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Smith Manoeuvre/Dividend Portfolio Update – July 2013

For those of you just joining us, listed below is my portfolio that is leveraged with money borrowed from my home equity line of credit (HELOC). As the money borrowed is used to invest, the interest charged is tax deductible. I write an update every so often to show new positions added along with any market gains/losses. For more details on the strategy and procedure, check out my modified smith manoeuvre strategy and my comparison of online stock brokers.

It has been about five months since the last update (February 2013) with a bit of activity in the leveraged portfolio.  I added to a a number of existing positions along with initiating four new positions.

I added to existing positions:

  • Enbridge (ENB),  Mullen Group (MTL), Calfrac Well Services (CFW), Finning International (FTT) and Bird Construction (BDT).

New positions were initiated with:

  • Imperial Oil (IMO), Potash Corp (POT), Emera Inc (EMA), and BCE Inc (BCE).

Since this portfolio is focused on dividend growth stocks, which dividend paying companies increased their distributions since the last update?  I’m happy to report that several companies did, particularly the bank stocks.  In my portfolio, dividend increases came from:

  • Royal Bank, CIBC, Scotia Bank, Bank of Montreal, TD Bank, Rogers Communications, George Westin, Pason Systems, Finning International, SNC Lavalin, and Bird Construction.

My dividend watch list remains similar where I am looking to increase my positions in TRP, BMO, TD, FCR and possibly add new positions in TMX Group (X), Cineplex (CGX),  Canadian National Railway (CNR), Bell Aliant (BA), Shoppers Drug Mart (SC) and Indigo (IDG) when/if their valuations become attractive.

The Smith Manoeuvre Portfolio as of July 8, 2013 (prior to open) – note that any changes to the portfolio are indicated in bold.

Stock Symbol Shares Avg Buy Price Total Div/Share Yield
Royal Bank RY.T 100 $48.39 $4,838.99 $2.52 5.21%
CIBC CM.T 45 $67.14 $3,021.25 $3.84 5.72%
Power Financial PWF.T 155 $32.11 $4,976.64 $1.40 4.36%
Scotia Bank BNS.T 105 $41.91 $4,400.52 $2.40 5.73%
Manulife Financial MFC.T 125 $33.12 $4,139.48 $0.52 1.57%
Fortis Properties FTS.T 150 $25.63 $3,843.98 $1.24 4.84%
TransCanada Corp TRP.T 100 $33.50 $3,349.74 $1.84 5.49%
AGF Management Limited AGF.B.T 50 $22.71 $1,135.49 $1.08 4.76%
Bank of Montreal BMO.T 25 $44.17 $1,104.24 $2.96 6.70%
Husky Energy HSE.T 135 $32.53 $4,391.27 $1.20 3.69%
TD Bank TD.T 50 $48.24 $2,412.23 $3.24 6.72%
Enbridge ENB.T 130 $28.39 $3,690.38 $1.26 4.44%
TransAlta TA.T 50 $21.47 $1073.49 $1.16 5.40%
First Capital Realty FCR.T 162 $9.71 $1,574.64 $0.84 8.65%
Canadian Utilities CU.T 100 $18.20 $1,819.99 $1.94 5.33%
Ensign Energy Services ESI.T 200 $14.98 $2,995.98 $0.44 2.94%
Mullen Group MTL.T 200 $17.98 $3,596.97 $1.20 6.67%
Rogers Communications RCI.B.T 100 $34.39 $3,439.48 $1.74 5.06%
George Westin Ltd WN.T 50 $68.64 $3,441.99 $1.66 2.41%
Pason Systems PSI.T 200 $13.97 $2,793.98 $0.52 3.72%
Corus Entertainment CJR.B.T 100 $19.87 $1,996.99 $0.96 4.81%
Thompson Reuters TRI.T 90 $33.40 $3,006.18 $1.30 3.89%
Brookfield Properties BPO.T 150 $16.01 $2,401.23 $0.56 3.50%
Canadian Pacific Railway CP.T 30 $54.23 $1,626.99 $1.40 2.58%
Canadian Oil Sands COS.T 150 $19.14 $2,871.48 $1.40 7.31%
Leons Furniture LNF.T 200 $12.06 $2,412.98 $0.40 3.32%
Encana ECA.T 100 $18.82 $1,881.99 $0.80 4.25%
Transcontinental TCL.A.T 200 $11.32 $2,263.98 $0.58 5.12%
Calfrac Well Services CFW.T 150 $24.24 $3,635.98 $1.00 4.13%
Baytex Energy Corp
BTE.T 35 $42.98 $1,504.14 $2.64 6.14%
Finning International FTT.T 200 $22.95 $4,589.98 $0.61 2.66%
SNC Lavalin Group SNC.T 50 $38.55 $1,927.49 $0.92 2.39%
Crescent Point Energy CPG.T 50 $37.13 $1,856.49 $2.76 7.43%
Bird Construction BDT.T 250 $13.12 $3,280.98 $0.76 5.79%
Calian Technologies CTY.T 100 $20.88 $2,087.99 $1.12 5.36%
Imperial Oil IMO.T 50 $42.81 $2,140.49 $0.48 1.12%
Potash Corp POT.T 50 $40.13 $2,006.49 $1.40 3.49%
Emera Inc EMA.T 50 $32.27 $1,613.49 $1.40 4.34%
BCE Inc BCE.T 50 $41.68 $2,083.99 $2.33 5.59%

More Stats

  • Total Cost Base of Equities (inc. fees): $107,230.06 (vs. $91,652.20)
  • Market Value of Equities (not including dividends or cash): $124,043.60 (vs. $109,586.40)
  • Total Dividends / Year: $4,977.72 (vs. $4,212.34)
  • Portfolio Dividend Yield: 4.64% (vs. 4.60%)

Sector Allocation (based on market value)

  • Financials:  23.04% (vs. 26.42%)
  • Utilities:  8.57% (vs. 8.58%)
  • Energy:  32.94% (vs. 31.28%)
  • Resources:  0.00% (vs. 0.00%)
  • Real Estate:  4.42% (vs. 5.14%)
  • Consumer/Telecom:  13.82% (vs. 14.12%)
  • Other: 17.21% (vs. 14.45%)

Common Questions:

Why the high concentration in financials and energy?

With regards to sector allocation, you may notice that this portfolio is fairly concentrated in financials and energy.  Note though that this is one of my accounts where I treat all of my accounts as one big portfolio.  In other words, my international and other sector equity exposure are in other accounts.

Why don’t you use a dividend ETF instead?

Couple of reasons, first, most Canadian dividend ETFs hold stocks that distribute return of capital which can affect the tax deductibility of the investment loan.  Second, the MER eats into the dividend.  I keep the expenses in this portfolio very low through buying but rarely selling.

Should I start the Smith Manoeuvre?

There have been a lot of readers who have mentioned that they are interested in a leveraged portfolio.  Over the long term it may be lucrative.  However, over the short term, equities are volatile and can put the portfolio deep in the red.  My portfolio during 2008 is a prime example of what can happen.  If you can’t stomach losing 20-30% in the portfolio in any given year, then your risk tolerance isn’t suited for leveraged investing.  Here is an article I wrote answering a reader question “Should I Start the Smith Manoeuvre?”

Disclaimer: The securities mentioned in this post are not recommendations to buy or sell and should be used for informational purposes only.

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FT About the author: FT is the founder and editor of Million Dollar Journey (est. 2006). Through various financial strategies outlined on this site, he grew his net worth from $200,000 in 2006 to $1,000,000 by 2014. You can read more about him here.

{ 24 comments… add one }
  • Evan July 8, 2013, 8:34 pm

    I also increased/started positions in BMO, BNS, BCE.
    I like PRE now. They are paying 3.7% div after increasing it 50% in June. Lots of growth potential as well.

    For a 125K portfolio, I think your number of stocks is quite high.

  • Jared July 9, 2013, 12:40 am

    I would I agree with Evan that the number of stocks seems very high for the portfolio size. My SM portfolio is about twice the dollar value in size but contains half as many stocks.

    Do you feel that diversification to this level is necessary or is there another reason for the high stock number?

  • FT FrugalTrader July 9, 2013, 9:16 am

    Yes, you guys are right, there are quite a number of positions. I am hoping to increase the size of each position going forward as the watch list is growing thin!

  • Sampson July 9, 2013, 11:24 am

    I agree with the others about the expansion of the portfolio to 39 holdings, and that is only Canadian holdings. If you are picking individual stocks to cover other geographical regions, you must have a total portfolio of 60-100 stocks?

    I think you need to serious trim holdings, or possible use alternatives. For example, there is no need to hold all 5 major Canadian banks, not exactly sure what benefit you derive since I”m sure the correlation amongst these 5 is extremely high, maybe 2, or 3 of these at max, or just hold a fund or ETF tracking Canadian financials.

    I think one of the major benefits of holding individual stocks is the concentration potential for increased returns over an index. You are also definitely beyond the ‘efficient frontier’ for minimizing risk.

  • The Passive Income Earner July 9, 2013, 1:02 pm

    I also just added Potash to my holdings. The value and yield on Potash could not be passed on. It’s not a huge position but I felt it was a good addition.

    Do you rebalance between them?

  • Dan July 10, 2013, 7:17 pm

    FT, I am curious as to your interest in IDG. It looks like the dividends havent increased in a few years, P/E is about 68, it is near a 52 week high and the payout ratio is over 200%. I am no expert here – am I missing something?

  • FT FrugalTrader July 10, 2013, 8:21 pm

    Hi Dan! You are right, it is way too pricy right now. I’d be interested if there was a big sell off. I like that it has a book presence monopoly in Canada. However, I did not notice the high payout ratio, thanks! I will review and likely remove from my watch list.

  • Evan July 18, 2013, 12:32 pm

    FT,

    Small request. Can you organize your table with the company name or ticker in alphabetical order?

  • Dan July 24, 2013, 11:28 am

    FT,

    Just wondering why you don’t concentrate your portfolio a little more to reduce costs and increase your ability to monitor the businesses you own. I’m an investment professional so I get the whole MPT and diversification argument but I think you can (and some research has shown) that you can get very high levels of diversification with as little as 10 or 15 stocks. This would also allow you to allocated more capital to your best ideas and should in theory increase your expected return, both in terms of capital appreciation and income.

    DH

  • Dan July 24, 2013, 11:31 am

    Also to add to the comment above – for full disclosure I am employed by one of the companies in your portfolio. That being said the aim of my comment was not to advise you to allocated more of your capital to the company I work for (or advise you in any other way for that matter) but rather to understand your rationale for holding ~40 companies in your portfolio.

  • FT FrugalTrader July 25, 2013, 2:58 pm

    @Dan, you are right in that I have too many positions. I plan on consolidating over time, or at least stop adding new positions (at least in Canadian stocks) and only building on existing positions. 10-15 stocks would be uncomfortable for me, I would say ideal is in the 20-25 range.

  • Jay July 28, 2013, 8:18 pm

    Great read as always.

    Have you considered DRIPS vs cash for this portfolio? Excellent way to increase the number of shares in your portfolio for free.

    Keep up the great work.

    J

    • FT FrugalTrader July 28, 2013, 8:27 pm

      @Jay, thanks for the kind feedback. I have considered DRIPs, but decided against it as this is a non-registered portfolio, and I would need to track the adjusted cost base every time new shares are purchased. I’d rather collect the cash and choose for myself which shares to buy in bulk.

  • Emilio August 12, 2013, 2:55 pm

    Hi FT,

    I am very interested to know when is BMO’s valuation attractive.
    Their P/E ratio is only higher than CIBC (when looked at the major five banks)

    What’s a good entry point into BMO considering today’s market?
    I know this is relative for everybody, but I do value your qualified opinion.

  • FT FrugalTrader August 12, 2013, 4:01 pm

    @Emilio, thanks for the vote of confidence! I’m not qualified to recommend when to buy, but for me, it would be attractive at a yield greater than 4.8%. For example in June it reached 5% before buyers rushed in. However, if you are buying for the long term, you could consider initiating your position now (like 1/3 or 1/2) and buying more if it gets cheaper. Some food for thought!

    Are you considering buying into this pull back?

  • Dan September 6, 2013, 2:29 am

    Maybe I’m missing something here. If someone is starting off using the Smith Maneuver, & invests in a basket of stocks in a nr account, & aims to hold these stocks (ie, never sells), won’t the dividend income inclusion (after taking the dividend tax credit into consideration), basically offset the interest deduction each year? If the portfolio yield is say, 4.5%, & the heloc rate is say 3.5%, don’t the two virtually wash?

    • FT FrugalTrader September 6, 2013, 9:17 am

      @Dan, not quite because dividend taxes are much less (b/c of div tax credit) than taxes on your ordinary income. For example, in Ontario someone making $85k will get a 40% tax rebate off their investment loan interest, but only pay 20% tax on their dividends. Does this make sense?

  • Dan September 6, 2013, 10:19 am

    If div tax credit on eligible divs results in a 20% effective inclusion rate on div income, then you’re correct. I thought the rate was higher though, especially for hnw taxpayers.

    http://www.ey.com/CA/en/Services/Tax/TaxMatters-July2013-Maximum-personal-marginal-income-tax-rates-for-dividend-income

    I need to read more about the mechanics here. Thanks for clarifying.

    • FT FrugalTrader September 6, 2013, 10:29 am

      @Dan, best bet is to run a tax calculator on taxtips.ca for your scenario. No matter what tax bracket, the effective rate on dividends is always lower than “other income”.

  • Dan September 6, 2013, 12:14 pm

    @FT from what I understand the smith maneuvre relies on 2 things: (1) low interest rates for a HELOC and (2) the div tax credit

    so if prime went up from 3% to 5%, then the net yield of the entire portfolio is drastically reduced since the income is made in the spread between the interest rate paid and the net yield of the dividends……is this correct?

  • chuck September 6, 2013, 12:32 pm

    The yield of the portfolio wouldn’t change on paper. Normally when you calculate yield you’d use the acquisition cost of the stock since that’s the price you locked in at – not market.

    A perceived long term spike in interest rates, and would imply that the risk free rate will increase as well. In most valuation models, that would call for a drop in stock prices. Consequently if you calculared yield vs the new lower market price yield actually goes up.

    That being said, two of the risks of the smith maneuver is that interest rates will go up, and either you experience a (paper) capital loss on the portfolio, or the distributions are insufficient to cover the interest obligations of the debt.

  • FT FrugalTrader September 6, 2013, 2:08 pm

    @Dan, depending on the province, mathematically speaking, interest rates can be up to 50% greater than the portfolio yield and still break even. However, there are risks, such as the reduction of the dividend tax credit (possible if there are reductions in corporate tax) and if interest rates go through the roof.

    @chuck, good analysis. One thing that wasn’t noted is that the interest is capitalized, which means no cash flow out of pocket to pay the interest. The HELOC is used to pay the interest. The HELOC increases a bit at a time, but so does the tax deduction.

  • Nathan September 18, 2013, 11:49 am

    FT,

    I’m confused with the difference between the dividend payout and ROC.

    If I use my dividends to pay down my mortgage faster, does that cause tax implications. I’m talking dividends from stocks not ETFs.

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