Animal Spirits Podcast - Talk Your Book: Accelerating Your Returns

Episode Date: September 27, 2021

On today's Talk Your Book we spoke once again with Bruce Bond of Innovator ETFs about defined outcome investing. Find complete shownotes on our blogs... Ben Carlson’s A Wealth of Common Sense Michael Batnick’s The Irrelevant Investor Like us on Facebook And feel free to shoot us an email at [e-mail] with any feedback, questions, recommendations, or ideas for future topics of conversation. Learn more about your ad choices. Visit megaphone.fm/adchoices

Today's Animal Spirits Talk Your Book is brought to by Innovator ETFs. Go to Innovatoretefs.com to learn more about their buffer, accelerated, all these different ETFs that help protect on the downside and give you more upside. Welcome to Animal Spirits, a show about markets, life, and investing. Join Michael Batnik and Ben Carlson as they talk about what they're reading, writing, and watching. Michael Battenick and Ben Carlson work for Ritt Holt's wealth management. All opinions expressed by Michael and Ben or any podcast guests are solely the their own opinions and do not reflect the opinion of Ritt Holt's wealth management. This podcast is for informational purposes only and should not be relied upon for investment decisions. Clients of Rithold's wealth management may maintain positions in the securities discussed in this podcast.

All right, Ben, I feel like we gave ourselves a pat on the back on the show, but I'm giving us a second pat on the back. When we first spoke to Bruce about these products, one of the reasons why we were so bullish on there being a product market fit is because people love a good story, investors love a good story. And this is a story with a defined outcome. So people can know, at least one of their products, the Buffford ETFs, people can go into the market and know their downside. And even though there's no free lunch, what's the catch? Well, there are some catches here. You're not just getting the upside, capping the downside and then not giving anything up. First of all, in a bold

markets that these products are capped. You're not going to keep up. There's things that we talk about with Bruce specifically, but it was just so obvious that this is going to be attractive for a certain subset of investors. Our startup paper portfolio is a big time. right now. This was in it. This was one of our first purchases in our paper portfolio for startups. So this is a third time we've talked to Bruce. The first time, do you remember we talked to him in like the basement of a we work building in Chicago? Oh yeah, yeah. We were in the basement, weren't we? It was basically like a storage closet. And yeah, they were just getting started too. And it's impressive how the distribution channel can work now where he mentioned it in the

podcast. Their whole distribution has gone through RIAs. It kind of shows the power of RIAs these days that you don't have to be on a pay-to-play type of system anymore to get your fund universe to take off. There are different ways of going about it. Seeing them and then the amount of products they have now, I'm sure they've gotten some feedback from their advisors they're working with because they've now added to these because I think at first some people said, oh, we get all this downside protection, but what about the upside? And now they've kind of changed and made these products where you can get more upside to a cap. And yeah, it's interesting to see how they've evolved. If Bitcoin ETFs were approved, I feel like a buffered Bitcoin ETF would be like

a top 10 by assets. Huge. Yes. I'm kind of interested to see. But how are the caps work? You're going to get capped out at 1,000 percent. Your downside is limited to 70 percent over a week. Yeah, that would be interesting to see how much they'd have to move on those.

But yes, if anyone could do it, I think Bruce could do it. We both said, after we got off the show with him, that's the kind of guy you want to have a beer with. Right? Indeed. Yes. Okay. So without further ado, here's our interview with Bruce Bond.

of Innovator ETFs. We are joined today by Bruce Bond. Bruce is the founder and CEO of Innovator. Bruce, thank you for coming back on today. Thanks for having me, guys. It's great to be here. All right. So you just passed the three-year mark.

Innovator has over 76 ETFs. Does that mean you have 77? What's over 76? 77. That would be next, right? That would be next. You have almost 80 ETFs, $5.6 billion. is an AUM, you were the first to market with these buffered products. You have the largest

market share. Credit to Ben and I, I'm pretty sure when we spoke to you. I don't know if it's back in 2018. Were we bullish on this? I think you guys brought it. You definitely help me get some visibility. I really appreciate that. We saw the product market fit that advisors would be clamoring for this type of product. If we had to caution some of that bullishness, it would be on the implementation of these products. There's a lot of moving parts. There's a lot of things going on inside the product and now you have 76 different ones. And I know a lot of them fold up into different vintages and similar products. So maybe a good place to start is with something that you rolled out recently, a third different variation of this concept. These are called

accelerated ETFs. Why don't we talk about what these are, how they're different from the buffer ETFs that we've spoken about in the past with you? So basically the way that the listeners should think about accelerated ETS, what they do is they accelerate your return. And we have some that accelerate your return, double the return, and some that accelerate the return, triple your return. So they do that over one year, just like the buffers did, over one year. But then we also, because some people like to track the market a little more closely, we also brought some of these quarterly. So you get double the market return over a quarter.

Now, you only get double up to what the cap is because we have to sell the opportunity over the cap in order to finance. So this is like a fully financed options position. So it doesn't cost anybody anything. you just get in, you get double up to the cap. Now, the beauty of these is that you're still one to one on the downside. These are not like leverage ETS where you get double up, double down, and this kind of thing. You get double up to the cap and you get one to one down on these.

Now, the other thing I would say is that we do have one with a buffer, with a nine buffer. So you can get over one year, you can get double the upside to the cap to an average of about 10%, all right, at 9.85%. So you get double the upside to 9.85% over a year, and you get a 9% buffer on the downside. So people get to get in, have a buffer, get double on the upside. Those are some of the things. People are really intrigued about and interested in. You mentioned the leveraged ETS. We have the double and triple.

That might be helpful to go through the differences there because you talk about yours is over a quarter or a year. You're trying to get that. Whereas a leverage ETF kind of resets on a daily basis. So maybe going through the differences there might be helpful to some people. most of you know that with the daily leveraged products you get double up and double down and there's this kind of a compounding erosion effect that you can get in those which can really hurt people even though over time the market's up you could be flatter down or not up double the market it might equal the market because of it's really a mathematical problem but it just doesn't work out so you need to know if

you're using the levered products you're going to get double up or double down on a daily basis we know that there's a lot of investors. These are investors. They're not traders. We're not after the traders with these products. If you're a trader, these are not for you, most likely. But if you're an investor and you're saying, hey, I would like to get double the market over the quarter to that cap.

That cap is plenty good for me. I think we're going to be less than that. And I would like to get some enhancement. And I'm one to one on the market. That's the big difference. You get double over a quarter, double over a year, and it just resets once a year. resets once a quarter versus every single day. So this erosion or this compounding effect that you get on the daily, you will not get that within these particular products. And you also don't have

double on the downside, which I think is really a big thing for a lot of people. So there's a billion questions that I have here. So let's just first try and poke some holes in this because if it sounds too good to be true, it usually is. So let's just get these out of the way. Some of the potential issues that I see are, one, you're getting the cap on. on double the price performance. Is that correct? That's correct. All right. So no dividends is number one. That's right. No dividend. The second potential issue is taxes. I would assume that you would generally advocate these be done in a tax sheltered vehicle. Okay. Now these, because they are ETFs, unless this new tax law comes through and it takes away some of the benefits, the tax benefits of

ETFs, if the tax law doesn't do that, we would expect you not to pay any cap gain distributions in this product. So it will compound at double the rate over time without cap gain distribution, just like all other ETFs is what we expect. So the question is, these are a one-year product. Can you roll them into a new one or do you have to sell them once the year is over? That's what I'm getting out. No, you just hold it.

You don't do anything. You just hold it. And so let's take the two-year, the double up with the nine buffer. You hold over the year. at the end of the year, the options expire, whatever you are, and that just initiates a brand new reset of that. Then you get double up with a nine buffer again over another year. So it just continues to do it. Think about an index resetting or rebalancing. Same thing. That's what this does. So the money just comes in. We reset it and you do it again over every year. So you always get

double up with a nine buffer. The one thing that changes is how much cap do you get? How much upside do I get in the market. And that's dictated by the current market conditions. And we just give you the very best cap that's available. And we just keep doing that year over year. So what type of caps are we talking about? In other words, let's say that the market is up 6% over a 12 month period. And so therefore, in price only, you would get a 12% return. What are the caps? So the cap on the double up with the nine buffer is 9.85%. So you get almost 10%. You don't quite get 10%. But 10%. Now, if you look at. Wait, hold on, Bruce, sorry and thought, but does that mean that if the market is up five, you would get, or the market is up four in change, you would get a cap of nine?

That's exactly right. So the way to think about it is, anytime the market returns you less than 9.85%, you're going to beat the market. There's really a better way to think about it. You're going to outperform as long as the market's down less than the cap. If the market's up more than the cap, you're going to slightly underperform. But now, let me say the double annual for the spider without the buffer on it. See, this is without a buffer. So if you just took your spy position and you rotate it into a double up position with one-to-one of the downside, you're not improving your risk position. You're the same downside risk, but you're going to get this double upside, the acceleration of your return.

That's 15.84. So you get 15.84% of the upside. And then there's a triple as well, and that's 14.69%. Think about the 14.69, just make it 15, just to make it simple. market's up five, you get 15. Do you think that this makes these products better for a potential low return world then? That's exactly what it does. If you think about it, everybody out here, what are we trying to do?

We're trying to make sure that we hit these particular numbers for our portfolio. We need a certain amount of return on our equity piece to make sure we hit it. So if you want to make sure you're going to hit 15%, well, you could buy double the SMP. You're going to get 15.884 is the average. But the market, you don't have to work. about, well, if the market goes up 20, you don't get it. But if the market's up 10, guess what, you got 15. So it helps you make sure you're going to hit that target, that return target you need to hit with that equity portion of your portfolio. And I would say a lower return environment, these are awesome for. But what would you classify a 15.84% market? That's a pretty good market. If you look at market averages back over time, that beats the average. So you're actually beating the average, but you're increasing your potential to get the 15%. And that's what we love about them for people that are planning portfolios. It brings more likelihood of achieving the numbers you need to achieve. That's what we like about them.

The place I was going with taxes is I love the concept. However, let's say that you buy this on January and January is up 5% in the month. The January is up 5% and this is a 12 month type of thing. At that point, if you've already hit your cap, you're going to sell because at that point, you only have downside. Isn't that right? Yeah, you could sell. you could sell and you could roll into a new one or and so what we recommend if you think about a guy to say all right we're not saying put your entire position in these we're saying though but what if you took half your position and moved it in here so then you have half your portfolio just got accelerated you're going to get up to 15% at the end of the year but then you still own let's say 50% in the spider so if the market goes up above that you're going to participate as the market moves up but you have that other half really pulling for you making sure that you get a up to that 15.84%. Now, the other thing that I would mention is that we have the quarterlies. So for people, Mike, like you're saying, hey, you know, it's up five. I mean, do I want to stay? A quarterly, just so you know the quarterly S&P is 6.09. That's the cap for the

double. So you get 6% on the upside for a double. So the market's up 4%. You get 6%. So 3%, you get 6%. That new cap gets set every single quarter. So you're staying closer to the return of the SMP as it goes and you're getting double on a quarterly budget. Those gains are not taxable unless you sell them. Is that right? Right. Unless you sell. It's taxable when you liquidate. Other than that, you shouldn't have a cap gain distribution. A good problem to have is from the lows in March 2020, the stock market was up 100% over the next 15 months. If you were in one of these products, in that scenario, would you be rolling into new products two or three times, potentially? So you could step it up if you want and keep taking advantage of that. Some people got capped out.

I mean, they gave up their potential for the upside. But remember, too, these particular type of products, when the market sells off, your cap tends to expand. Okay. So you get more up. In March 2020, your caps were rising, obviously. Do we're like 22, 25%, or they were much higher than what the average would typically be because you have high volatility. Their volatility expands the cap and so you have more upside potential. The perfect environment for this type of strategy is a very slow grind where we don't really go up much, we go up a little bit because you're exposed to the downside, but you can accelerate

the upside if the market says goes up, let's say the market's up 3% in a year or 2% in a year, whatever. This would be the perfect environment for that. It sounds like a really bad market environment is the one that we just lived through where it was straight up and up and up and up up and up. Exactly. That would definitely be the worst time to be in because you're going to get capped out. A lot of the people, though, that are investing in these products, what they're saying is, look, do we know what's going up? We don't know if it's going up. I mean, we look back and we know that, but we don't know. I was bearish. I was bearish. Hand up. Yeah. I mean, hey, let's face it, we've all been around for a long time. Right. I know when we've seen ups and downs. We

don't know what's going to happen over the next 12 months. We're smart enough to know that. And so if you want to assure if the market is lacklust or you're going to hit your numbers, or if you want to buy a buffer in case the market goes down and you don't have enough time to regroup and get your money back, or you just don't want to take that risk. You can buy a buffer, the double up with the buffer, or you get that enhancement on the upside and you're good with that. I mean, ultimately, your risk with these products doesn't go up. All you're doing is improving you're accelerating your return on the upside to that cap, whatever that cap is. And if you're happy with the cap, you're in a good spot. On your website, you give advisors the ability to look at

where these things stand, where they are in relation to their cap. Maybe you can just ballpark it. Maybe you don't know exactly, but how many advisors do you see that are more active with these strategies where they're trying when they know they're getting to a cap? I guess last year it could have been on the downside where they had put more downside protection on in March 2020. And then maybe lately it's been more of the upside. How often are advisors actually actively managing these things when they're getting close to the caps? We have different types. We have people that are like, I'm taking 25% of my equity exposure. I'm rolling it into here because I'm trying to achieve this or I'm trying to achieve that. But then we also have the people that are saying, especially with the

buffers, okay, I got my buffer. Now I'm up 10%. I'm going to roll into a new buffer because then if the market goes down, they buffered that return they've gotten. You know, they view it more like locking their gains in as the market moves up. So they continue to roll up into new products as they go up, especially in some type of protected account where taxes aren't a concern for them. So we see a lot of both. I will tell you guys that originally when we introduced the products, we weren't real sure what kind of activity we would have in the middle to maintain a good price so that when people wanted to get in and out in the middle, what would that look like? I mean, nobody had done something like this. But we've been pleasantly surprised. I mean, the prices are great. You can get in,

you can get out. So there's enough liquidity in between these when they start an end? Yeah, to get in and out. We always recommend people in all ETFs. I mean, unless you're in the most active ones, use limit order. But I think you can get in and out. It's not an issue. And we got great liquidity within the funds.

Bruce, do you have a sense of who's using these products? I would imagine that it's 90% advisor-driven, but I could be wrong. Do you have a sense of where the interest is coming from? We do. And it is probably more than 90% because the products are pretty sophisticated. Now a lot of advisors are getting educated and people are getting educated. They know, okay, right before the October series comes late September, that's when I want to buy, because then I'm going to get the NAV of the October when it comes or right in those first several days of October. I want to invest into the October, so I know where I stand. So people are starting to learn, okay, participate right around the beginning of these, unless you want to make an adjustment to your position. And we do have people like buying in right at the end, right before the reset, because sometimes, it hasn't gone up to where it's got to go. So there's like little to no downside, but there's two, three, four percent to catch. And so people will just buy it, catch that two, three, four

percent, let it expire. And then maybe they'll leave it. Maybe they move it out. But we see a lot of that as well if the options market maybe isn't quite as efficient or moving quite like we should. Do you have advisors that lean on you and your team for a lot of this stuff? Or do you find most advisors, okay. And I recommend people that go to the website, sign into the website. And we have this kind of what we call a high pole tool on there and you can look at every fund and you can see for example if the market's up 10 you're going to get this if it's down 10 this is what will happen so it shows you real time where the fund currently sits if the market goes up and down what can you expect from that fund so it makes it very easy to participate and to do this type of thing you don't have to try to

figure it out yourself we've figured it all out for you and we just show you so it's easy to determine which one would fit your situation Do you have anybody dedicated to talking to advisors? Like, is your phone ringing constantly or not really? Well, mine in particular, no. But we have a lot of, I mean, it does ring a lot, but not with the guys asking my opinion. No, I usually turn that over to either the, like an outside wholesale guy or to a technician's that we have downstairs like Graham Day. I think you guys have met Graham or Trevor, those guys down there.

Typically, I turn them over to them. We also have another guy that works on the trading side a lot to make sure. We have some big block trades come through, and so we help people place those trades, make sure they get in at a great price and that kind of thing. So we're doing a lot of that. And you're also expanding the lineup. I think when we first spoke to you, it was probably U.S. large cap only, but now you're going to different areas of the market. So we started with the S&P, just with your typical downside buffer. So you can get the upside of the market, but with a little buffer on there.

And then we went to the NASDAQ, and then we went to the small cap, and then we went to the emerging market. And then we went to the EFA. So people, they can participate with these buffers on the downside in all these different markets where maybe they have a little more concern over the market. Those are doing great as well. Then after that, we really focused on, okay, we have this risk management piece really covered for people. What we found is that people, when you were saying, you know, the market sold off and people went risk on. They were like, well, I can't really use these for risk on. They don't give me the risk on approach I want.

I want to really get risky here. So some assets traded out and went more direct. So we're introducing the accelerated to tell people, look, you don't know where the market's going to go, but if you want to go get a little more risk on, you can buy double up, a triple up. You can get involved that way. We're seeing people love that approach. You also have this 20 plus year treasury bond floor ETF that I thought was interesting because

with rates being where they are, especially with long dated bonds, the volatility on that can be like the stock market. The long-term government bond has had more corrections in the past five years, I think, than the stock market. So how does this one work? What's the floor and the cap on the long-term bond one? It has a 5% floor, and it's a one-year reset. It has a 6% upside cap. So today... Your loss can't be worse than 5% on this. You can't lose more than 5%. It's a floor. So it's different than a buffer. The buffer is the first part. This one, you're exposed for 5%, but then after that, you have no more exposure. But you still get 6% of the upside. If somebody thinks, okay, the Treasury market, rates are going to go down, I could get more upside.

This is going to give you 6% of that upside. But if they have to have that exposure, but if rates shoot up, you have a very limited downside. We've seen that cap get a lot better than that because rates are so low, though, it's pretty tight right now. But in time, I can see people saying, look, if you need to own fixed income, you really need to own long-dated duration in order to get the benefit of the correlation. Otherwise, the bonds don't move around enough. You're really kind of holding cash. You just have a cash position, maybe getting three, four, five percent. Well, if you want to get the correlation benefit from Treasury's moving opposite of the stock

market, you have to go out on the duration scale. This allows you to go out there, but with not the risk that you have to take and buy in TLT or something like that. It protects you from that big move that could hurt you when you've got a 20 duration, a 1% move can take 20% away from you. So you guys are doing so fantastic. I don't know what would compel you to do this. But have you thought about, and I think we also asked you this last time,

have you thought about making a product for advisors that was dynamic? We're sort of like a fund where you guys did all the trimming and moving and all that sort of stuff. Yes. We have one fund. It's called Buff, B-U-F. And let me tell you what it does. Michael, we're not actually making adjustments in there. What we did was we bought all 12 of the 15% buffers.

So you can just buy in there. and then every month is resetting. And so every month is giving you whatever the upside is of the cap with a 15% buffer. So we have that available now. We are evaluating the potential of bringing additional products that are more opportunistic and take advantage of what we think when somebody should make an adjustment to their position, making that adjustment for them so that they can just participate in that. The one thing that we're conscious of,

some people like having the individual securities like the buffers and the accelerated but some people want just to set it and forget it that will do it for them and so we're looking at that set it and forget it we love this idea but i want somebody to do this for me so we're looking at introducing those what happens a little bit with those is you give up your defined outcome because you don't have something at the end that you can mentally with your client say i'm going to get this at the end i know what my situation is because once you blend them together all the a sudden it becomes like other risk management strategies, if you know what I'm saying, where you don't really know what you're going to get anymore. One thing we love about this is people can feel comfortable with at the end of the year, this is what you get or at the end of the quarter, this is what you get. We should start an animal spirits innovators fund. Yeah, hey, I'm open to that. Let me know. What you're saying is that moving around too much in these things kind of defeats the purpose in some ways because you could be taking off their benefit in some ways. You could be. I mean, I think between an advisor and his client, if they decide together,

okay, we're up this much, we're going to reset it. That's an agreement you're making at that time and you're saying, okay, we're going to reset it. And then we know what our new position is. If we hold this, we're going to get this at the end. So if you do it together and you make that adjustment, that's one thing. If you put it in there, it becomes another risk management strategy, a great risk management strategy, but you just give that defined nature of the defined outcome price. You give that piece up, but not that that's everything. That is something that we're aware of and that we're careful with and we're testing. Hey, Bruce, you've been in this industry for a long time. You were a pioneer in the ETF space. Can we just talk a little bit about what's going

on at a higher level? How easy is it to list products to bring them to market today versus it was, say, five or 10 or even 15 years ago? Depending on the type of product you're trying to do. You're trying to do a Bitcoin product. You might have a little bit of an issue. Right. But, But I would say because of what they call 6011, which was this new rule that came out, they kind of leveled the playing field for everyone, it made it a lot easier to bring a new product today than several years ago. You used to have to have your own exempt of relief and order and all these kind of regulatory hurdles you had to hop through now.

It's much easier to do. And the challenge is not actually bringing and listing a product, but there's so many products out there, cutting your lane and getting visibility. you for your product and helping people understand your product and those kind of things. So that's probably the biggest challenge today is kind of the mind share when getting people when we do get a Bitcoin ETF in like 2026 if the SEC ever does it. Are we going to see a defined outcome crypto ETF? Yeah, I mean, you know, you would think that it would be of some value.

You can get the upside of Bitcoin without all the downside. I think a lot of people might have interest in that. That'd be great. I think there's something like that might happen. where are you seeing the most interest is it like buffered ETFs are 70% of the flows that we're seeing or does it change over time where are people's interest these days buffer etups tend to still be the lion's share of what we do and I think part of that is because that's where we got started and that's where we've done the most education but we're starting to see a real pickup and that's the biggest piece of our offering too is the buffers but we're starting to see a lot of interest on the accelerated side The reason I think it's slow is it's on us to educate people. Why would you use this accelerated approach

versus just owning the spy or the cues outright? And would I want to do it over a quarter? Would I want to do it over the year? So those are things that we need to educate people on. That's why I appreciate having the opportunity to be on with you guys and talk about it because I think they're awesome tools. And I think it's important for advisors to learn about these products. These are not like just another ETF on some narrow thematic idea out there.

And there's nothing wrong with those. Those are great. But this is a real new way to approach investing for your clients that can truly bring a lot of value to the table for advisors. And so it's worth taking a little time, researching these, understanding them. We hope to hit $6 billion by the end of the year. We're still not in any major distribution. This is only done through the RIA channel right now. And so people need to know that, I mean, there's a lot of participation for something that started in the RA channel and has stayed there that this is a big number to be able to derive out of them so quickly.

So there's a lot of people using them and there's a lot of value there to be had for people. If we have some bunch of RAs listening, where do we send them to go to learn more about these and help understand if it makes sense for them and their clients? The best thing to do is just go to Innovatoretfs.com, snoop around on the website. There's tons of great educational materials there. Like I said, go ahead and sign in because then there's some tools behind the main page that advisors can look at that are really cool. And like I said, it'll tell you if you're up five, up 10, up 15, up 20, how much of that do you get?

But if you're down 5, 10, 15, 20, how much buffer do you have? And there's these things that I think are really terrific and really open up people's eyes to, wow, yeah, this is neat. I could use this. I mean, what do you do today if you have a whole bunch of cash? You get a new account and they just sold their business to get some cash. I mean, what do you do with that money? Where do you put that money?

A lot of people like knowing off, I put it in, this is my perspective on the market and this is what I've got. This is a great way to put cash that's on the sidelines to work. And it's a great way for advisors to build their business. If other advisors aren't using this, people, when they hear this story, individual investors, when an advisor explains this to them, they're like, wow, why wouldn't everybody be using this? Just has some good benefits to it. So not for your whole portfolio, obviously, but for a portion, it's a pretty cool thing to think about and to understand, and I think it brings a lot of value to advisors with their clients.

The proof is of the pudding. Obviously, you guys have been very successful, almost $6 billion in just over three years. So congrats on all the success, and thank you for coming back on today. Guys, I really appreciate it. It's great to be with you. Thank you.