© Pmmrd / Shutterstock.com
Covered call ETFs took less than two years to start dominating headlines due to the prolonged tech rally. ETFs like the JPMorgan Equity Premium Income ETF (NYSEARCA:JEPI), JPMorgan Nasdaq Equity Premium Income ETF (NASDAQ:JEPQ), and Amplify CWP Enhanced Dividend Income ETF (NYSEARCA:DIVO) have ballooned.
And why wouldn’t they? The tech rally made it so that they gave you the best of both worlds. You got exposure to dozens of tech stocks that kept on winning, and a double-digit dividend yield with a monthly distribution frequency.
All that said, this setup only wins when the market is doing well. 2026 may end up being the reckoning of the AI rally, and you don’t want to be holding the wrong ETFs.
Why these ETFs are dangerous
The issue with covered call ETFs is that they are essentially turning the rally into a dividend yield, and then keeping their cut through fees. There’s nothing revolutionary here.
Thus, when the tech rally eventually stalls and reverses (as with any rally), you’re going to face problems. Covered call ETFs are not to be held for the long run. Once the market pulls back, so will these ETFs, but the capped upside will not let you recover quickly. Most of these ETFs have struggled to recover to even their 2021 peaks. Only investors reinvesting that dividend yield have made a full recovery, which defeats the whole purpose of buying these ETFs in the first place.
What’s worse is that when you invest in these ETFs, it can fool you. Many investors have their portfolio organized so that dividend ETFs and growth ETFs are kept separate. Since these covered call ETFs advertise themselves as dividend ETFs, it’s easy to get misled into ruining your dividend portfolio by placing these in the same bucket. You should remember that most covered call ETFs hold tech or growth stocks.
Let’s say investor “A” has 50% of his portfolio in a pure Nasdaq-100 ETF and 50% in JEPQ. He thinks he has a 50/50 split between growth/dividends.
The reality is that he’s 100/0 between growth/dividends.
Your true dividend portfolio (one with little to no tech exposure) must be accounted for separately. Otherwise, you’re in for a world of pain when a 2022-esque tech selloff begins.
Who should buy them
If you’re an investor who does not have time left for “compound over decades” to work, covered call ETFs are a great way to get money while staying invested in something that moves up.
If you’re going to be drawing from your portfolio for just a decade or so, and you genuinely believe this tech rally is durable, covered calls are meant for you. That said, this is a risky bet, and you should make sure you still have some sort of fallback to recover to, just in case the tech rally does not last.
These ETFs also work for the retiree or near-retiree who has already won the accumulation game. Covered calls are good if you are sitting on $2 million and your primary anxiety has shifted from “how do I grow this?” to “how do I live off this without selling shares at the wrong time?”
Most ETFs do not give you both a double-digit dividend and pay it monthly. Those that do tend to just move sideways. Thus, having a vehicle that does this is quite useful for late-stage retirees or very rich retirees.
But if you are not in any of those buckets, don’t worry. There’s one covered call ETF that does work for everyone, and I have mentioned it before in this article.
The one ETF that you should buy: DIVO
The Amplify CWP Enhanced Dividend Income ETF is the only major ETF that does not lean fully into covered calls. Instead, it uses those covered call options selectively. Only 20-30% of DIVO’s portfolio is selling covered calls at a time, with the rest of the portfolio fully capitalizing on the upside.
Moreover, DIVO holds the right stocks for the current environment. It has a concentrated portfolio with just 13.51% of holdings being in tech. The rest are cash cows with a long history of paying rising dividends. It does have financial exposure at nearly 23%, but these are big banks and companies like Visa (NYSE:V).
DIVO is up 12% in the past year and comes with a 6.37% dividend yield distributed monthly. It’s a unique and, in my opinion, superior way to make use of covered calls.