Covered Call ETF Vs. Pure Dividend Stocks

Includes: BMO, BNS, CM, RY, TD
by: The Dividend Guy

About a year ago, I bought a Covered Call ETF - ZWB: BMO Covered Call Canadian Banks ETF (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. 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 Apple (NASDAQ: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


1Yr Return

Dividend Yield

Net Return

































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?

Disclaimer: I hold shares of BNS, NA and ZWB (ZWB will be sold in the near term).