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Vest Protective Strategies For Downside Protection Or Yield Enhancement

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Vest Protective Strategies For Downside Protection Or Yield Enhancement

June 7, 2016

by Robert Huebscher

Vest Financial Group Inc. was founded in 2012 by Jeff Chang and Karan Sood. Vest is dedicated to serving investment advisor and brokerage firms in bringing wider access to innovative options-based strategies. Vest’s products are protection-oriented, providing investors with targeted protection, enhanced returns and a level of predictability unattainable with most other investments services available today, and include technology-powered managed account solutions for financial advisors and technology solutions for brokerage firms.

I spoke with Jeff on May 31.

Can you describe the history of Vest and its relationship with the Chicago Board of Exchange (CBOE)?

Vest Financial was founded after the financial crisis, when a lot of investors lost a considerable amount of portfolio value in the downturn, which brought to light the benefits of protection and how options can help hedge portfolios. What we did was in response to those concerns. We build products using listed securities for investors who are looking for protection.

Our commitment to providing investors with those benefits aligned our interests with an organization like CBOE, so much so that we started finding ways to work together and develop products such as indexes. There were certain synergies that we had with CBOE, so in January it took a majority stake in our firm with the idea that we both have the goal of advancing the benefits and the innovation of options.

When we founded our firm, we were looking to democratize risk-management and protection strategies that were mostly done by options specialists. Options should not just reside with option specialists. With technology and financial engineering, we believe that these benefits could be made available to all financial advisors and their clients.

You offer something called Vest Protective Strategies. Can you describe how those works?

Vest Protective Strategies seek to provide a level of downside protection for an ETF or an individual stock – securities or indexes that have listed options that trade on them. Anything that has an option that trades on it can have a Vest Protective Strategy around it.

As an example, our S&P buffer-protection strategy seeks to “buffer protect” against the first 10% loss due to a decline in the S&P 500. For instance, consider our S&P Armor 10 strategy. If the SPY ETF goes down 10%, the strategy would seek to be down zero because the first 10% drop is protected. If SPY was down 12%, it would only be down 2%. That’s the definition of buffer protection.

Notice in that situation, even if SPY was down 30%, you would only be down 20%. The idea is that from a price-return perspective in a down market, you will always outperform in a down-market scenario because you have that 10% buffer of protection.

Since there is no free lunch, how do you pay for that protection? The growth opportunity is capped. As an example, for a given year, the most you can make is 12%. If the S&P is up 10%, you are still making 10%. However, if it’s up let’s say 15%, you are only going to make 12%. This is really good for individuals, clients who aren’t looking to make 20% to 30% outsized returns in a given year. This is for when a client talks to an advisor and says, “Just don’t lose my money. I don’t want to make huge amounts of money and capital preservation is more important.”

With interest rates so low, as we’ve seen over the past couple years, combined with a large portion of the population – baby boomers who are near or at retirement – there is an increase in demand for investments that have protection but still provide some growth opportunity. A lot of times, investors have a choice. They are either going to be naked equities or low-yield fixed income. If they want to pick up more growth, let’s say in the fixed-income space, they either have to take on more credit or higher duration risk. If rates rise, they can experience losses. We are in that middle area between going completely naked equities and transitioning to low-yield fixed income.

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