Join Fund Library now and get free access to personalized features to help you manage your investments.
A reader recently asked about bank-based ETFs with low MERs, namely the Hamilton Canadian Bank Mean Reversion Index ETF (TSX: HCA) and the RBC Canadian Bank Yield Index ETF (TSX: RBNK). He noted that Hamilton offers a 1.25x leveraged version of its bank fund with a 0.65% MER (TSX: HCAL). What, he asked, is my opinion of these funds compared with my existing recommendations of BMO Equal Weight Banks Index ETF (TSX: ZEB) and the BMO Covered Call Canadian Banks ETF (TSX: ZWB), and CI Canadian Banks Income Class ETF (TSX: CIC).
The short answer is they’re all good and are currently generating outstanding returns. But let’s delve into this more deeply.
We’ll start with HCA. What does “mean reversion” mean exactly? The company’s website describes it in this way:
“Mean reversion is one of the most popular themes in Canadian bank investing, given the individual Canadian banks have tended to perform similarly over time. HCA attempts to take advantage of these tendencies by rebalancing the portfolio monthly and investing 80% of the portfolio in the 3 banks which have recently underperformed, and 20% in the 3 banks which have outperformed.”
Does it work? Yes, in the sense the return looks impressive. The one-year gain to Sept. 30 was 45.1%. We don’t have any more history to work with because the fund was only launched in 2020.
As for HCAL, it has only been around since last October, so we don’t even have one year of results yet. It’s designed to provide higher yields by leveraging and the website says the current yield is 5.24%. That’s impressive, but we don’t have enough history to know if it’s sustainable.
By way of comparison, looking at bank ETFs with a longer history, the BMO Equal Weight Banks Index ETF (TSX: ZEB) gained 43.3% over the same period. It has an average annual compounded rate of return of 11.8% over the past decade.
The BMO Covered Call Canadian Banks ETF (TSX: ZWB) returned 34.0% over one year to the end of September. It also has a much longer history than the Hamilton entries, with a 10-year average annual compound rate of return of 9.8%.
The Royal Bank entry has the best one-year record, with a gain of 44.5% to Sept. 30. Not many people are aware of it, so here are the details.
RBC Canadian Bank Yield Index ETF (TSX: RBNK)
Type: Exchange-traded fund (ETF)
Current price: $24.82 (Oct. 1, 2021)
Annual payout: $0.86
Risk: Moderate
The security: This ETF invests in a portfolio of the top six Canadian banks. There are no other bells and whistles, like covered call writing or leveraging.
Why we like it: Performance. The fund has produced excellent results over all time frames since its launch in 2017. As well, we expect to see a big jump in dividends when the Office of the Superintendent of Financial Institutions lifts the ban on increases it imposed at the start of the pandemic.
Portfolio: The investment strategy is to invest in the constituent securities of the Solactive Canada Bank Yield Index in substantially the same proportion as they are reflected in the index.
The weighting may surprise many readers. About one-quarter of the portfolio (25.1%) is in Bank of Nova Scotia, the weakest performer among the Big Six banks in recent years. Almost the same percentage (24.8%) is in CIBC, so together those two banks account for almost half the fund’s assets.
The rest of the portfolio consists of Bank of Montreal (16.8%), TD Bank (16.7%), Royal Bank (8.4%), and National Bank (8.3%). That’s not the kind of mix most people might expect but it works.
Risks: Bank stocks have moved sharply higher in recent months as the economy recovers and commercial interest rates edge higher. That trend could reverse if a new coronavirus variant develops that is able to break through existing vaccines, thereby forcing new economic lockdowns. That in turn would slow economic growth and probably reverse the rate trend, both bad news for banks.
Key metrics: The fund was launched in October 2017 and if quite small compared to its BMO peers, with only $174 million in assets under management. By contrast, ZEB has $2.1 billion in assets and ZWB has $2.3 billion.
RBNK has a better three-year average annual compound rate of return than the BMO entries, at 10.8% to Sept. 30, compared with 10.6% for ZEB and just over 7.9% for ZWB. The low MER of 0.33% contributes to its outperformance.
Distribution policy: The fund makes monthly distributions of about $0.07 a unit. The amount varies slightly from one month to another.
Tax implications: Most of the distributions (90% in 2020) are received in the form of dividends and are eligible for the dividend tax credit in non-registered accounts. The rest are received as capital gains or return of capital.
Who it’s for: This is a good choice for those who want to devote a section of their portfolio to the Canadian banking sector but don’t want to make decisions on which stocks to buy.
How to buy: Trading volume can be low (sometimes less than 10,000 units a day), so enter a limit order and be patient.
Summing up: Talk about hidden gems! Most investors haven’t discovered this fund yet. All the Canadian bank funds are generating good returns, but on balance, if you are choosing just one right now, I’d opt for RBNK. Consult with your financial advisor before investing to ensure the ETF fits with your risk tolerance and asset allocation strategy.
Gordon Pape is one of Canada’s best-known personal finance commentators and investment experts. He is the publisher of The Internet Wealth Builder and The Income Investor newsletters, which are available through the Building Wealth website.
Follow Gordon Pape on Twitter at https://twitter.com/GPUpdates and on Facebook at www.facebook.com/GordonPapeMoney.
Notes and Disclaimer
© 2021 by The Fund Library. All rights reserved. The foregoing is for general information purposes only and is the opinion of the writer. Securities mentioned carry risk of loss, and no guarantee of performance is made or implied. This information is not intended to provide specific personalized advice including, without limitation, investment, financial, legal, accounting, or tax advice. Always seek advice from your own financial advisor before making investment decisions.
Join Fund Library now and get free access to personalized features to help you manage your investments.
Fund Library
