Recently, split-shares have been a big topic. The yield is excessively attractive for many but what’s the downside? What’s the risk you take with split-share corps?
What Are Split-Shares Funds?
Split-shares funds are a special type of investments where a Class A share and a Preferred Share are put in place trading separately under a specific investment strategy against a specific stock, or group of stocks, such as the banks, the utilities, or the pipelines.
The Class A share is often called the capital share and provides a higher distribution (not a dividend as wrongly advertised). It does so by using leverage and covered calls which is where the risk comes in. More on this later.
On the flip side, the preferred shares operate similarly to preferred shares in the fixed income space.
Distribution within a split-share fund will happen first with the preferred shares followed by the capital shares but capital shares will only have a distribution if the Unit NAV (Net Asset Value) is over a certain threshold.
The Unit NAV is the combination of the NAV for the preferred shares and the capital shares. If the Unit NAV is below the threshold, no distribution is made.
The risk of not being paid distribution is then based on the stock market performance. Since leverage and covered calls are performance magnifiers, if the market does well, you do well but if it doesn’t, you could be faced with a lower NAV and therefore not receive a distribution.
These funds are often called split-share corporations, or split-share funds. They also have an end date, but historically speaking it has generally been renewed for most of the offerings.
Putting Split-Shares Corp Into Context
Let’s look at all the investment options out there to see where split-share corporations fit in the investing world.
Here is a table outlining the type of investments generally available to investors. I am excluding fiat and cryptocurrencies as well as interest and GICs to keep the table simple.
The intention is to show the relative risk as you choose to invest based on what it holds. The first row represents the standard investments we know which represent how companies access funds in general.
A stock, or an IPO, is a way for a company to access funds to grow and then it flows on the secondary market. Same deal with bonds by the way.
|Mutual Funds, Exchange-Traded Funds
|Closed End Funds
Options are additional trading strategies leveraging the underlying securities with the intention of magnifying profits, but they can also magnify your losses.
Anything that uses options is then applying a magnifier but usually on the income and not on the value of the stocks as it has no effect on the stock price of the underlying assets.
Split-shares have to pay the dividend on the preferred shares and the distribution on the capital shares. Even if the underlying assets generate dividends, the preferred shares will be first in line and the distribution on the capital shares come from options, not dividends.
Characteristics Of Split-Shares
Here is your cheat sheet for split-shares.
- Split-share funds are designed to provide income. It’s not about stock appreciation so if you plan to compare BAM with a split-share, you aren’t comparing apples to apples.
- Split-shares pay a distribution and not simply a dividend. It’s like a REIT and you need to understand where to hold it for tax efficiency. Each split-share fund should be able to describe the type of distribution it has.
- Distribution can be missed during poor market conditions due to the minimum Unit NAV expected. If you need the income month to month, during the hardest time, you won’t get paid. Many skipped their distribution in 2008, 2020, and 2022.
- Not indexed to inflation. Most distributions are flat month-to-month and year-to-year. You lose purchasing power and in retirement you can’t count on DRIP to compound the growth.
If you DRIP, you can actually compound pretty fast. Here is what a 10% return compounded can do. You need to understand your appetite for risks as you can get an annual rate of return of 11%-13% with the banks over a 10-year period.
Polarizing Views on Split-Shares
A few readers over the past few months have brought up split-share funds as a topic. It’s enticing since they provide a high income. Often over 10% which is impossible to get with normal stocks.
Interestingly enough, Mike from Dividend Stocks Rock shared his opinion in a recent newsletter and he is not a fan. Mike is personally focused on total returns through dividend growth stock selection.
After a quick Google search, Pat McKeough from TSI is also not a fan and is not recommending the Class A shares (or capital shares) to his clients.
On the flip side, a YouTuber focused on passive income for FIRE (Financial Independence Retire Early) is very bullish on those. In fact, he is very bullish on everything covered calls. Be careful, the reported yield is based on yield on cost which is a flawed metric.
I would not build a portfolio strategy on split-shares. I would, in fact, ensure everything I need is covered outside of split-shares and then see if I could allocate 2% or so to a split-share corp as an income multiplier.
I currently hold non-paying dividend stocks to get higher returns and I could flip them to hold split-shares when I need the income for example. I would also only do this once I live from the income my portfolio generates, never during the accumulation years.
I currently favour the simpler strategy of Covered Call ETFs. Lower yield but simpler and less risky overall.
What’s your view?
How You Can Buy Split-Shares
Investors seeking to add split-shares to their portfolio will need to be setup to buy stocks on the stock market.
While they are unique in how they operate from a corporation perspective, the shares are traded like any other stocks in Canada. Choosing the right trading platform can help you keep your cost low, choose your discount broker wisely.
List Of Canadian Split-Shares
Here is the list of Canadian split-shares. I won’t be outlining the NAV or yield here as it’s complicated. The yield drops to zero if the conditions aren’t met and it’s based on the Unit NAV which is not widely available outside the company’s prospectus on the split-share funds.
|Brompton Split Banc Corp.
|Life & Banc Split Corp.
|Brompton Lifeco Split Corps.
|Global Dividend Growth Split Corp.
|Dividend Growth Split Corp.
|Sustainable Power & Infrastructure Split Corp.
|Brompton Oil Split Corp.
|North American Financial 15 Split Corp.
|US Financial 15 Split Corp.
|Dividend 15 Split Corp.
|Dividend 15 Split Corp. II
|Dividend Select 15
|Canadian Life Companies Split Corp.
|Canadian Bank Corp.
|Prime Dividend Corp.
|Commerce Split Corp.
|TDb Split Corp.
|E Split Corp.
|Real Estate Split Corp.
|Premium Income Corporation
|S Split Corp.
|World Financial Split Corp.
|Top 10 Split Trust
|Big Pharma Split Corp.