January 2024
What is your role at Allianz?
I helped set up and develop the ETF business for Allianz. We launched a little over three years ago and we have been building out the business over time. Currently, I focus more on partnerships and more complex portfolio management level discussions with advisors, gatekeepers, CIOs, model builders, and so forth.
Was it a big transition and challenge for Allianz to move into the ETF space? Allianz is primarily known for its insurance products (annuities etc.), so was the ETF marketplace new for Allianz and were you instrumental in starting the business within Allianz?
Yes, I made the proposal and then it took a village, of course, to get off the ground. But, in terms of a natural extension of our business, and as a part of our long-term strategic objectives, it fit perfectly with what we’ve been doing for decades already.
We have the expertise on the insurance side, trading, portfolio management – all the work that goes into building out a trading desk that is squarely focused on managing risk – that’s kind of the crown jewel of what we have, and what we’ve been doing for a long time.
Being new to the ETF space, we had to tap into the ETF ecosystem and build that out, and that takes a little bit of time to get the components put together. The core of what we do centers around risk management. Our portfolio managers have been trained to “hit targets.” On the insurance side, we provide guarantees to people, and we collect premiums that we’re then investing to make sure that we can deliver on those guarantees. So, risk management is a critical function for the company and everything we do is built around that.
Would you say Allianz is using many of its existing strategies, but in a different investment vehicle with Buffered ETFs?
Right. So, we have annuity products that have caps and buffers, and different variations of structures on different indices. So that’s not new to us. That’s something that we manage and know very well.
In terms of options trading within our ETFs, we use FLEX options. We’re not new to this type of structure either. The beauty of FLEX options is that they’re customizable to get a particular outcome. We were one of the early institutional investors in FLEX options dating back some 15 years ago.
And then in terms of options volume, we’re one of the biggest traders of options in the United States as well. Probably a little-known fact is that we trade options every day in the billions of dollars – give or take up to $10 billion a day and in the trillions every year.
Do you offer both annuities and structured notes?
We offer annuities and ETFs, but we don’t have a structured notes business.
Have you found that your existing clients also have an interest in your Buffered ETFs? Have you heard some positive feedback from those clients?
Yes, we have. Buffered ETFs are a complementary product for many advisors. For advisors that are already using annuities and have command of the language around annuities and how they work and the benefits that they provide, it is a very quick leap for them to start thinking about what Buffered ETFs might be able to do for them on the wealth management side or the asset management side of their businesses. These advisors are obviously not investing all of their clients’ assets in insurance products. They also have asset management products to consider. And, once you have a good feel for the tradeoffs with the cap and buffer type of strategy or a defined outcome strategy, on the insurance side, it’s very easy to also then transpose that knowledge into the liquid side where you can trade that in an ETF.
How many Buffered ETFs does Allianz currently offer?
We have a few of them now, and we’ll keep adding strategies. We have a 10% buffer on the S&P 500, specifically on the SPY ETF, with a 12-month outcome period. And, we also have a 20% buffer with a 12-month outcome period, also on SPY. And the third buffer strategy we have is a 10% buffer also on SPY, but with a 6-month outcome period. With our monthly series of funds, we have a total of twelve 10% buffer ETFs and twelve 20% buffer ETFs with 12-month outcome periods that start on the first day of each month. This provides diversification opportunities across various time periods and enables investors to enter on “Day 1” of an outcome period every month of the year. Our series of 10% buffer ETFs with 6-month outcome periods is being completed this year to include a total of six ETFs so that we have outcome periods that start and end every month of the year. February 1, 2024, we launched a new Floor Strategy, also on SPY, with a 5% floor (maximum loss) and a 6-month outcome period, and we have other products in the pipeline.
How much money is Allianz managing in Buffered ETFs now?
We launched about three and a half years ago in the midst of the COVID pandemic. It was June 2020, so it was very difficult to gain traction early. Plus, we were trying to staff up and figure out the staffing model and distribution models in an environment where nobody came to the office. So, we had a bit of a slow start, and it took us almost 3 years to raise the first billion dollars, but then it took only 10 months to raise the second billion. And now we’re at $2.3 billion across these strategies.
Are you mostly raising money through advisory channels?
Yes, we’re 100% focused on advisors and institutional buyers. And, the key here has really been on education, because this is still a relatively new asset class. It’s been growing rapidly as an industry, but it takes time. It is the traditional Adoption Curve. You have some early adopters, and then you have some that want to watch and learn over time and maybe come in a little bit later.
Are you seeing most advisors use your ETFs as a slice of the overall asset allocation pie? And, are you seeing more advisors now leaning towards perhaps making it a core holding in a portfolio?
So, let’s go back to the Adoption Curve – it’s actually all over the place. And, some of it depends on which side of the business they’re on. If you’re on the RIA side, you can implement this however you see fit for your clients, and that can range from a sliver to a much bigger allocation, to a full allocation in some cases.
And then on the broker-dealer side, it might be a little bit more restrictive, in terms of how assets are classified. So, there might be restrictions in terms of how big of an allocation you can have. But, to answer your question a little bit more directly, typically we see a 10% allocation tends to be a starting point, or a minimum, for advisors. And then it goes up to where we see some advisors completely replacing their fixed income allocation and buying Buffered ETFs instead. So, it may go up to 40% or more. It’s a wide range.
Was 2022 a turning point for Defined Outcome ETFs? Investors were losing money in both stocks and bonds, which typically are somewhat uncorrelated, but that wasn’t the case in ‘22. Do you believe that when markets are difficult and investors are losing money, is that when they start to look for a better solution?
I say human nature guides you and you feel pain points 5x more heavily than the positive points. So, when bad events happen, your brain automatically kicks into survival mode and you try to do something about it because it doesn’t feel right. And when things don’t feel right, you want to take action. And, a lot of times in the investing world, you take the wrong action and you make a bad decision.
Did more eyeballs turn to these strategies in a year like 2022? Yes, there’s no doubt. They turn to anything that looks like a “risk-off” asset, but one of the benefits of the defined outcome space is that it helps mitigate poor decision-making that frankly is somewhat pervasive. If you are invested in these types of products, then you won’t feel as much pain and you will be less inclined to make poor decisions when the sky is falling, so to speak.
Now for the industry, just one more point on that, 2022 was clearly a gift to the defined-outcome industry because it served up a lot of different proof points. One being, trading liquidity with big trades going off without a glitch. And, the second one, was the fact that in the case of our 20% buffer, for example, I mean, we couldn’t have seen or dreamt up a better proof point because the market was down just about 20%. And, our 20% buffer didn’t lose money – basically flat (gross of fees). It really demonstrated how these products work.
If I can add one more thing, 2023 served as the second-best proof point that you can think of because the market rallied. So now an investor who had “hypothetically” invested in our 20% buffer throughout 2022 – let’s say he invested $1 million, so he would still have $1 million at the end of 2022 (gross of fees). And, as the markets rallied by over 25% in 2023, he then participated up to a cap that was set at approximately 15%. He would have had $1.15 million at the end of the year. But if you were in the S&P 500, you would have only been back to $1 million (loss of 20% in 2022 and gain of 25% in 2023). So, it really demonstrates the diversification benefit and the “win more by losing less” concept. The numbers really played out favorably for these types of products, not because of what they helped drive in terms of AUM growth, but because it demonstrated how they work and that they do indeed work as intended and as advertised.
Have you found that advisors are using your products with tactical strategies and making changes intra-outcome period – locking in profits, creating a new buffer – or are they passively invested?
So, the majority of advisors are thinking about this as an allocation. A strategic allocation to Buffered ETFs provides diversification and portfolio level downside protection. But at the same time, there might be some active management of that allocation in that they can rotate in and out of different Buffered ETFs depending on where they’re trading in relation to the caps and what the market’s doing. So, perhaps a passive allocation, but with some active management inside of it. So that’s one type of investor.
The other type of investor who wants to be more tactical and perhaps try to beat a benchmark, say a 60/40 benchmark, for example, that would imply that they have a market opinion and want to implement that either by overweighting or underweighting equities. So, one of the really cool things with Buffered ETFs is that if you’re overweight equities because you have a positive view on the economy, let’s say, but instead of buying just more equities at the expense of fixed income or cash (where you will immediately be judged if the market declines and you underperform) – instead, you could buy Buffered ETFs.
If you buy a Buffered ETF and your bet is wrong and the market goes down, you’re still “buffered” against that loss. And then, of course, if the market goes up, then you’re right, and you get to participate. And even if you get capped out, well, you still generated alpha in your portfolio. So, it’s hard to lose in that case.
And, in a declining market you’re always going to outperform in Buffered ETFs.
That’s right. And, no matter how far down it goes, you will still outperform. And if it goes up, you will participate all the way up to the cap, and it’s only if the market blows beyond the cap, that you’re underperforming. But keep in mind here, importantly, you’re underperforming the S&P 500 in that scenario. But, if you’re replacing an alternative allocation or a bond allocation, for example, and let’s say you get capped out and make 12% in your Buffered ETFs, for example, you’ll likely still outperform the bond allocation and potentially the alternative allocation as well. So, you might still be a winner depending on how you’re thinking about this.
Tell us more about your new Floor Strategy ETF and why this strategy might be attractive? And, what is the advantage of a 6-month outcome period?
The Floor Strategy effectively is in place so that you can lose no more than 5% over the course of the full outcome period (gross of fees). Our fees are 74 basis points, annualized, which means it’s half of that for a 6-month period.
So, it can be used as a very conservative allocation for any investor, frankly. It gives them confidence that no matter what happens in the equity market, they’re only exposed to a 5% maximum loss.
And we intentionally cut the period down from 12 months to 6 months so that you have an opportunity to have higher delta exposure to the S&P 500 as it’s going up, because in more market environments than not, as you know, the market does go up. And in order to capture those gains more frequently without a taxable event, we have it in the ETF wrapper, which makes sense from a tax perspective. And the 6-month period makes sense because you can capture those gains a little bit more quickly and reset the floor at a higher value.
When is the 5% Floor Strategy launching? And what are the early indications looking like for the upside cap for the 6-month period?
February 1, 2024. So, for the upside cap, the estimate that’s public right now is between 5.5% and 8.5% gross. The reality is it’ll probably land somewhere in the middle of that range. [Note: the starting cap on the Floor Strategy (ticker FLJJ) was 7.36% net of fees.]
How many options are in the ETF wrapper with your new Floor Strategy ETF?
There are three options. There’s a deep in-the-money call option to get the 1:1 exposure to the reference asset, and then you simply buy the put 5% out of the money, to give you that level to set the floor. And you sell a call, and that sets the upside cap and helps to fund the cost of the protection. It is actually a simple structure, but then managing it at scale, that’s where we come in at Allianz, in terms of the preciseness around the options and the expertise and the tax management, etc.
From what I understand, the first 5% level of protection is the most expensive with Defined Outcome ETFs. So, it sounds like you’re able to make this Floor ETF appealing by giving up protection on the first 5% loss, which basically allows for an upside cap that is still attractive. Is this accurate?
Yes, the most likely losses are just south of 0%. So, protecting against those is more expensive. If you wanted to protect from 0% down, it gets really expensive. But the further down you want to protect, the less expensive it becomes.
What factors influence the upside caps for the 6-month and 12-month Buffered ETFs?
For the buffered products, right now it’s primarily volatility that determines the upside caps, but interest rates also play a role. The Floor is more sensitive to changes in interest rates.
For the 6-month Buffered ETFs we offer, with a 10% buffer, the range on the cap is similar to the Floor cap in the current market environment. So, it gives a really nice dynamic if you’re an investor looking for protection against the belly of the curve. You can invest in the buffer to get the first 10% downside protection, with a similar cap on the upside. Or, if you are more concerned about the tail, and you want to protect against losses south of 5%, then you might want to buy the Floor ETF and have similar upside potential as the buffer. It’s kind of like the mirror image, if you will.
It sounds like it’s a product that could compete with the deeper buffers that some of your competitors offer, where an investor is saddled with the first 5% loss in a declining market. But unlike a deep buffer ETF that might protect say to -30% (-5% to -35%), with the Floor Strategy you get 100% protection beginning at -5%. Is that accurate?
Yes, that’s accurate. It’s a “sleep at night” kind of product. It’s the more conservative version, perhaps, you could say.
What type of investor would find the 5% Floor ETF appealing?
I’d say, generally speaking, both the buffers and the floors are for investors who are willing to give up some of the upside, but they’re not willing to sacrifice downside protection. If you’ve made your money and you’re relying on this money, particularly when you’re in retirement, you’re more concerned about not losing money. And, you’re not necessarily shooting for high returns. You just have to be prepared to underperform when the markets rally quickly and hard. But, most of the time you’ll be in a position where you can be pretty happy about the returns that you’re getting.
As an investor you have to be aware of what you are giving up, as far as the upside cap level, and keep your expectations in check, right?
You have to be willing to go to a cocktail party and say, “I kept my money” you know, as opposed to saying, “I doubled my money.”
Would you say your Buffered ETFs basically create more predictability within typically unpredictable markets?
Yes, and I can tell a client that here are the parameters. Here is the upside. Here is the downside. Here is the time period. I think this is what makes sense for you, and they can say, yes or no. It makes the conversation very straightforward.
When comparing the 10% and 20% Buffered ETFs you offer, do advisors show a preference for one or the other?
There is actually a lot to address in this question. We’ve seen a lot of traction with our 20% buffers. It’s got a bit of a bond “feel” as far as the volatility in the portfolio, but it gives you an allocation that can be providing you a greater upside as long as the equity markets are going up. And it gives you a deep buffer of 20% on the downside. So, we’ve seen a lot of fixed income allocations go into this product. And we’ve also seen a lot of cash positions move into this product for that reason.
We’ve also seen assets come from equities going into our 10% buffer. And one of the reasons is that as you’re looking at the risk continuum of investing, you have the most aggressive investor, and you have the most conservative investor. If you think about going from very aggressive to a little bit less aggressive, the thinking here is that for many decades, it was an automatic, let’s move from equities into bonds. That was less obvious over the past several years. And, the question then becomes…what else could you do with your assets? So, we’ve seen a natural drift when investors and advisors want to reduce their risk exposure. Instead of moving equities into fixed income, you can move that slice of the allocation into Buffered ETFs, and the 10% buffer is not as conservative or aggressively buffered as the 20%, so the 10% buffer is a more natural landing spot for a somewhat aggressive investor who wants to dial it back a bit.
Let me ask you a question about the tax efficiency of your Buffered ETFs. Thanks to the benefits provided by the ETF wrapper, it’s really made these products attractive from a tax-efficiency standpoint. Is that also the case with your Buffered ETFs in that they typically do not distribute capital gains?
So, yes, we manage our ETFs to make them as tax efficient as possible but there’s never a 100% guarantee from any ETF issuer that they won’t distribute a capital gain. If you think about ETFs in general and compare them to, say a structured note, the note will mature. You have a definitive end point. And there may or may not be tax implications. The ETFs don’t mature. They exist in perpetuity, and you’re only taxed if you’re in a gain position and you decide to sell. The decision is in the hands of the advisor or investor, as opposed to the asset manager in this case.
Where do you think the defined-outcome space is headed?
In terms of growth prospects, we’re still at the very beginning. Structured products have been around for a very long time, but not in a liquid ETF wrapper that you can buy on your phone if you’d like! So, again, it comes back to ease of use. I think more and more retail investors and their advisors are going to see the benefits of these products and asset inflows will continue to grow as awareness continues to spread.
Actually, I’ve been surprised that the Defined Outcome ETF space isn’t larger already. We have some incredible feedback from market testing we performed back in 2019, and there is plenty of room for this market to keep growing. And, the lack of literature out there on these products is one of the reasons for the knowledge gap. You won’t find a lot written about this space in the academic world, if you will. But there is plenty written about other types of investment vehicles that invest in similar ways with structured outcomes.
In closing, as it stands now, you’re the low-cost provider for the Buffer ETF space among the larger players. Your expense ratios are 0.74% annually. And, some of your competitors are at 0.79% or higher. Does the lower cost provide a selling-point advantage for Allianz?
To some degree, yes, but a greater selling point, honestly, is the fact that we do all of this ourselves. We do this in-house. We don’t outsource any of the portfolio management or the trading. There is no sub-advisor. So that is much more important to a lot of the people that we speak to. And, having been an asset allocator myself, there is something to be said for doing business with firms that actually manage your money. And yes, we’re the lowest cost S&P 500 Buffer ETF provider among the Top 3 players in this space.
Thank you, Johan.