October has often been a fateful month for equities so this month’s equity rally has been a welcome relief. Though, with a week to go, hold off on the bubbly for now. Until there is a clear plan to resolve Europe’s sovereign debt issues market turbulence will continue.
In the meantime, many investors, queasy from the market volatility, have moved en masse to bond markets and compressed yields. Five-year Canadian investment grade bonds are yielding about 3.5% on average, and inflation, running at 3.1%, is taking a big bite out of that.
At those levels, there are dividend-paying equities that offer good income and with the possibility for capital appreciation. The main exchange traded fund for the S&P TSX 60, the XIU/TSX, pays about 2.4% currently. But let me suggest three alternatives that pay much more.
Why only three when there are nearly 300 ETFs trading in Canada? Well, most of those have few assets and are thinly traded. Most do not pay great dividends. Some that do are banks and insurance companies but those are already in people’s portfolios. Others are bond ETFs, but we’d rather have tax-advantaged dividends. Some use strategies such as covered call writing to boost payouts. Some of these are good products but right now, with markets so volatile, we are craving some plain old vanilla.
That left three ETFs and of those the iShares S&P TSX Capped REIT ETF (XRE/TSX), which we have written about extensively, is by far the biggest, with nearly $1.2 billion in assets under management and a nine-year track record.
One of the others, a Bank of Montreal product, could challenge XRE’s dominance. The BMO Equal Weight REITs Index ETF (ZRE/TSX), launched in May 2010 has about $110 million in assets.
iShares XRE holds the 13 largest REITs by market capitalization and allocates 25% of its funds to Riocan (REI.UN/TSX).
BMO ZRE holds all 13 plus another 4 smaller cap names like Crombie (CRR.UN/TSX) and Morguard (MRC/TSX). Allocations to each name, currently ranging from 3.5% to 6.7%, are rebalanced twice a year to just below 6% each.
In total, BMO ZRE has an average weighted market capitalization of $1.89 billion compared to $3.26 billion for iShares ZRE.
However, this is not a reflection of overall portfolio quality. In that, they are similar. Total portfolio debt to equity for the two is about the same at 1.31 times.
By another measure – price relative to funds from operations or P/FFO – by that measure, BMO ZRE is cheaper at about 14.8 times compared to 16.4 times for iShares XRE. FFO is net earnings with depreciation and amortization – two items that do not generally apply to REITs – added back.
Both ETFs offer a smoother ride than the S&P TSX 60, with volatility at about 13.5 versus 16.8. However, being concentrated in relatively few holdings, they are both more susceptible to firm-specific risk.
This time, BMO ZRE drew the short straw with its holding of Innvest REIT (INN.UN/TSX). Newly enforced tax laws saw Innvest shares fall 15% in July. That, combined with not being as overweight in Riocan as XRE, hurt BMO ZRE’s returns by nearly 6%.
BMO ZRE’s total return, including dividends, for the year to date was just barely positive, compared to nearly 7% for iShares XRE. However, I would expect BMO ZRE’s broader diversification to serve it well in the longer term.
The other concern for REITs is rising bank rates, though any increase is likely a long way off.
Finally, we come to the good stuff: dividends. BMO ZRE pays a dividend yield of 5.8%, compared to iShares XRE’s 5.2%. Both are far above the S&P TSX 60 and above the bond yields, especially after taxes.
There is one other higher dividend plain vanilla ETF I want to discuss, but it will come next time. Here’s a clue to its identity though: When my boys and I play Monopoly, these unloved properties can be great cash cows.
Disclaimer: archerETF may hold positions in any or all securities mentioned in this report.
Chart courtesy of Bloomberg LP.
|Benchmark||S&P TSX 60|
|52 Week High||$18.46|
|52 Week Low||$15.90|
|Avg Daily Volume||0.02 Million Shrs|
|Avg Daily Volume ($)||$0.33 Million|
|Total Market Cap||$109.44 Million|
|ETF Annual Fee||0.55%|
|ETF Trading Currency||CAD|
|ETF FX Exposure||CAD|
|Annual Volatility||Not Available|
|Correlation to S&P 500||63.1%|
|Return to Risk Ratio||Not Available|
|Use of Leverage||No|
|Use of Futures||No|
|6 month Return||-4.98%|
|1 Year Return||4.19%|
|2 Year Return||Not Available|
|3 Year Return||Not Available|
|Dividend Yield (TTM)||5.80%|
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© 2011 archerETF Portfolio Management is a division of Bellwether Investment Management, a discretionary portfolio manager registered with the Ontario Securities Commission. This report is provided for information only and does not constitute investment advice. While we believe the information to be accurate and timely, we make no claim or warranty to that effect. Please seek professional advice before making any investment decision. We may hold positions in any or all securities discussed in this report.