As reader John Daniel noted on a previous post, the shares under the DFN ticker for the Dividend 15 Split Corp. pay a dividend of 11%. Intrigued, I decided to dig around and ask a few questions. Perhaps the following findings may be of interest to some readers (at least to John D. if he is still out there).
It should first be noted that Dividend 15 Split Corp.is a kind ofclosed-end fund that has invested in 15 dividend-paying companies and issued two kinds of shares to the public. The preferred shares ( DFN.PR.A) receive the regular dividends from the underlying basket of stocks. The capital shares ( DFN) receive the capital gains or losses from the basket plus distributions beyond the regular dividends and income from covered-call writing (as I understand) .
In short, DFN is part of a split-share structure. The preferred shares leverage the regular dividends and the capital shares leverage the capital gains or losses on the basket of 15 stocks (see Appendix I below if this is not clear). Also, the capital shares leverage (as far as I can see) the special dividends from the basket and income from covered-call writing.
Two dividend investors I asked werent overly impressed with the split shares (see their responses in Appendix II below). Jeremy of the Dividend Guy blogdidnt like the high exposure to financial companies (8 out 15 are in the financial/insurance/banking sectors) and difficulty in finding out what the management expense ratio was (even in the prospectus). Brad Ferris at the Triaging My Way to Financial Successblog didnt like the opaqueness either, especially on the covered-call writing program. The level of disclosure was not sufficient for him to allay concerns about safety of principal, a high priority in his investing.
More to come in another post .
Appendix I: Example of how split shares work: The common shares of ABC Corp. trade on the exchange at $35 and pay a $1.50 dividend to yield 4.3%. A sponsor sets up a company though a public offering to buy the shares and then split them into preferred shares priced at $25 and capital shares at $10. The ABC Preferred Split share gets the dividend, while the ABC Capital Split share gets the capital gains (or losses). Now assume the underlying ABC common shares rise over three years from $35 to $50 for a 43% capital gain. The ABC Preferred shares get an annual dividend yield of 6% ($1.50/$25), while holders of the ABC Capital shares earn a capital gain of 150% because their $10 shares are now worth $25 ($10+$15).
Appendix II: Comments on the split shares
Jeremy (of the Dividend Guy blog ):
I think the Dividend 15 is an interesting concept, but like many of the Canadian index-type investments, it suffers from a high exposure to banking and financial companies. If you simply count it up, then 8 out 15 are in the financial / insurances / banking sectors. That is a high degree of exposure to the financials and simply purchasing the S&P/TSX 60 will give you broader exposure to a number of other Canadian companies.
The other thing that I have always found with them, is that I cannot figure out is how the fees work. No where on their site can I find what the MERs are for either the capital or preferred shares. If you dig into the prospectus there are details in there, but the way they have broken it out I am not sure what is in there. Anytime the fees are hidden to me, I stay away.
In summary, I have always found split shares to be too complicated. I would rather just buy the entire index and enjoy the benefits of dividends that way.
Brad (of the Triaging My Way to Financial Success blog ) :
These shares (capital & preferred) are run by Quadravest and are heavy in financials, similar to the iShares dividend ETF (XDV). For the sake of performance and diversification I think XDV is a much better alternative on cost & performance for most investors than the capital shares since the MER for XDV is much lower (0.5%) versus a MER of 0.65% for DFN plus the annual service fee of 0.50%.
What goes on behind the scenes at a lot of these split share structures is a lot of option writing by portfolio managers. The problem with writing options is that they can provide excellent gains to the fund, but without adequate disclosure to investors on what actual activities are occurring there is the potential for unforeseen risks that investors might not otherwise take note of.
Based on the disclosures related to option writing they arent an attractive investment for me. They do pay out a healthy stream of income, but the capital preservation is an issue to me for the capital structure shares.
A disadvantage to owning the preferred series is the inability for an investor to take advantage of tax loss selling at this time each year. If you owned 5 different preferred shares (say MFC, TD, RY, BCE & TRP) and had a loss on the books you can flip into an alternate series of any of those companys preferred shares to crystallize your tax loss and preserve your income. This is a common activity amongst investors in preferred shares where you can take a tax loss with no hit to your income and use the losses against future gains to lower your exposure to taxation. If you had a capital loss with DF.PR.A there is no alternative to take a tax loss other than purchasing the individual preferred shares it holds.
Blogs & Comment
Looking at a dividend yield of 11%
By Larry MacDonald
As reader John Daniel noted on a previous post, the shares under the DFN ticker for the Dividend 15 Split Corp. pay a dividend of 11%. Intrigued, I decided to dig around and ask a few questions. Perhaps the following findings may be of interest to some readers (at least to John D. if he is still out there).
It should first be noted that Dividend 15 Split Corp.is a kind ofclosed-end fund that has invested in 15 dividend-paying companies and issued two kinds of shares to the public. The preferred shares ( DFN.PR.A) receive the regular dividends from the underlying basket of stocks. The capital shares ( DFN) receive the capital gains or losses from the basket plus distributions beyond the regular dividends and income from covered-call writing (as I understand) .
In short, DFN is part of a split-share structure. The preferred shares leverage the regular dividends and the capital shares leverage the capital gains or losses on the basket of 15 stocks (see Appendix I below if this is not clear). Also, the capital shares leverage (as far as I can see) the special dividends from the basket and income from covered-call writing.
Two dividend investors I asked werent overly impressed with the split shares (see their responses in Appendix II below). Jeremy of the Dividend Guy blogdidnt like the high exposure to financial companies (8 out 15 are in the financial/insurance/banking sectors) and difficulty in finding out what the management expense ratio was (even in the prospectus). Brad Ferris at the Triaging My Way to Financial Successblog didnt like the opaqueness either, especially on the covered-call writing program. The level of disclosure was not sufficient for him to allay concerns about safety of principal, a high priority in his investing.
More to come in another post .
Appendix I: Example of how split shares work: The common shares of ABC Corp. trade on the exchange at $35 and pay a $1.50 dividend to yield 4.3%. A sponsor sets up a company though a public offering to buy the shares and then split them into preferred shares priced at $25 and capital shares at $10. The ABC Preferred Split share gets the dividend, while the ABC Capital Split share gets the capital gains (or losses). Now assume the underlying ABC common shares rise over three years from $35 to $50 for a 43% capital gain. The ABC Preferred shares get an annual dividend yield of 6% ($1.50/$25), while holders of the ABC Capital shares earn a capital gain of 150% because their $10 shares are now worth $25 ($10+$15).
Appendix II: Comments on the split shares
Jeremy (of the Dividend Guy blog ):
I think the Dividend 15 is an interesting concept, but like many of the Canadian index-type investments, it suffers from a high exposure to banking and financial companies. If you simply count it up, then 8 out 15 are in the financial / insurances / banking sectors. That is a high degree of exposure to the financials and simply purchasing the S&P/TSX 60 will give you broader exposure to a number of other Canadian companies.
The other thing that I have always found with them, is that I cannot figure out is how the fees work. No where on their site can I find what the MERs are for either the capital or preferred shares. If you dig into the prospectus there are details in there, but the way they have broken it out I am not sure what is in there. Anytime the fees are hidden to me, I stay away.
In summary, I have always found split shares to be too complicated. I would rather just buy the entire index and enjoy the benefits of dividends that way.
Brad (of the Triaging My Way to Financial Success blog ) :
These shares (capital & preferred) are run by Quadravest and are heavy in financials, similar to the iShares dividend ETF (XDV). For the sake of performance and diversification I think XDV is a much better alternative on cost & performance for most investors than the capital shares since the MER for XDV is much lower (0.5%) versus a MER of 0.65% for DFN plus the annual service fee of 0.50%.
What goes on behind the scenes at a lot of these split share structures is a lot of option writing by portfolio managers. The problem with writing options is that they can provide excellent gains to the fund, but without adequate disclosure to investors on what actual activities are occurring there is the potential for unforeseen risks that investors might not otherwise take note of.
Based on the disclosures related to option writing they arent an attractive investment for me. They do pay out a healthy stream of income, but the capital preservation is an issue to me for the capital structure shares.
A disadvantage to owning the preferred series is the inability for an investor to take advantage of tax loss selling at this time each year. If you owned 5 different preferred shares (say MFC, TD, RY, BCE & TRP) and had a loss on the books you can flip into an alternate series of any of those companys preferred shares to crystallize your tax loss and preserve your income. This is a common activity amongst investors in preferred shares where you can take a tax loss with no hit to your income and use the losses against future gains to lower your exposure to taxation. If you had a capital loss with DF.PR.A there is no alternative to take a tax loss other than purchasing the individual preferred shares it holds.