YieldMax TSLA Option Income Strategy ETF (NYSEARCA:TSLY) is an interesting fund that seems to polarize people. On one side it offers a dividend distribution yield of 60%, on the other side its share price is down almost by half since inception. In my first article covering this fund titled TSLY: Know What You Are Buying I tried to explain how the fund works and what conditions it would perform the best or worst and in my second article titled Jury Is Still Out On TSLY I suggested perhaps doing a 50%-50% mix of TSLA and TSLY for better results which I still hold.
Most people think that the worst case scenario for a covered call fund is when a stock keeps constantly going up because you miss out on big gains. Others think that the worst case scenario is when your stock keeps dropping because your initial investment will suffer. In fact, the worst case scenario for a covered call fund is a W-shaped market because its NAV can quickly decay in these up-down-up-down markets as it participates in most downside moves but not in most upside moves.
Think of a scenario where you buy a stock for $100 and write covered calls against it at $105 and collect $3 in premiums. If the stock remains flat you earn $3, if it rises, you make a maximum profit of $8 but nothing beyond that ($5 in capital appreciation plus $3 in premiums), and if the stock drops, you suffer all losses minus $3 for the premium you’ve collected. Let’s say in this scenario the stock drops to $75 which means you’ve lost $22 in your trade. Next month you write covered calls at $80 for another $3 premium but this time the stock fully recovers again and climbs back to $100. You only participated in $8 of this $25 upside movement even though you had participated in $22 of the $25 downside. Repeat this movement enough times and your NAV starts decaying even with underlying stock not moving down much.
Unfortunately, this is what’s been happening with TSLY because its underlying stock Tesla (TSLA) has been in a rather W-shaped market. Since TSLY’s inception, TSLA is actually up close to 30% but TSLY’s share price (and NAV) is down -44% while its total return (after reinvestment of all dividends) is down -2.36%.
To be honest, the fund didn’t have luck on its side from day 1. Literally days after the launch of the fund, TSLA stock started crashing which took it down about 41% in the coming weeks. Because it collected premiums from covered calls TSLY dropped slightly less than TSLA during this period.
Then came TSLA’s quick recovery and ascend. From January to July, TSLA climbed more than 160% from its bottom. TSLY participated in some of this upside but not all. When TSLA was down -40%, TSLY was down -33% but when TSLA was up 161%, TSLY was only up 88%.
Then came TSLA’s second fall from July to October. This time TSLA dropped by almost -30% and TSLY participated in all of this fall as it also fell by -29.4%. Selling covered calls didn’t seem to protect the fund from falling this time.
Then TSLA bottomed on October 26th and started rallying again. Since then TSLA is up almost 20% while TSLY is up about 9%.
When you have a violent W-shape movement in the underlying, it can really hurt a covered call fund’s performance. You get to participate in most downside but not most upside which causes a lot of NAV decay. So far, we haven’t seen this problem with other YieldMax funds because their underlying stocks didn’t have this problem.
You might think “I don’t care about NAV decay as long as those rich dividends keep coming in” but even dividends have been on the decline. When the fund first launched its NAV was at $20 and its monthly dividend distributions were close to $1. Now they are down to $0.58 because the NAV is down to $11. Whether you care about NAV decay or not, it will affect you and your income because income is generated from NAV and it will shrink if NAV shrinks. If you bought TSLY at the inception at $20, your original annualized distribution yield would have been close to 60% but now it would have been 35% based on the latest dividend. Of course, it would have been above 50% if you reinvested all your dividends but I thought the whole point of this fund was to generate income and if you are just going to reinvest all your distributions back, you might as well buy and hold TSLA for better results.
There is a part of me that can’t help but wonder if the fund’s management is “too active” in its active management approach. A couple weeks ago when TSLA was at $225 they had a covered call position with a strike price of $225. Then TSLA quickly dropped to $215 and they moved this covered call position to $217 on the next day. A few days later TSLA recovered back to $235 and the fund missed out on this upside because the management was too quick to adjust their position downwards.
At least now we have one more fund whose performance we can compare against TSLY’s. Recently, Kurv Investment launched new ETFs that look like copycats of YieldMax ETFs but there are some differences. One of these funds is Kurv Yield Premium Strategy Tesla (TSLA) ETF (TSLP). This fund uses a simulated covered call strategy very similar to TSLY’s but instead of writing weekly calls and adjusting it on a daily basis, it writes covered calls once a month and holds them until expiration. There is less active management involved and the dividend yield is smaller (about 25-30% as opposed to TSLY’s 50-60%) but it seems to hold up better in terms of NAV preservation and total returns. Mind you that this fund is very small and recently launched, so it’s too early to say whether it’s better or worse than TSLY but early results are worth a look as it captured more of TSLA’s recent rally as compared to TSLY.
If it tells us one thing, maybe TSLY’s management style is too active and maybe it is hurting the fund that they are constantly adjusting their positions up and down on an almost daily basis. TSLY has also been unfortunate because there is nothing worse than a violent W shaped market for a covered call fund and Tesla’s stock has been in a violent W shaped movement since inception of TSLY.
Buying covered call funds is not always a bad idea and it can offer decent additional income for your portfolio but you need to be realistic about what you are buying and what kind of returns you are expecting from these funds. Just because a fund offers 50-60% distribution yields doesn’t mean you can just buy it and get rich quickly because you will lose a good portion of it to NAV and your net gains will be much smaller. In the long run, pairing TSLY with TSLA will probably give you better results than simply holding TSLY. You can also pair TSLY with TSLP and try to get a mix of both approaches used by the two funds.
Another approach you can take is buy equal amounts of each YieldMax fund so that you are diversifying and you are not at the mercy of one stock. If you bought $1,000 worth of each YieldMax fund your distribution yield would be closer to 25% but your NAV decay would be minimal and your total returns would be better. You can also pair it with QQQ since underlying stocks of most YieldMax funds happen to be the largest holdings of QQQ anyway. It is currently difficult to compare and contrast total performance of each YieldMax fund because they all launched at different dates but you can compare their NAV performance since they all launched at exactly $20 NAV. If one’s total return NAV is currently above $20, it means it’s on the positive, if it’s below $20, it means it’s not. You can see below that most YieldMax funds are doing well so far since their total return NAV is above $20.
I personally hold a small amount in all YieldMax funds as well as Kurv funds but none of these positions are more than 1% of my portfolio. I’ll continue to hold them and reinvest dividends and see where they take us.