ICAP - ICAP: Volatile Macro Bets Detrimental To Returns

2023-04-12 21:13:11 ET

Summary

• The ICAP ETF aims to deliver high current income from a portfolio of dividend paying stocks and call-writing strategies.
• The fund pays an annualized 8.9% distribution yield.
• Comparing ICAP to peers, it exhibits far greater returns volatility from its macro bets, including an ill-timed bet on U.S. regional banks that led to a recent plunge in price.
• Investors looking for high yielding strategies from call-writing may be better served looking at peer funds.

The InfraCap Equity Income Fund ETF ( ICAP ) aims to provide high current income from a portfolio of dividend-paying stocks and call-writing strategies.

Although the fund is marketed as 'disciplined' and 'risk management' focused, it actually exhibits greater returns volatility and makes big sector bets, including an ill-timed bet on regional banks that caused it to drop 7.5% in March. This suggests a fundamental deficiency in the fund's risk management process.

Investors looking for call-writing strategies may be better served looking at peer funds.

Fund Overview

The InfraCap Equity Income Fund ETF ("ICAP") is an active ETF that seeks to deliver high current income to investors through a diversified portfolio of dividend-paying equities. In normal market conditions, the fund will invest at least 80% of the portfolio in dividend-paying equities. The ICAP ETF may also invest up to 20% of net assets in fixed income securities of varying duration, maturity, and credit quality. The fund will also purchase and write put and call options on equity securities and indices to generate additional income, reduce market volatility or hedge against portfolio risks. The fund may also engage in short-sale of securities to hedge risks and improve portfolio returns. The ICAP ETF may also employ leverage to enhance returns, with a target of 20-30% effective leverage in normal market conditions.

Portfolio Holdings

Figure 1 shows the ICAP ETF's sector allocation as of April 10, 2023. The fund is heavily weighted towards Real Estate (29.0%), Financial Services (20.2%), and Utilities (14.2%).

Looking through the ICAP ETF's holdings , we can also see the fund has written call options on most of its equity holdings, so we should compare the ICAP ETF against peer call-writing strategies like the JPMorgan Equity Premium Income ETF ( JEPI ) and the Amplify CWP Enhanced Dividend Income ETF ( DIVO ).

Returns

Figure 2 shows the historical returns of the ICAP ETF. Investors should note that ICAP has an inception date of December 28, 2021, so it has limited operating history. As we can see, ICAP's returns have been poor since inception, with a -8.8% return in 2022 and -2.5% return YTD to March 31, 2023.

However, 2022 was a bear market where the market, as represented by the SPDR S&P 500 ETF Trust ( SPY ), returned -18.1%, so ICAP actually outperformed the market in 2022.

Unfortunately, the ICAP ETF has massively underperformed in 2023, returning -2.5% YTD to March 31, 2023 compared to a 7.5% return for the SPY ETF. Therefore, since inception, the ICAP ETF has actually underperformed the market (Figure 3).

ICAP vs. Peers

Instead of comparing ICAP vs. the market, how about comparing ICAP vs. peer high-yielding call-writing funds? Figure 3 shows the total returns of the ICAP ETF since inception, compared to the JEPI, DIVO, the Global X S&P 500 Covered Call ETF ( XYLD ) and the Simplify Volatility Premium ETF ( SVOL ).

Measured since inception, ICAP has the lowest total returns out of the peer funds. ICAP's performance took a nosedive in March 2023, as the fund returned -7.5% vs. peers which generally had positive returns in March.

What Happened To ICAP In March?

It appears ICAP's heavy exposure in financials and real estate companies was the leading cause of the fund's poor performance in March 2023. In particular, ICAP had investments in many regional banks including Truist Financial ( TFC ), U.S. Bancorp ( USB ), Regions Financial ( RF ), PNC Financial ( PNC ), KeyCorp ( KEY ), Huntington Bancshares ( HBAN ) Citizens Financial ( CFG ) and Fifth Third Bancorp ( FITB ).

As almost everyone is aware by now, March saw the failure of SVB Financial (SIVBQ) and Signature Bank ( OTC:SBNY ), which cratered regional bank share prices as investors feared the cause of SIVB's failure (deposit flight and unrealized security losses) was endemic in the U.S. banking system. Although the government's backstop of SIVB depositors stemmed immediate contagion risks, many bank stocks remain depressed as banks' cost of funding is likely to increase in order to stem deposit outflows, which will depress future profitability.

While one could argue that SIVB and SBNY's failures were 'grey swans', since it caught many investors by surprise. However, it does highlight a deficiency in ICAP's investment process whereby its large sector bet in the U.S. regional banks caused the fund to plummet by 7.5% in the month. So much for the manager's investment philosophy that is "driven by discipline, applied consistently, and centered around risk management."

From figure 4 above, we can see that large returns volatility is actually the norm for the ICAP ETF. While peer funds' returns tend to be clustered together, the ICAP ETF's return profile peaks and troughs, exhibiting far greater returns volatility. This suggest the manager is making big macro bets. Sometimes it pays off and ICAP outperforms; sometimes it does not and the fund underperforms.

Distribution & Yield

The ICAP ETF currently pays a $0.18 / month distribution that annualizes to 8.9%. The fund also pays out capital gains at the end of the year, hence the trailing 12 month distribution was $2.27 or 9.4%.

While ICAP's distribution appears attractive, investors need to keep in mind that the fund has not delivered positive total returns since inception. So although the fund's distribution yield was 9.4% in the trailing twelve months, 1Yr total returns to March 31, 2023 was actually -14.5% (from figure 2 above).

Conclusion

The ICAP ETF aims to provide high current income from a portfolio of dividend-paying stocks and call-writing strategies. While the fund is marketed as 'disciplined' and 'risk management' focused, it had actually built up large exposures in U.S. regional banks that led to an large -7.5% drop in March.

Comparing ICAP to other call-writing strategies like the JEPI and DIVO ETFs, ICAP has underperformed since inception while exhibiting greater returns volatility. This suggests poor risk-management practices.

I believe investors looking for call-writing strategies should explore those peer funds instead of ICAP.

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