Larry Berman CFA, CMT, CTAFinancial 15 Split CorpFTN.TODON'T BUYSep 11, 2023

Look at risk events. How will this perform in a stress environment? In 2006, this ETF had a nasty drawdown, almost 30-40%. During a recession, would expect similar behaviour. Could be OK for next 6 months.

He is not an expert on this holding. It has a strong yield (around 10%) that attracts many investors. During the 2016 market meltdown, it fell by about 50%. So he feels there must be leverage in this product. He suggests looking into the prospectus to better understand the leverage.

Is the high-yield sustainable?As he understands it, this is a corporate finance, where they will take the common and preferred shares, and lever up the common 2 for 1 in terms of growth, and the preferred shares just get the yield. A very concentrated play on the direction of the underlying basket of common. If you believe those 15 stocks are something to be owning right now, you are going to get some good capital appreciation and the yield is safe. If you go into a bear market with the 15 stocks, your yield is not at all safe. This is not without risk.

As he understands how these split corps work, one gets the dividend and one gets the growth. It depends on what you want out of life. If you want street yield, these manufactured products might be right for you. He doesn’t buy them because he doesn’t like his clients to be paying 2 layers of fees. He isn’t against the product. Dividend yield of 14%.

It is a company invented by bankers. They take a collection of companies and package up the stocks and sell out preferred shares and capital shares. They sell call options to enhance the yield. They have to maintain a certain net asset value. The preferred shareholders are protected. You may suddenly get no yield some quarters. The fees and the risk are also high, as well as the yield.

Not a fan of split shares and doesn’t think they are an adequate substitute for GICs or bonds. Their make up is a little convoluted in that there is a Capital Share and a Preferred Share. Effectively all the dividends that come out of the Capital Share get thrown into the Preferred Share. If all those companies don’t do very well, the dividends get cut and the preferred share dividend is susceptible to getting cut as well.

This separates the preferred shares from the capital. The dividend is pretty safe, because they are stripping it away from the capital, and it is the banks. The real risk is if you are Long the capital portion, what if you don’t get capital appreciation quickly. These deals last for about 5 years. If you don’t have capital appreciation, and you have embedded fees, the leverage investment on the capital financials won’t work out that well. That is the real risk. Feels the banks are pretty good place to be with interest rates likely to go higher in the next 5 years.

Believes that they issue preferred shares, and then common shares alongside. Then they take the preferred share capital and double up on the dividend yield. If that is correct, then he personally believes it is probably okay, but he would rather go with just picking your own bank. If you want more of a yield you can use more leverage to do that, and thinks you are going to be better off longer-term.

14.5% yield. Look back further than a couple of years. The averaged yield has been 3%. In the ’08 crisis they went from about $18 to about $2. He believes they are paying out capital gains in their underlying companies. In the last few years there was no crisis so there was little risk.

With 14% yield it must be returning some capital. It is a closed-end fund so be careful. Split share companies give the dividends to one share and the growth to the other.

These “split share” structures are not his favourite. Offer high yields, but they split into common and preferred shares and everything is done to protect the preferred shares. If NAV declines to a certain point, the common share completely stops. The yield is great until something goes wrong. You are paying a management fee to hold a group of 15 stocks. If you are dealing with a discount broker, you can buy your own 15 stocks very, very cheaply and never pay a management fee again.