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Why I Don’t DRIP my Leveraged Smith Manoeuvre Portfolio

The Smith Manoeuvre questions keep coming in. For those of you new to the Smith Manoeuvre, it’s essentially a leveraged investing strategy where you obtain the capital by borrowing against your house. You can read all about it here.

Sounds risky? I’m not going to sugar coat it, the strategy is certainly risky. Borrowing to invest will not only amplify your gains but also your losses. Depending on your temperament, the feeling of generating a loss can be far greater than the highs of gains.

Being the wild and risky type (i’m being sarcastic, I would consider myself a conservative investor), I started a leveraged dividend investment strategy during the peak of the market in 2008. It hurt a lot at first, but I stuck with the strategy and I am still collecting dividends from the portfolio.

Since my last article where a reader asked about capitalizing the interest (where the portfolio pays for itself), there have been a number of emails from readers with more questions. One reader asked if I DRIP the dividend stocks within my leveraged portfolio.

Here is the question:

I know you have extensive experience leveraging using the smith maneuver. I was wondering if you used a DRIP program for when cash dividends were paid out and could be reinvested in the shares you had. Other than some additional record keeping, are there any other issues with this idea?

Lets take a step back for a second. What is DRIP? It stands for Dividend Reinvestment Plan and in my case, setting up DRIP within a discount brokerage account is called a synthetic DRIP. When you call your brokerage and setup synthetic DRIP with a particular dividend stock, the brokerage will automatically purchase additional shares of that stock (without commission) when a dividend is paid out to your account. The catch is that the dividend needs to be enough to purchase 1 whole share – no partial permitted. If the dividend is not enough to purchase one share, then the dividend will be deposited as cash.

Adding to your portfolio commission free sounds great right? It is in theory, but there are a couple of trade offs, which are the main reasons why I don’t DRIP the positions in my Smith Manoeuvre portfolio.

  1. Tax Administration – In non-registered (taxable) portfolios, when you sell a stock, you need to know your adjusted cost base (acb).  While calculating the ACB is simple if you buy 100 shares of XYZ at $10/share and close your position at a later time, it gets more complex if you are adding one or two shares of XYZ every quarter at varying prices.  Essentially, in order to properly track ACB, you’ll need to track DRIP purchases for every stock position during every distribution (some pay monthly).  To me, this is simply too much work.  It’s easier to accumulate cash from the dividends and re-deploy at a later time.
  2. Control – Another benefit of accumulating dividend cash to re-deploy at another time is the ability to control which positions you add to.  With DRIP, you have no control on the share purchase price as it is automatic when the distribution occurs. Letting the cash build allows me to create/build positions when stock valuations and/or yields are attractive.  Here is an article on knowing when to buy dividend stocks.

In a tax sheltered account (ie. TFSA/RRSP/RESP), I think that DRIPing dividend stocks (or ETFs) is a decent idea especially since you can keep adding to a position on a commission free basis without the hassle of keeping track of your adjusted cost base for tax purposes.

What are your thoughts on DRIPing your stock positions?

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FrugalTrader About the author: FrugalTrader 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.

{ 9 comments… add one }
  • Simon Piskaret August 1, 2016, 6:39 pm

    I use DRIP wherever I can, especially companies that offer a discount price to purchase more shares with the dividend dollars. What’s wrong with dollar cost averaging? If you don’t want to buy more, perhaps the stock is not suitable for your portfolio any more.

    I do have several stocks that require keeping track of the adjusted cost base but using the program at ‘adjustcostbase.ca’ it is really a breeze.

  • Stephen Granger August 2, 2016, 3:24 pm

    Wouldn’t the main reason you aren’t DRIP those dividends is because they are used to pay down your first mortgage? As I understood the smith manoeuvre, dividends are used to pay down the first mortgage, adding to your home equity, allowing you to purchase more stock this way?

    • FrugalTrader FrugalTrader August 2, 2016, 4:39 pm

      HI Stephen, using dividends to pay down the mortgage is a slightly modified version of the SM. The original SM is simply investing with your home equity (with an increasing balance). My original plan was to use the dividends to pay down the mortgage, but we managed to pay down the mortgage without withdrawing dividends from the account. But you are right, that’s another good reason not to DRIP the portfolio, if you actually need to spend the dividends!

  • My Own Advisor August 3, 2016, 3:09 pm

    Interesting answer, and I can see the pros and cons of DRIPping.

    Personally, with a few of the brokerages offering an adjusted cost base plus with software (like ‘adjustcostbase.ca’), I prefer to use synthetic DRIPs for everything where possible. The compounding power is important and I personally feel the more automated you can make your finances, the better long term. It takes the emotions out of investing.

    What are the long-term plans for the leveraged account?
    Wouldn’t it be good to be a) mortgage free (you are!) and b) debt-free thereby totally reducing your investment risk?


    • FrugalTrader FrugalTrader August 5, 2016, 8:36 pm

      Hi Mark,

      Thanks for stopping by! Yes, I can certainly see the benefit of DRIPping in different situations – RRSP/TFSA in particular. I plan to hold onto the leveraged loan for as long as possible. With low rates for the foreseeable future, I’m comfortable with the investment loan as it’s almost free money after the tax deduction. If interest rates get out of hand, I may look at paying it down with cash on hand.

  • Brandon August 7, 2016, 1:31 pm

    I’m currently doing the smith maneuver using ETF’s such as XIC and XUS which both pay dividends. I like using ETF’s because I don’t have time to do research into which stocks to buy and I like how they diversify my portfolio. I have to be careful though because there may be some return of capital within my dividends so I choose to use the synthetic drip to keep all my return of capital in my account and save me an accounting nightmare rather then pulling them out to pay the interest on my HELOC. So I believe that if you choose to use ETF’s and are able to make the interest payments on your HELOC it’s better to setup the DRIP.

  • Frank August 8, 2016, 7:35 pm

    I expect with most SMs the amount exceeds the minimum $25K needed to open an account at a brokerage like Interactive Brokers. In my experience, they track adjusted cost base for you when they issue you a T5008 summarizing activity. They only DRIP US stocks automatically if you choose, and it is off by default. However, with a $1 commission (or $0.01/share, whichever is greater), it is not hard to manually DRIP if you so choose.

    I seem to recall reading once that for automating investment DRIP is not always ideal as it can distort allocations within a portfolio. That is, you may wish to reinvest cash from a holding generating good income into a holding that has dropped in value. Again, the $1/trade commission makes IB attractive there.

    Note, I have trading accounts with bank discount brokerages as well (TD, RDI) which do synthetic DRIP, but for my SM account I am happy to have it at IB for the low cost trading/re-balancing it provides.

  • Dividend Earner August 16, 2016, 12:00 pm

    I can see your point. I chose to not hold REITs or Income Trusts in non-registered accounts due to the complicated tracking which includes return of capital, interest and distributions. The return of capital is the main one.

    As another comment mentions, I will look at the forms I get from Computershare or RBC to see if it’s outlined. I have seen an adjusted cost base done for a REIT in my TFSA which I assume was to adjust for a return of capital.

    I do however DRIP shares whenever I can. I religiously track my monthly income so it’s easy to add the transactions for the ACB.

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