Honey, Who Shrunk My Dividend ETF?

01/12/2011 4:27 pm EST

Focus: ETFS

John Heinzl

Reporter and Columnist, GlobeInvestor.com

John Heinzl, reporter and columnist for GlobeInvestor.com, explains the significant changes happening to a popular ETF tracking high-dividend stocks.

In one of your videos, you mentioned that the Claymore S&P/TSX Canadian Dividend ETF would be undergoing some changes. What ended up happening? -M.H.

Quite a bit, actually. First, some background.

Claymore’s Canadian Dividend ETF (Toronto: CDZ) is designed to track the S&P/TSX Canadian Dividend Aristocrats Index, which is composed of companies that have paid higher dividends for at least five consecutive calendar years.

It’s a great concept. Trouble is, the financial crisis prompted a lot of companies to conserve cash by cutting dividends or holding them steady, and that’s caused the index to shrink dramatically.

At the most recent annual rebalancing in December, 22 companies were dropped from the index, and just five were added. As a result, the number of constituents fell to 39 from 56—a reduction of 30%. The year before, 14 companies were shown the door for failing to raise dividends.

Several big names were punted last month, including Bank of Nova Scotia, Toronto-Dominion Bank, RioCan REIT, Great-West Lifeco and IGM Financial. In a few cases, such as Canadian Tire and Canadian Western Bank, the company raised its dividend but didn’t make the cutoff date.

(Not all of the changes are reflected on Claymore Investment’s Web site yet, because it’s still liquidating some positions.)

Should investors be alarmed by the large number of index deletions? Clearly, if the bleeding continues at this rate it would not be a good thing in terms of diversification. But Som Seif, Claymore’s chief executive officer, said the ETF—one of Claymore’s most popular—still provides an adequate range of dividend stocks.

“It was pretty major rebalance and I think the reality of it is that you don’t usually like to see major turnover,” he said. But “I’m more than comfortable with 39” constituents.

“What most portfolio managers and individuals do is they get emotional, they fall in love with companies, whereas what we do is … if it meets the test then it’s in, if it didn’t, then it’s out. That’s what we did. We’re disciplined.”

No Financials

Despite the 44% shrinkage in index members over the past two years, he said the ETF still has more constituents than its closest competitor, the iShares Dow Jones Canada Select Dividend Index Fund (Toronto: XDV), with 30.

However, unlike the iShares ETF, the Claymore fund no longer has any Canadian banks or insurers.

“We all emotionally love the banks and we sort of fall in love with companies. But the reality is, the banks didn’t do their job last year. They didn’t raise their dividends. They went through a difficult period and that’s just the way it is,” he said.

Under the index rules, the banks (or any other company) would have to build up another five years of dividend growth to be readmitted. However, Claymore is exploring the possibility of readmitting financially strong companies that postponed dividend hikes temporarily during the financial crisis but then resumed raising them.

“We’re always looking at how to best structure our products for the long run and we want to take into account the environment,” he said. “We want to make sure that anomalies are taken into account. It’s a thought process that we’re going through right now. We don’t even know if our index provider would be open to it.”

Any decisions in that regard would not become effective until the next rebalancing in December, he added.

Conserving cash

The financial crisis prompted many companies to conserve cash by cutting dividends or postponing hikes—causing the S&P/TSX Canadian Dividend Aristocrats Index to shrink dramatically. Here are companies added or dropped at the index's annual rebalancing last month.

Who's in:

Bird Construction Inc. Fund
Enbridge Income Fund
North West Company Fund
Rogers Communications Inc.
Tim Hortons Inc.

Who's out:

AltaGas Ltd.
Allied Properties REIT
Bell Aliant Regional Communications Income Fund
Bank of Nova Scotia
CML HealthCare Income Fund
Canadian Tire Corp.
Cominar REIT
Canadian Western Bank
Davis & Henderson Income Fund
Encana Corp.
Great-West Lifeco Inc.
Industrial Alliance Insurance & Financial Services
IGM Financial Inc.
Just Energy Income Fund
Methanex Corp.
Parkland Income Fund
Power Corp. of Canada
Power Financial Corp.
Ritchie Bros. Auctioneers
Toronto-Dominion Bank
Uni-Select Inc.

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