Horizons launched a whole slew of covered call ETFs last year of which the Horizons Enhanced Income Equity ETF (HEX) turned out to be the most popular. Enticed by the initial yield of about 20%, investors purchased as much as $247 million worth of HEX last year. The ETF invests in an equally-weighted portfolio of the largest 30 Canadian stocks and aims to generate monthly income by writing out-of-the-money covered calls on its stock holdings.

It appears that many investors had (just like they did with the BMO Covered Call Canadian Banks ETF) hoped that the juicy distributions will translate into higher total returns compared to a plain vanilla product like the iShares S&P/TSX 60 Index ETF (XIU). Now that HEX has a 1 year track record, let’s compare its performance with that of XIU:

Total Returns for the 1-year period ending March 31, 2012
Horizons Enhanced Income Equity ETF (HEX): -11.50%
iShares S&P/TSX 60 Index ETF (XIU): -10.32%

Now, let’s compare the income generated by the two ETFs as a percentage of starting NAV:

Income generated for the 1-year period ending March 31, 2012
Horizons Enhanced Income Equity ETF (HEX): 13.34%
iShares S&P/TSX 60 Index ETF (XIU): 2.25%

and the change in price level (assuming distributions are not reinvested):

Horizons Enhanced Income Equity ETF (HEX): -24.55%
iShares S&P/TSX 60 Index ETF (XIU): -12.62%

It is too early to draw definitive conclusions but it is interesting to note that HEX has slightly underperformed XIU on a pre-tax basis over the past year. However we can draw one conclusion: it is important to look beyond just the current distributions in evaluating an investment. A product with higher current income may not necessarily be the one that turns out to have higher total returns.

This article has 9 comments

  1. It’ll look even worse when return is determined on an after-tax basis. (at least for my own tax profile)

  2. @Slacker: Agreed. It’s not a good idea to convert capital gains that you can defer for a long time into current income during asset accumulation years.

  3. Good post. Investors are too easily distracted by current income.

  4. @Canadian Capitalist: But suppose you have capital gains in the last three years (in my case, not by choice as a preferred share series was just redeemed by a bank at a premium against my will). Then, given that capital losses can be deducted against past capital gains, it seems to me that sometimes the current income may be, from an after tax perspective, a wise way to exploit the capital gain.

  5. Just was wondering whether the timing is good to add HEX to my RSP portfolio currently, now that HEX is at its 52 week-low, and dividend has produced good returns since inception a year ago (~10%)…

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  7. I’ll take the income thankyou. The capital gain/loss is unimportant as I’ll hold these stocks indefinitely. 2.25% or +10%? it’s a no brainer decision. I wanted to setup some kind of cash generator portfolio or ATM and these coverd-call ETF’s filled the bill. Everyone gets all weird about the hi yields but have they noticed that more and more companies are bringing out their own call option funds. That says something in itself.

  8. I’ve bought this ETF at $9.15 and it hasn’t been anywhere near that since. I have nothing good to say about HEX.

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