There’s an ETF for That? Box Spreads

Alpha Architect 1-3 Month Box ETF (BOXX)

The Alpha Architect 1-3 Month Box ETF

puts the box spread concept into practice with a portfolio combining collateral and options. Its collateral is primarily held through the First American Government Obligations Fund (FGXXX), while the derivative overlay uses FLEX options on the SPDR S&P 500 ETF Trust

SPY

and Invesco QQQ Trust

QQQ

.

One unusual feature you'll notice on BOXX's fund page is the absence of a traditional 30-day SEC yield. That's because the fund isn't relying on interest income as its primary source of return. Instead, the relevant metric is average yield to options expiration.

This estimates the annualized return implied by the fund's recently purchased box spreads if those positions are held until expiration, before accounting for fund fees, expenses, and trading commissions. You can think of it as roughly analogous to yield to maturity for a short-term bond, except the return is being locked in through options rather than interest payments.

Over its operating history, BOXX has generally accomplished its primary investment objective, producing returns broadly comparable to one- to three-month Treasury bills while seeking to minimize taxable distributions.  However, investors should know that its record on the latter has not been perfect.

Early in its history, BOXX made a distribution of $0.2906 per share ($0.1228 in short-term capital gains and $0.1678 in long-term capital gains). The reason comes down to how the strategy was originally implemented.

At the time, BOXX primarily constructed its spreads using cash-settled S&P 500 index options. These contracts fall under Section 1256 of the Internal Revenue Code, which generally requires positions to be marked to market at year-end. The tax code treats outstanding positions as though they were sold at fair market value, crystallizing gains and losses for tax purposes even if the fund continues holding them.

Moreover, unlike ordinary securities that can potentially be transferred out through an ETF's in-kind redemption process, cash-settled options such as those on the S&P 500 Index cannot simply be handed to an authorized participant in the same manner. That makes it more difficult for the fund to use the ETF creation and redemption mechanism to remove embedded gains from the portfolio.

If the fund realizes net capital gains that cannot otherwise be offset or removed, tax rules can ultimately require those gains to be distributed to shareholders, which is what happened. BOXX subsequently changed its implementation, shifting away from its reliance on cash-settled index options toward FLEX ETF options, including contracts on SPY and QQQ.

That doesn't guarantee BOXX will never make another taxable capital gains distribution. However, the move toward physically settled ETF options should give the fund a better opportunity to use the structural tax advantages that make ETFs attractive in the first place.

Finally, despite all the complexity under the hood, BOXX is relatively affordable. The fund carries a 0.2449% gross expense ratio, reduced by a 0.05% fee waiver to a 0.1949% net expense ratio.

Calamos Tax-Aware Collateral ETF

CBOX

Competing directly against BOX is the Calamos Tax-Aware Collateral ETF

, another strategy attempting to deliver Treasury bill-like total returns through box spreads while minimizing taxable distributions. Like BOXX, CBOX constructs its box spreads using FLEX options on SPY.

Traditional listed options come with standardized contract terms. Investors choose from the strikes and expiration dates made available by the exchange. FLEX options remain exchange-listed and centrally cleared, but allow institutional investors considerably more flexibility to customize characteristics such as the strike price, expiration date, and certain settlement terms.

Tax efficiency is also central to the strategy, although the fund's name appropriately uses the term "tax-aware" rather than making any promise that distributions will be eliminated altogether. If CBOX does make distributions, they are scheduled on an annual rather than monthly basis. Investors should therefore view reduced taxable distributions as an objective of the strategy rather than a guarantee.

CBOX also has an immediate cost advantage over BOXX. Its 0.19% gross expense ratio is currently reduced by a 0.05% reimbursement, bringing the net expense ratio down to just 0.14%. Despite being a relatively new ETF, liquidity is decent, with a 30-day median bid-ask spread of approximately 0.07%.

One interesting development is how Calamos has begun using CBOX internally across its broader ETF lineup. Rather than holding Treasury bills or a government money market fund as collateral, other Calamos strategies can allocate to CBOX instead. For example, the Calamos Autocallable Income ETF

uses CBOX as the primary collateral backing its swap positions.

Please note that this article reflects the author’s personal views and does not represent the opinions of the publication or its affiliates. It is for informational purposes only and does not constitute investment advice. It is essential to seek guidance from a registered financial professional before making any investment decisions.