How to Separate the Best Income ETFs From the Rest

While there are ETFs using covered call option strategies that have been around for years, the number of funds using options trading strategies to pay eye-popping yields has exploded over the last two years. With hundreds of ETFs now in the space, picking the best ones is a huge challenge.

I keep a database of high-yield ETFs that use option strategies. I don’t include every fund in the group; I include the ones I think could provide attractive returns. Of the 114 funds in my database, 44 launched in the last year and 71 in the previous 2 years. You can see the pace of new launches is accelerating. It seems I add one or two new ETFs to the list every week.

There are dozens of other funds that employ strategies I find too aggressive, most of which involve the use of leverage as well as options strategies. I also don’t track single stock covered call ETFs, of which there are at least 100. 

I talk to a lot of investors who jumped on these ETFs for the huge yields and have been disappointed by the realized returns. Here are the one-year share price and total return numbers for the YieldMax Ultra Option Income Strategy ETF (ULTY). This ETF sports a 77% current distribution yield.

The ULTY returns are an extreme case, but many investors also put money into the fund.

The first step to investing success with these ETFs is to understand what the fund uses for the underlying asset. There is a wide range of assets used by the ETF sponsors. Stock market index or index-tracing ETFs, such as SPY and QQQ, are popular. There are also actively managed portfolios with themes such as AI, semiconductors, real estate, and gold miners.

With one of the option-strategy ETFs, the share price should mirror the underlying asset. When QQQ is going up, a QQQ option strategy ETF should appreciate in price. Dividend income from option selling is added to the share price changes.

If you are looking at a high-yield ETF, check the share price chart against the underlying asset’s chart. While the option strategy ETF shares won’t match the underlying asset when prices are going up, the trend should be in the same direction. Not like the ULTY share price shown above. 

In most cases, the better option is ETFs with lower distribution yields, but without share price erosion. 

For my various ETF newsletters, I constantly compare total returns and share price action to identify ETFs that deliver solid, stable, and high-yield returns to our subscribers. It is a lot of work to separate the wheat from the chaff in this ETF sector.