 500, and that the strategy can fail entirely if the two diverge.

On Aug. 31, the overlap in holdings between the S&P 500 and Columbia's equity index was 41.5%. The returns had still moved together, 98.1% over the year ended that date and 98.8% over ten years. That gap in the holdings had not kept the returns apart.

The prospectus says moving together is what makes the protection work. It also says the funds will limit the overlap, because more of it could change the tax treatment of the positions.

RECD, the deep fund, does not offer a bigger cushion from the first dollar of loss. It seeks protection only after the S&P 500 has fallen about 15%, and below that the puts are designed to keep paying as the index falls further. The first 15% is the investor's.

RECM stops at that same line. Investors take the first 2% decline, are protected against the next 13%, and take anything past 15%. The moderate fund's protection ends where the deep fund's starts.

The protection of any one put is realized fully only at expiration. The prospectus says that protection, if it comes, is measured before fees, and the fees increase any loss.

"Investors are not assured a specific buffer, or cushion, against loss," the prospectus says of each fund.

iShares and J.P. Morgan charge less

iShares sells a deep and a moderate quarterly ladder, and both hedge the fund they hold. The iShares Large Cap Deep Quarterly Laddered ETF, IVVB, and the iShares Large Cap Moderate Quarterly Laddered ETF, IVVM, each buffer the iShares Core S&P 500 ETF, IVV, through three overlapping three-month periods. iShares charges 0.50% after a waiver that runs through June 30, 2028, against a 0.53% gross ratio.

A Sept. 30 description says the JPMorgan Hedged Equity Laddered Overlay ETF, HELO, holds an active large-cap portfolio and three three-month hedges, staggered a month apart, aimed at losses from 5% to 20%. The options are on ETFs that track the S&P 500, and the description calls the strategy a continuous hedge for the portfolio. The fund charges 0.50%, gross and net, and held $4.9 billion as of Nov. 4.

Columbia's puts run about a year. The iShares and J.P. Morgan hedges run three months. The 0.50% iShares figure is after the waiver. Columbia's 0.69% is not waived.

Columbia charges 0.19 percentage points more than either iShares fund or HELO. Those funds either buffer the ETF they hold or, in J.P. Morgan's description, hedge the portfolio. Columbia's prospectus says its puts do not hedge the stocks the fund holds.

The same stocks trade without the overlay in RECS at 0.15% a year. Columbia's Sept. 30 fact sheet shows that as both the gross and net expense ratio, the same kind of figure as the new funds' 0.69%. The overlay costs 0.54 percentage points more, for a cushion the prospectus does not assure and does not place on the stocks the fund holds.