These funds protect against market drops. Demand is booming

Investors seeking protection from market losses have piled into buffer exchange-traded funds — and that demand is expected to continue. The products, also known as defined-outcome ETFs, use options contracts to provide some buffer against market losses. However, they come at a cost: The average fee in 2025 was 75 basis points annually, according to Morningstar. Still, research and consulting firm Cerulli Associates predicted in November that the ETFs will grow at a 29% to 35% five-year compound annual growth rate. A more optimistic scenario anticipates the funds more than quadruple over a five-year period, reaching more than $334 billion assets under management by 2030. There was $78 billion in assets across 420 defined-income ETFs at the end of 2025, said Zachary Evens, an analyst of passive strategies at Morningstar. That’s up from the $2 billion in assets seen in 2020. “Investors and especially advisors for their more risk averse clients have been drawn to the explicit outcomes that these products can provide,” he said. “The vast array of options allows them to tailor their clients risk profile pretty finely to one of these products.” The funds have defined outcomes that are set at the beginning of the period and only apply at the end of the outcome period. For example, a January series ETF may start on Jan. 1 and end Dec. 31 each successive year. The ETFs use option contracts to shield investors from a set percentage of losses on an underlying index, typically the S & P 500 . The loss protection varies across products. For instance, an ETF can buffer against the first 10% of an index’s loss, but also cap returns past a certain point, such as 15%. For instance, iShares Large Cap 10% Target Buffer Dec ETF has a starting cap of 16.15%. It has a net expense ratio of 0.50%. TEND YTD mountain iShares Large Cap 10% Target Buffer Dec ETF year to date “If you think that we’re a little bit later in the cycle and there may be a little bit more volatility, that could be a useful tool to put into an investor portfolio,” said Daniel Loewy, chief investment officer and head of multi-asset and hedge fund solutions at AllianceBernstein. To be sure, the year has gotten off to a rocky start for stocks, which remain near highs. Certified financial planner Curtis Congdon, president of XML Financial Group, said investors in buffer ETFs don’t have to be too concerned about missing out on big upside when the market is highly valued. “We try to maintain a long-term perspective, but it’s impossible to ignore the fact that the market is trading at a very high multiple right now,” he said. “Historically, when you trade at a higher multiple, then the forward returns are more modest.” When to use buffer ETFs Congdon uses the funds for clients who want less risk than an all-equity portfolio and don’t find bonds or cash particularly appealing, although they may already have money in fixed income. They also have already saved enough money to last their lifetime and don’t need income, since buffer ETFs don’t pay dividends, he said. “They want to make sure that their investments keep up with inflation, that they have the potential to earn more than fixed income, but that they aren’t introducing huge downside potential to the allocations,” Congdon said. “They don’t want more credit risk, they don’t want more duration risk, they don’t want more interest rate sensitivity,” he added. “This is a differentiated source of return, separate from just owning a stock or bond portfolio.” PDEC YTD mountain Innovator U.S. Equity Power Buffer ETF – December year to date For Stuart Chaussée, senior wealth advisor at Lido Advisors, buffer funds are ideal for his clients who are at or near retirement. He has about 75% of the money he manages in the products. “It makes the ride a lot smoother for my clients,” he said. For instance, they may generally have 10% and 15% protection on initial losses in a buffer ETF that tracks the S & P 500 every 12 months. The protection renews every year. “With bonds, where they are now and what they’re paying — when you’re looking at typically under 4% before inflation and taxes — they don’t make much sense,” said Chaussée, author of the upcoming book, “Buffer ETFs for Dummies.” “I would rather own buffer ETFs, [which] have much higher upside, for my clients and eliminate that fixed-income portion,” he added. However, investors should be aware that the more downside protection they get, the lower the cap on returns. For instance, the iShares Large Cap Max Buffer Dec ETF offers up to 100% protection and has a starting cap of 6.3%. Chaussée called 100% buffers “overkill.” “You aren’t going to need that much protection,” he said. When investing in a buffer ETF, do so on the reset date in order to get the published outcome parameters, he advised. Young investors should think twice Advisors tend to shy away from the products for their younger clients, since the ETFs will potentially squeeze clients’ returns in very strong years. The S & P 500 returned more than 16% in 2025, some 23% in 2024 and about 24% in 2023. “For risk averse investors with long time horizons, these may not be the best way for them to achieve a more balanced risk exposure, because they limit upside and they tend to be relatively expensive,” said Morningstar’s Evens. “For that, investors might be better served by a more standard allocation portfolio of bonds and stocks made up of cheap index ETFs or cheap index funds,” he added.