If you have $14,000 available to invest in your Tax-Free Savings Account (TFSA), you may be looking for a way to generate meaningful, tax-free income without having to constantly monitor the market. While many investors gravitate toward high-yield stocks such as Enbridge or dividend-focused exchange-traded funds (ETFs), one fund jumps out for investors whose primary goal is maximizing income: BMO Canadian High Dividend Covered Call ETF (TSX: ZWC).
With a generous yield, paid out as monthly cash distributions, ZWC can help transform a TFSA into a reliable income-producing machine.
Source: Getty Images
Why income investors should look beyond traditional dividend stocks
Many Canadian investors begin their search for income with blue-chip dividend stocks. Enbridge, for example, currently offers a yield of roughly 4.9%, comfortably above the Canadian stock market’s yield of about 2.1%, as represented by iShares S&P/TSX 60 Index ETF (TSX: XIU).
Another popular choice is iShares S&P/TSX Composite High Dividend Index ETF, which yields approximately 3.6% while providing diversification across major Canadian dividend payers, including banks and energy companies.
However, investors focused on generating the highest possible income may want to consider a different approach. Rather than relying solely on dividends, covered-call ETFs such as ZWC generate additional cash flow by writing call options on their holdings. This strategy can significantly boost distributions while still maintaining exposure to a diversified portfolio of Canadian stocks.
A diversified ETF built for monthly cash flow
Managed by BMO Global Asset Management, ZWC is specifically designed for income-oriented investors. The fund holds roughly 40 dividend-paying Canadian companies and systematically writes covered calls to enhance income and reduce portfolio volatility.
The result is a distribution yield that typically hovers around 6.5%, substantially higher than the broader Canadian market and many traditional dividend ETFs.
For an investor with $14,000 in a TFSA, a 6.5% yield translates to $910 in annual income, or about $76 per month, all sheltered from tax within the account. For investors seeking passive income, that can be a good starting point.
The fund is broadly diversified, with significant exposure to financial services (about 39%), energy (22%), and basic materials (13%). It also includes exposure to these sectors: utilities (9%), communication services (6.5%), industrials (4.7%), and consumer staples (1.4%), helping reduce the risks associated with owning only a handful of individual stocks.
Understanding the trade-off
No investment is perfect, and ZWC’s enhanced income comes with a trade-off. Because the fund writes covered calls, some of its upside potential is capped during strong bull markets.
This has been evident in recent performance. Over the past three years, XIU delivered annualized returns of roughly 22.5%, while ZWC generated annualized returns of about 17.3%. Investors received more income from ZWC, but in exchange, they gave up some capital appreciation.
Additionally, ZWC carries a management expense ratio (MER) of 0.72%, which is higher than that of many passive index ETFs due to the active management required for its covered-call strategy.
Investor takeaway
For investors with $14,000 to invest in a TFSA, BMO Canadian High Dividend Covered Call ETF offers a nice combination of diversification, monthly cash distributions, and a yield that significantly exceeds the broader market. While its covered-call strategy may limit upside during strong market rallies, income-focused investors may find the trade-off worthwhile. Those looking to build a tax-free cash-generating portfolio could consider gradually investing through dollar-cost averaging over the next year, potentially lowering their average purchase price while establishing a dependable stream of income.
