ETF providers have developed a wide variety of ways to generate higher yields for income investors. Some rely primarily on dividend-paying stocks. Others use bond interest or distributions from real estate investment trusts (REITs). More recently, many funds have started layering on options strategies like covered calls and cash-secured puts, while some even add leverage to further boost payouts.
Importantly, these strategies are not mutually exclusive. ETF managers can combine multiple income-generating tools together to create very different risk and return profiles. That said, investors should understand that higher yields often come with tradeoffs. Increased complexity, higher fees, capped upside potential, and in many cases weaker long-term total returns.
Still, some income ETFs appear more thoughtfully constructed than others. One fund that recently caught my attention is the Harvest Low Volatility Canadian Equity Income ETF (TSX:HVOI), which currently offers a 7% annualized distribution yield as of May 14. Here’s what investors should know.
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What is HVOI?
Understanding HVOI becomes much easier if you think about it as two separate components working together. The first component is the underlying stock portfolio itself.
HVOI holds a portfolio of 40 Canadian stocks weighted using a combination of market capitalization and a proprietary “risk score,” with a maximum weighting of 4% per company. This forms the low-volatility core of the ETF.
The goal is to provide Canadian equity exposure while potentially delivering a smoother ride compared to the broader market. According to Harvest, the portfolio currently carries an average beta of 0.63.
Beta measures a portfolio’s volatility relative to the broader market, where the S&P/TSX 60 Index would typically sit at a beta of 1.0. A beta of 0.63 suggests the portfolio has historically experienced lower volatility than the overall Canadian market.
Importantly, the portfolio still maintains relatively solid fundamentals despite the lower-risk focus. Harvest reports an average five-year return on equity of 14.3%, while the portfolio trades at roughly 17.9 times earnings.
The ETF also leans heavily toward larger blue-chip Canadian companies, with an average market capitalization of approximately $93 billion and an underlying portfolio dividend yield of roughly 2.5%.
The second component is the options overlay strategy. HVOI generates additional income by selling options, specifically covered calls and cash-secured puts on the portfolio.
Covered calls involve selling away some upside potential in exchange for immediate option premium income. Cash-secured puts are an options strategy whereby the ETF sets aside cash and receives premiums for potentially agreeing to purchase stocks at predetermined prices.
The tradeoff is straightforward: upside potential becomes partially capped during strong market rallies, but investors receive additional income in exchange. For investors primarily focused on generating steady cash flow without needing to regularly sell portfolio shares themselves, this structure may be appealing.
How much does HVOI currently yield?
HVOI’s latest monthly distribution, which went ex-dividend on April 30 and was paid on May 6, totaled $0.08 per share. Annualizing that distribution and comparing it against the ETF’s net asset value as of May 14 works out to a 7% annualized yield.
Of course, investors should understand that distributions are not guaranteed and can fluctuate depending on market conditions, portfolio performance, option premiums, and volatility levels. The ETF’s principal value also remains at risk.
Another detail worth paying attention to is the tax treatment of distributions if HVOI is held outside of a registered account like a Tax-Free Savings Account (TFSA) or a Registered Retirement Savings Plan (RRSP).
At year-end, investors may receive distributions composed of multiple sources, including eligible dividends, ordinary income, capital gains, and return of capital. Each component receives different tax treatment, so investors should review their annual tax breakdown carefully.
