Are dividend stocks, preferred shares, income trusts, and REITs not fully meeting your passive income goals? With rising interest rates and an evolving yield landscape in 2025, many investors have been seeking even higher monthly income—pushing covered call ETFs further into the spotlight.

Well, the Canadian exchange-traded fund (ETF) industry has a possible solution: the covered call ETF. These ETFs use derivatives called covered calls to produce higher-than-average income potential that is usually paid out on a monthly basis.

That said, these income-boosting strategies come with added complexity—derivative overlays, option-roll timing, and strike selection all influence returns and risk exposure. If you’re considering adding covered call ETFs to your portfolio, here’s what you’ll need to know before diving in.

What is a covered call ETF?

ETFs are investment funds that hold a diversified “basket” of assets, such as stocks, bonds, or commodities. As their name suggests, ETFs trade on exchanges. When an investor buys shares of an ETF, they receive exposure to the returns and risk of the basket of assets.

A covered call strategy involves the use of options, which are derivatives that give investors the right, but not the obligation to purchase a security at a set price (the strike) at a set date (the expiry).¹ Specifically, a covered call strategy involves holding a long position of at least 100 shares in an asset (like a stock) and selling (or “writing”) a call option on the same asset.

By doing so, the investor pockets a cash premium, the size of which is dependent on factors like the time until expiry, volatility of the underlying asset, and strike price. How close the strike price is to the current market price of the asset is known as “moneyness,” and it can be in-the-money (under), at-the-money (the same), or out-of-the-money (higher).²

By selling covered calls, the call writer is potentially giving up future upside potential in return for an immediate cash premium. If the market price of the underlying asset goes above the strike price before or at expiry, the option is “in the money,” and the investor will have to sell 100 shares of the underlying stock at the strike price for each covered call contract sold.

A covered call ETF simply does all this on an investor’s behalf. The ETF assembles and manages a portfolio of assets, sells calls on a portion or all of it based on various rules, and packages it into an ETF. Investors who buy a covered call ETF, therefore, receive heightened income potential from the premiums without having to sell options themselves.  

Thu, the yield from a covered call ETF is two-fold, consisting of options premium income and dividends. As with any other ETF, covered call ETFs charge a management expense ratio, or MER, expressed in percentages. Think of this as the fee you pay annually to the ETF manager. For example, a 0.50% MER would result in around $50 in annual fees for a $10,000 investment.

Top Canadian covered call ETFs

The following Canadian covered call ETFs currently possess the highest assets under management, or AUM, as of writing:

Data accurate as of July 14, 2025

BMO Covered Call Canadian Banks ETF

ZWB offers investors in Canada’s “Big Six” banks an income-oriented alternative. The ETF holds all six of Canada’s big banks in equal weightings and then sells covered call options on them to produce increased monthly income potential in addition to the bank’s regular dividend payments. It’s currently the largest in its category, with net assets of approximately CAD 2.7 billion.

BMO Covered Call Utilities ETF

Investors looking to augment the dividends received from North American utility stocks can use ZWU for enhanced exposure. This ETF holds a portfolio of 76 utility stocks, which also include some energy stocks in the pipeline industry. Around two-thirds of this ETF’s portfolio is held in Canadian utility stocks, while the rest are from the U.S. As of Q2 2025, it manages around CAD 1.36 billion.

BMO Canadian High Dividend Covered Call ETF

For a more diversified approach to covered call investing, investors can opt for ZWC, which holds a portfolio of 93 Canadian dividend stocks augmented by a covered call overlay. Investors can therefore not only participate in the dividend income, but also earn premiums from the covered calls. ZWC’s portfolio mostly consists of financial sector companies, followed by energy, telecoms, and industrials. Its AUM stands at approximately CAD 1.24 billion.

Pros of investing in covered call ETFs

Covered call ETFs offer several advantages that have made them increasingly popular with income-focused Canadian investors:

High income potential

One of the main draws of covered call ETFs is their ability to generate high yields. By writing call options on the underlying securities, these ETFs collect option premiums in addition to dividend income. This results in significantly higher total income compared to traditional dividend-focused ETFs or fixed-income alternatives.

Monthly income

Unlike most dividend ETFs that distribute quarterly, many covered call ETFs pay distributions on a monthly basis. This frequency can be attractive to retirees or investors seeking regular cash flow for budgeting or reinvestment purposes.

Better performance in sideways or volatile markets

Covered call strategies tend to shine in flat or choppy market environments. The income from option premiums can offset limited price movement, potentially leading to better risk-adjusted returns compared to traditional equity ETFs during these periods.

Volatility reduction

The option-writing strategy inherently reduces portfolio volatility. While this isn’t a guarantee against losses, it can smooth returns and make these ETFs more tolerable during turbulent market phases.

Sector-specific strategies

Investors can target specific sectors—like banks, utilities, or high-dividend stocks—through sector-based covered call ETFs. This allows for more tailored portfolio construction while still benefiting from enhanced income.

Cons of investing in covered call ETFs

Despite their income-generating appeal, covered call ETFs also come with trade-offs that investors should carefully consider:

Capped upside potential

Writing covered calls limits the capital appreciation of the ETF. If a stock rises significantly, the ETF may have to sell it at the strike price, forfeiting further gains. Over long bull markets, this can cause covered call ETFs to significantly underperform non-optioned equity ETFs.

Higher management fees

Because of the more active nature of option writing, covered call ETFs typically have higher expense ratios than passive index ETFs. These fees can eat into returns over time, especially during low-volatility periods when option premiums are modest.

Lack of downside protection

While covered call ETFs may reduce volatility slightly, they do not shield against major downturns. During sharp market corrections or crashes, these ETFs can still suffer substantial capital losses, as the income from call options is unlikely to offset broad market declines.

Tax considerations

The distributions from covered call ETFs may be taxed less favorably than eligible Canadian dividends, depending on the source of the income and the investor’s tax situation. This makes them potentially less attractive in taxable accounts.

Complexity and tracking risk

Covered call strategies are more complex than traditional indexing, and the effectiveness of the ETF depends on how well the fund manager executes the option strategy. There may also be tracking error between the fund’s returns and the underlying index or sector it aims to represent.

Are covered call ETFs right for you?

Covered call ETFs are a very specialized ETF product best suited for investors with very specific income objectives in mind. If your goal is producing a consistent stream of monthly income without needing to sell shares, then a covered call ETF could work.

However, keep in mind that these ETFs can underperform regular ETFs over long periods of time, especially during bull markets. This is an unavoidable consequence of the covered call strategy, which basically converts future returns into present income.

Finally, keep in mind that by buying a covered call ETF, you’re still subject to the risks of the underlying assets. For example, an investor who buys a covered call ETF holding Canadian bank stocks is still exposed to the risks of investing only in bank stocks, so consider diversifying further.

FAQs

Are covered calls a good investment?

Covered calls can be a good investment for income-focused investors, especially in flat or moderately volatile markets where capital gains are limited. However, they may underperform in strong bull markets due to their capped upside potential.

Does Warren Buffett use covered calls?

Warren Buffett does not typically use covered calls as part of his investment strategy. He prefers long-term value investing and often avoids strategies that limit upside potential or require frequent trading.