First Trust's tail-hedging strategy attractive, but advisor says costs could be a concern

By Aleesia Forni

Columbus, Ohio, Oct. 18 - First Trust Advisors LP's planned new "tail hedge" exchange-traded index fund is well timed, according to a wealth advisor, but he raised concerns about the possible costs of such a narrowly focused product.

"We're in the high volatility investment time frame, and there could be a strong desire among investors to use the fund to hedge certain strategies or to leverage and try to capitalize on the volatility environment," Michael Chasnoff, chief executive officer of Truepoint Inc., a Cincinnati-based wealth management and multi-family office firm, told Prospect News.

"I just don't know how quickly a fund like this will become an important instrument in investors' portfolios."

First Trust's proposed First Trust CBOE VIX Tail Hedge index fund will attempt to deliver the returns of the S&P 500 index, but hedged against extreme changes in the market resulting from unexpected occurrences, which can cause market volatility to increase.

The fund will employ this strategy in order to profit from these volatility increases, theoretically offsetting the portfolio's losses due to these unpredictable events.

The fund seeks investment results corresponding to the price and yield of the CBOE S&P VIX Tail Hedge index and will normally invest at least 90% of its net assets in common stocks included in the index.

The portfolio will consist primarily of equity securities designed to track the performance of the S&P 500 with a variable option overlay consisting of one-month call options on the VIX index but may, at times, consist entirely of S&P 500 stocks. The VIX index is a measure of estimated near-term future volatility based on the weighted average of the implied volatilities of near-term put and call options on the S&P 500.

Chasnoff said he has seen many "niche strategies" priced at higher levels, which detract from some of the value that may be realized by an investor, and he would want anyone considering using the fund to be aware of these costs.

Chasnoff said he will reserve most of his comments on this strategy until he has had a chance to "actually study and observe" this fund.

"I couldn't recommend it until I've had a chance to actually monitor its actual performance on a real-time basis," Chasnoff said.

Truepoint is "very comfortable using index funds with our investment strategy," Chasnoff said.

He noted that a large number of index funds have been introduced in recent years, and some have failed to achieve a significant trading volume, which can mean they suffer from a "significant differential" between the net asset value and the offering price.

Chasnoff said this differential "concerns" his company.

On the other hand, he added: "One of the things that makes ETF investments very attractive is that the cost for basically participating in a specific strategy or capture a specific asset class returns can be done very cost efficiently through an ETF format."

First Trust is based in Wheaton, Ill.

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