Going Forward

For more details on how to create "synthetic bonds", including the one described involving SPY, just send me an email at the address below.

In many cases, I can assist pro bono. However, if your exposure to or experience with the necessary derivative instruments has been minimal, there may be a fee involved.

Assistance will typically involve teaching you how to execute the necessary transactions online by yourself...or with your existing broker...or by authorizing me to do the trades for you.*

In any case, good luck in your search for income in today's difficult environment!

All the best...

James Terry

Financial Resolutions, LLC

Scottsdale, AZ


* Please note: 

I am officially "retired" and no longer a registered investment advisor. 

You are encouraged to confirm anything you have read on this site with other financial experts. Everything stated on this site is the responsibility of Financial Resolutions, LLC, and is based on sources believed to be accurate but cannot be guaranteed. 








Synthetic Bonds

 "Synthetic Bonds"  are typically combinations of derivatives and other non-bond instruments which can generate a predictable rate of return over a specified period of time, and which "mature" with no loss to their original principal value. These combinations can be structured with maturities from 1 week to several years.

Following is one example. 

Turning the S&P 500 Into a "Synthetic Bond"!

 First, let's remember the headlines on the previous page. 

There appears to be a reasonable possibility that conventional interest rates in the U.S. could be heading lower, and that income producing instruments such as T-bills, CDs, money market funds and the like could even approach ZERO or go negative, as they have in other countries. Even if they don't, it makes sense to have an alternate strategy, particularly if it can preserve and perhaps even increase income going forward.

So let's consider the S&P 500 and one of the world's largest ETFs that tracks that index: Symbol: "SPY".

SPY collects all of the dividends generated by the companies in the index and after a minuscule management fee pays them out to the ETF's shareholders as quarterly dividends. 

These dividends are NOT heading toward zero! Rather, they typically INCREASE each year, with those annual increases averaging approximately 7% - 8% in recent years! *

Assuming that the dividend to be paid in October, 2019, will be about 8% higher than the October, 2018, dividend of $1.323 a share, the dividends actually paid out in calendar 2019 should total about $5.52 per share. That suggests that the 2020 dividends could be expected to increase perhaps another 8% to about $5.96.

Based on a recent average price of 285 for SPY, that would represent a yield next year of 2.09%, which compares favorably to other very safe interest paying instruments like the 10-year Treasury whose yield recently declined to 1.60%. That advantage could become even greater on an after tax basis.**

But, of course, SPY is not a bond! Buying the ETF by itself simply to get that dividend could result in substantial losses if the S&P declined!

So what we do is utilize a combination of derivative instruments along with SPY to create a "synthetic bond" that not only captures SPY's increasing dividends each year, it eliminates any market risk and could increase the annualize yield to 2.75% or higher.

It is also possible that the derivative components themselves will add some additional income to the synthetic bond over and above the SPY dividends. 

Finally, both the SPY dividends and any additional income from the derivatives may get a more favorable tax treatment  that conventional interest paying instruments do not receive. **

Bottom line: The pre- tax returns from the "synthetic bond" already exceed those of Treasurys, CDs and other "safe" interest paying instruments. The after-tax advantage could be even greater. ** In addition, the payouts from the former can reasonably be expected to increase in most years, while yields from the latter could continue to decline.

A final thought: If the current line of thinking turns out to be wrong and interest rates for whatever reason start to rise again, the synthetic bond is in a perfect position to take advantage of that.

Since the "bond" can be structured with any "maturity" and still earn the same increasing SPY dividends, the investor can simply keep creating short term "bonds"...e.g., 2-3 months in that he will always be in a position to switch to higher yielding conventional interest-paying investments should that situation arise. 


* During the greatest financial debacle since the Great Depression, SPY's dividends declined slightly year-to-year in 2009 & 2010, before resuming their uptrend. Should the U.S. move into another serious recession with interest rates in their current state, it is likely that the Fed might have to take rates to ZERO or lower. SPY dividends, however, would still be positive.

**  A 15% long term capital gains rate on the dividends may be possible. Any additional income generated by the the derivative components may be taxed as 60% long term/40% short term capital gains. Consult your tax advisor.