A reader left a comment in my last Smith Manoeuvre/leveraged portfolio update questioning why I don’t simply use CDZ since my holdings are similar.
My leveraged portfolio consists of a basket of Canadian dividend stocks that mostly have a history of raising their dividends. The Claymore Dividend ETF, CDZ, tracks the Canadian dividend achievers index which holds stocks that have increased their dividend at least once annually over the past five years.
Since my leveraged dividend portfolio and CDZ both have similar strategies, thus holdings, why don’t I simply buy CDZ and reduce all the hassle of buying and selling individual stocks and reducing my commissions paid to the online stock brokerage? Here are my reasons.
1. Control the Yield
One of the main reasons I started a dividend portfolio is for the tax efficient income with the goal of having the investment income grow enough to pay a significant portion of our household expenses. With that goal in mind, it’s important to have a relatively high sustainable yield that grows with inflation.
If I were to choose the CDZ or XDV (iShares) ETFs, I would not have control over the yield of my portfolio because those ETFs weight their portfolios (thus yield) based on the market capitalization of the company. For my portfolio, I have a watch list of stocks that I like, then wait until yield reaches a level that I’m happy with (ie. when the stock becomes cheap). Here is a tutorial of when to buy dividend stocks.
2. Return Of Capital (ROC)
Oh the dreaded ROC. With leveraged portfolios, receiving Return of Capital as a portion (or all) of a distribution can have implications on tax deductibility of the investment loan. ROC is typically distributed by income trusts, which CDZ still holds a couple. There are ways around this, namely withdrawing ROC, paying down the investment loan, then putting the money back into the trading account. However, that is too much hassle for me.
In addition to that, ROC reduces the adjusted cost base of the stock position which needs to be tracked manually for the capital gains calculation when the position is sold in the future.
3. Management Expense Ratio (MER)
Finally, CDZ has a relatively high MER coming in at 0.60% per year. While some may argue that I have pay trading commissions, the strategy is to buy and hold most positions forever, which means trading commissions occur with a relatively low frequency. To put this in perspective, a $100k portfolio paying 0.60% is $600 per year, every year. With $4.95 commissions and infrequent trading, the expense ratio of my leveraged portfolio will be a fraction of the ETF.
What are your thoughts? Do you use leverage for your stock holdings? Do you use ETFs?-> If you would like to read more articles like this, you can sign up for my free newsletter service below (we will not spam you).