Since the beginning of 2019, the S&P 500 has almost exactly doubled in value. That even includes the COVID recession, which saw the index drop more than 30% in just more than a month, but also ushered in the loosest monetary conditions in history, explains David Dierking, editor of TheStreet's ETF Focus.
Investors have gotten awfully used to those conditions driving risk asset prices higher, but the gravy train is about to come to an end. As the Fed begins tightening policy conditions, investors should consider playing defense instead of offense in 2022.
That’s why I think buffer ETFs, such as the Innovator U.S. Equity Power Buffer ETF (PJAN), should be in the investor playbook. These funds hold a customized basket of FLEX options with varying strike prices and the same expiration of approximately one year. This structure allows the fund a buffer against a predetermined level of downside in exchange for a cap on the index’s upside.
PJAN is indexed to the S&P 500 (although Innovator also offers buffer ETFs tied to the Nasdaq 100, Russell 2000, developed and emerging markets) and currently offers a buffer on the first 15% of losses with a cap on returns of 9.75% over the outcome period.
Innovator’s Buffer and Ultra Buffer series of ETFs offer different levels of protection (in general, a larger downside buffer comes with a lower return cap), but the Power Buffer’s range feels like a good option to balance upside and downside.
There is a catch though. Investors need to hold the ETF from the first day of the outcome period to the last in order to experience the expected return. Investing in the middle of the period (PJAN, for example, runs from January 1st to December 31st) is certainly allowed, but the returns you experience may be different.
Innovator has you covered beyond the January 1st date. The issuer now offers buffer ETFs for every month of the year (PFEB, for example, runs from February 1st to January 31st), so you can literally invest at almost any time.
The last couple of years have been all about risk maximization. I think the focus of 2022 should be on risk mitigation. There are two ways to outperform over time — beating a benchmark on upside or losing less than the benchmark on the downside.
Buffer ETFs, such as PJAN, should be a great way to protect your portfolio in the event of a more serious market correction, while offering the upside potential of equities in case the markets continue to push higher.