About a year ago, I bought a Covered Call ETF: ZWB: BMO Covered Call ETF Canadian Banks (click here for the detail of my trade on ZWB). When I first bought it, the covered call ETF was a relatively new “financial invention” in Canada. I thought it was really interesting to have an ETF that was able to track the 6 strongest banks in the world while paying a higher dividend. At the time of the purchase, I think the dividend yield was roughly 10%.
The main goal of buying this ETF was to protect me against a potential downfall of Canadian banks while paying a great deal in dividends in the meantime. One year later, it’s time to see if this strategy has paid off or not. I believe a good investor will tell you about his good moves and sometimes about his bad moves. A great investor will analyze his trades, see if they were good or not (and why!) and take action. This is what I want to do today with the analysis of my trade.
Covered Call ETF or Pure Dividend Stocks?
In order to be fair, I took all my data from June 3rd 2011 to June 1st 2012 from Google Finance. It was an easy way for me to get the 12 month return along with dividends paid. So I started my comparison by asking myself the following question:
If I had not bought ZWB, what else would I have bought instead?
The goal here is not to double guess by looking at great graphs (we would have all taken AAPL ten years ago!). Instead of buying a covered call ETF following the 6 Canadian banks, I could have bought all of them for my portfolio and see how it went. This is why I’ve made the comparison between the 12 month return of ZWB in addition to the dividend paid and the purchase of equal shares of the 6 Canadian Banks (BNS, TD, CM, RY, BMO, NA). For those interested, I have done a stock analysis of the 6 Canadian Banks. I’ve indicated the “real dividend yield” in the dividend yield column. This reflects the dividends paid throughout the past 12 months divided by the original price of the stock back in June 2011.
Covered Call ETF Vs Dividend Stocks
| Stock | 1Yr Return | Dividend Yield | Net Return |
| BNS |
-12.91% |
3.61% |
-9.30% |
| TD |
-7.96% |
3.35% |
-4.61% |
| CM |
-12.35% |
4.55% |
-7.80% |
| RY |
-12.84% |
3.97% |
-8.87% |
| BMO |
-12.41% |
4.58% |
-7.83% |
| NA |
-10.01% |
3.69% |
-6.32% |
| Average |
-11.41% |
3.96% |
-7.46% |
| ZWB |
-16.35% |
8.06% |
-8.29% |
All right, when I look at this chart, I’m not feeling too bad: both portfolios are in the red. The 6 banks show an averaged net return (after dividend) of -7.46% while ZWB shows -8.29%. So regardless if I had bought the 6 banks or the Covered Call ETF, I would be almost at the same place. There is a 0.83% yield difference over a year. It doesn’t sound like the end of the world, but it is still huge! The purpose of the ETF was to protect my investment… well… humph…. Not quite yet!
If I want to play the devil’s advocate, I would say that buying six companies is six times more expensive than buying one security. I invested $2,025 in this product. Considering a $4.95 commission fee (Questrade anyone?), buying the 6 banks would have cost $24.75 more. $24.75 divided by $2,025 is… drum roll… 1.22% of my investment! And you have to calculate it twice since I’ll have to sell them eventually. So for this specific trade, with this specific amount, I was better off with the covered call ETF. But, it didn’t do exactly what it was supposed to do (get less hit in a down market). And the transaction fee argument doesn’t stand if I had a bigger amount to invest. Even at $10,000, I would have been better off with the individual stocks. Nothing to write home about!
Verdict: Covered Call ETF is NOT the Best Financial Product Around
I was truly excited when I discovered the covered call ETFs structure last year. I’m far from being excited now! I don’t think the covered call is a pure fiasco but it’s not an incredible product either. It’s a pretty good product for someone who’s seeking monthly revenue compared to quarterly paid dividends. But this is not a plus for me right now. Since ZWB has a more limited growth potential compared to its underlying, I’ll sell ZWB this week and check for my next trade. What do you think?
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Disclaimer: I hold shares of BNS, NA and ZWB (ZWB will be sold in the near term).
Good article Dividend Guy! I like the fact that you looked at it one year later, good or bad. I’ve had my banks for 20 years and I’ll keep them for ever, I guess.
Always great to see a ‘real life’ analysis and comparison of performance. I am a big believer in income investing, it is quite simply the common sense approach to investing. I have a different approach to most however, choosing to acquire high yield property assets and use the income to diversify into dividend stocks. this allows me to underwrite the long term capital value of my initial investment, and still allows me to reinvest in other assets every year. A different approach I know, but it worls for me. Thanks for the interesting analysis! David Garner
I bought HEX for the exact same reasons. I was attracted by the 18% yield thinking to myself that I wouldn’t hurt to invest a fraction of my portfolio as even if the price drops, the distributions will compensate or vice versa. Not only the fund dropped dramatically i.e. over 2x the indices, but the distributions were cut month after month since the fund was created a little over a year ago. What a crappy investment tool.
@Michel,
I think that my blog is pointless if I can’t even look at my own trading mistakes, right? Holding Canadian Banks forever seems to be smart 🙂 hehehe!
@Millionnaire,
I feel your pain… there is nothing better than a good old dividend blue chip!
Just used portfolio visualizer… and yep in 2024 backtesting from 2015… that covered call etf still bites
Interesting. However you might be better, given the amount invested, to take your best shot on the bank you think has the best upside, and either just hold, or write covered call options. At least if the stocks go down you keep the stock, the dividend and the premium. If they skyrocket you limit your upside. Personally, I buy for the dividends and don’t much worry about the price volatility. I just hope most never pull a Manulife, and cut the dividend. I also got out of DRIPS. I”d rather pay the extra ten bucks and time my buys.
You could have done it even easier with BMOs own equal weighted banks ETF ZEB (which makes up 44% of ZWB)
http://www.etfs.bmo.com/bmo-etfs/glance?fundId=74667
I don’t get it…how could the ZWB be below what it is made up of? or is that only part of the etf?
@Evan,
ZWB is a covered call so they do transaction with options (it’s not simply following the banks). this is probably why there is a discrepancy…
I’ve been watching this etf as well due to its high dividend. So doesn’t that dividend trump all? The yield is 8%, double any bank. Add in a drip which is monthly and I have a hard time seeing what’s not to like. That is holding blue chip banks and getting a great dividend. The only hang up i see is entry point and given the short life of the etf tricky to time. Comments Mike?
This post is a very good comparison between buy and hold the underlying vs. buying and holding ZWB but needs some additions.
A potential investor needs to consider the individual income tax implications and ETF expenses vs. buy and hold expenses.
It is hard to assess the expenses since what is published are MER from last year and a Max Management Fee. I am assuming that expenses are reflected in the market price (not in the NAV). The total is about 1.3%.
Adding capital gain/loss to the yield is only correct for non taxable accounts. For taxable accounts it is too simplistic.
To compare apples to apples one needs to assume that the investments will be sold at the end of the year in both scenarios.
If the investment is held in a taxable account then 50% of the capital gain is added to the income. Capital loss has to be deducted from the capital gain; it can not be offset by the dividend income.
Dividends are taxed differently. These dividends are eligible dividends roughly 60% of the dividend is added to income.
In the case of Covered Call ETF the proceeds of the covered call sell it is capital gain, not dividend. How many times a year are calls being written for what amounts and how many times are the underlying stocks being called. There is a hefty expense when the stock is called. The stock dividend is the same.