Warren Buffett has been remarkably candid about his own mortality, and in doing so has offered some of the best investing advice for everyday investors. Buffett instructed that 90% of his estate be placed in a low-cost S&P 500 index fund and the remaining 10% in short-term U.S. Treasury bills after his death.
It’s an intentionally simple portfolio that combines long-term equity growth with a small allocation to highly liquid, low-risk assets. While it’s admittedly light on international diversification and heavily tilted toward U.S. equities, it’s inexpensive, easy to maintain, tax efficient, and backed by decades of evidence supporting index investing.
The trade-off is that the portfolio is designed almost entirely for capital appreciation. If you’re retired and want to generate income, you’re generally left with two choices: periodically sell shares or overlay an options strategy such as covered calls. Fortunately, there’s a third option.
By swapping Buffett’s underlying investments for a pair of ETFs from NEOS Investments, it’s possible to maintain the same 90/10 split between the S&P 500 and short-term Treasury bills while generating a weighted average distribution yield of roughly 11.26%. The trade-off is giving up some upside potential in exchange for substantially higher cash flow.
NEOS S&P 500 High Income ETF (SPYI)
The NEOS S&P 500 High Income ETF (SPYI) serves as the portfolio’s equity allocation. Rather than simply owning the S&P 500, SPYI combines a portfolio of large-cap U.S. stocks with an actively managed options strategy that both buys and sells SPX index options. Using index options instead of options on individual ETFs creates several potential tax advantages within the fund.
Because SPX options are Section 1256 contracts, gains generally receive the favorable 60/40 tax treatment, with 60% taxed at long-term capital gains rates and 40% at short-term rates regardless of the holding period. The managers also actively harvest tax losses, allowing a large portion of distributions to be classified as return of capital. Return of capital generally isn’t immediately taxable, instead reducing an investor’s adjusted cost basis until the shares are eventually sold.
After deducting its 0.65% expense ratio, SPYI currently offers an 11.99% distribution yield based on its most recent monthly distribution. Performance has also held up reasonably well for a covered call strategy. Over the trailing three-year period, SPYI generated an annualized total return of 11.50%, compared with 12.11% for the CBOE S&P 500 BuyWrite Monthly Index. Investors should remember, however, that both significantly trailed the standard S&P 500, which returned 20.61% annually over the same period.
NEOS Enhanced Income 1-3 Month T-Bill ETF (CSHI)
Buffett’s original allocation calls for short-term Treasury bills, but there’s a way to potentially enhance that income as well. The NEOS Enhanced Income 1-3 Month T-Bill ETF (CSHI) begins with a portfolio of one- to three-month U.S. Treasury bills while adding a data-driven put spread strategy using SPX index options. After deducting its 0.30% expense ratio, the fund currently offers a 4.71% distribution rate with monthly payouts.
Investors should recognize that CSHI is not a substitute for simply owning Treasury bills. The options strategy introduces additional risk, and during sharp equity market declines the fund can experience losses that a traditional T-bill ETF would likely avoid. So far, however, the strategy has delivered encouraging results. Over the trailing three-year period, CSHI produced a 5.43% annualized net asset value total return, outperforming the Bloomberg U.S. 1-3 Month Treasury Bill Index’s 4.74%.
Putting the Portfolio Together
Allocating 90% to SPYI and 10% to CSHI produces a weighted average distribution yield of approximately 11.26% using the funds’ most recent distribution rates. As always, those yields can change over time as option premiums, interest rates, and portfolio distributions fluctuate.
Investors should also keep their expectations realistic. This version of Buffett’s famous 90/10 portfolio may very well underperform his original recommendation over the long run. SPYI’s covered call strategy naturally caps part of the market’s upside, while both ETFs carry higher expense ratios than a simple index fund and Treasury bill allocation.
But if your primary objective is generating income rather than maximizing long-term capital appreciation, I think it’s an interesting adaptation. You still maintain broad exposure to the S&P 500 and short-term Treasuries while outsourcing the income generation to professionally managed options strategies instead of having to write covered calls yourself.
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