Canadian seniors are searching for ways to get better returns on their savings to help offset the impact of inflation. One popular strategy for earning high-yield passive income involves owning Canadian exchange-traded funds or (ETFs) that hold TSX dividend stocks.
The benefit of ETF investing
The ETF industry has ballooned in recent years as investors seek out low-cost ways to get exposure to entire indexes or stocks in a specific sector. In the old days, the mutual fund industry catered to these investors, but management fees on mutual funds were high, and mutual funds didn’t provide trading flexibility. An EFT, however, trades like a stock but still gives investors a chance to have exposure to a variety of companies that are held inside the fund. Fees on ETFs tend to be much lower than the fees charged on mutual funds.
Investors who are looking for good yield might be interested in ETFs that boost return by generating options revenue on the holdings. A covered call ETF writes call options on some of the stocks in the portfolio to generate extra revenue. This means the buyer of the option pays a premium to have the right to buy the stock at an agreed price. The buyer of the option benefits if the share price is higher than the strike price by the expiration date. Otherwise, the option expires out of the money, and the fund keeps the stock, along with the option fee. In this case, the buyer only loses the premium paid on the option.
The covered call strategy can limit upside gains on stocks held in the fund if the market surges and the stocks are called to the buyers of the options. In a flat or relatively stable market, however, the options often expire out of the money.
Covered call ETFs typically pay distributions that are higher than the average dividend yield of the shares held in the fund. A number of ETF providers offer covered call ETFs for a wide range of sectors. It is worthwhile to do your research to see which ones fit your strategy.
ZWB
BMO Covered Call Canadian Banks ETF (TSX: ZWB) holds shares of Canadian banks and writes call options on the positions.
The bank sector rallied strongly in the past couple of months, but the ETF is still worth putting on your radar if you like the Canadian banks and want to get a nice yield. The distribution is paid monthly and currently provides an annualized yield of about 7.8%.
ZWC
BMO Canadian High Dividend Covered Call ETF (TSX: ZWC) holds a range of Canadian dividend stocks, including names in the banking, insurance, telecoms, and energy infrastructure sectors.
This provides broader exposure and should offer less volatility than an ETF that only holds stock of companies in a specific industry. As with ZWB, the ZWC ETF picked up a nice tailwind in the past few months after taking a heavy beating through much of 2023. If the Bank of Canada begins to cut interest rates in 2024, there could be more upside on the way for Canadian dividend stocks.
At the time of writing, the ZWC monthly distribution provides an annualized yield of around 7%.
The bottom line on high-yield ETFs
Investors have a wide range of ETF offerings in the market to choose from to generate monthly passive income. A diversified portfolio is always recommended, and covered call ETFs are worth considering for investors who are willing to give up some potential capital upside to get a bit higher yield through the distributions.
