Buffer ETFs? What are they and what do we think about them?

I’ve been seeing more and more about buffer ETFs lately in investment news. What are they and should you consider them?

A buffer ETF is a basket of investments designed to limit downside risk by providing a buffer against market losses, while capping potential gains over a set period.

As one of the biggest asset managers in the world, let’s look at Blackrock’s buffer ETFs.

If I think about them as part of the equity in a portfolio I don’t like them. 

I don’t want the annual return capped at 7.41% or 10.64%. Frankly, I don’t ever want my return capped. It doesn’t take much research to see there are a lot more years that growth on IVV hits the cap than there are years where the buffer helps me avoid a dip. I’d be giving up far too much growth.

….but what about as part of your bond portfolio?

Let’s back up and ask ourselves - what role do bonds play in our portfolio?

1. Income 

   1. Bonds pay interest, buffer ETFs don’t. (No dividends either.) This is a big drawback. We want some form of income on our investments. Interest, dividends, etc.

2. Return of Principal

   1. I typically only like to see investment grade bonds. Not a huge fan of junk bonds so we expect to get our principal back when we buy bonds.

   2. If buffer ETFs ‘buffer’ you against losses, I expect them to always return at least the principal to you too.

3. Steadiness / Portfolio Dampening

   1. Bond prices fluctuate, but historically not nearly as much as stock prices. They do help smooth out the investment experience in diversified portfolio to some degree.

   2. Again, if these etfs ‘buffer’ you against market dips then I expect them to smooth out the investment experience. To the same degree as bonds, or maybe even more so? We need more time to determine that since these ETFs are still relatively new.

4. Growth

   1. Though we don’t primarily buy bonds for the growth aspect, there are definitely years when bonds appreciate substantially and would hit the buffer ETF cap, so again the growth constraint is a negative here.

So I would say there are some elements that bonds and buffer ETFs have in common, but they are definitely not an apples to apples comparison.

For me, buffer ETFs are still too new to get on board. You can’t chase every shiny new strategy so I’ll sit this one out for a bit and stick to tried and true stocks and bonds.