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When the going gets tough in financial markets, advisors and investors need to be innovative to generate steady yields and seize opportunities for superior returns.
One way to capture opportunity is investing in an exchange-traded fund (ETF) that employs leverage. In an uncertain environment, “leverage” can be a dirty word. Yet, a prudent amount of leverage can be advantageous, says Adam Hennick, an investment advisor with Research Capital Corp. in Toronto.
“I believe in using leverage responsibly to help individuals who have the risk tolerance for it to build wealth,” he says.
Investors with the appropriate risk appetite may be interested in an ETF from Harvest ETFs in Oakville, Ont., that pairs modest leverage with a covered-call strategy.
Covered calls can deliver consistent monthly income. Many investors flock to these strategies in a down market, but when markets turn back up, a covered-call strategy – especially one that’s managed actively – can still be important in capturing more upside.
Leverage adds a new element, says Paul MacDonald, chief investment officer at Harvest ETFs.
ETFs that write covered calls on a portion of the portfolio can boost cash flow, he notes: “Depending on the mandate, between a seven and 10 per cent yield is not unreasonable to expect on an annual basis, generated from dividends and options premiums.”
Harvest has a suite of covered-call ETFs that have been market leaders for the past half decade, including the award-winning Harvest Tech Achievers Growth & Income ETF (HTA). More recently, Harvest has added a lineup of “enhanced” ETFs to bring leveraged income funds to Canada. That includes an enhanced version of HTA, the Harvest Tech Achievers Enhanced Income ETF (HTAE).
“Typical covered-call ETFs are ideal if you’re looking for cash flow and willing to give up some market upside,” says James Learmonth, senior portfolio manager at Harvest ETFs.
He adds if markets “really pop” to the upside, the covered-call portion of the portfolio – 30 per cent of holdings in the case of Harvest’s ETFs – is limited by the strike price. Yet, the new enhanced ETFs provide an alternative for investors with more desire for risk and upside.
“With all of our enhanced funds, we take the existing covered-call strategy and add 25 per cent leverage,” Mr. Learmonth says.
The potential advantages are twofold: every dollar invested purchases 25 per cent more underlying securities, and the leverage produces 25 per cent more income from call-option premiums.
Mr. MacDonald says the strategy is attractive to those who want higher yield from covered-call strategies to provide monthly income, with slightly more potential for capital growth.
“In the current conditions, having 25 per cent leverage allows for greater upside as the market recovers, particularly for beaten-up tech stocks,” Mr. MacDonald says.
In addition to HTAE, investors have the choice of Harvest Healthcare Leaders Enhanced Income ETF (HHLE), Harvest Brand Leaders Enhanced Income ETF (HBFE), Harvest Equal Weight Global Utilities Enhanced Income ETF (HUTE) and Harvest Canadian Equity Enhanced Income Leaders ETF (HLFE).
The asset manager also offers an all-in-one fund, Harvest Diversified Monthly Income ETF (HDIF), which holds a basket of Harvest Equity Income ETFs, applies that modest 25% leverage, and provides a yield of about 10 per cent.
“These [ETFs] are meant to be more long-term investments, holding fundamentally strong companies, for people seeking extra cash flow from a covered-call strategy and an enhanced return potential from modest leverage,” Mr. Learmonth says.
Of course, leverage works both ways, he adds. Gains are enhanced while losses can be more profound.
As such, Mr. Hennick says advisors must ensure clients understand the risks. “The worst call an advisor can make is telling a client a leveraged strategy isn’t working.”
Harvest’s ETFs, as a wrapper for the leveraged strategy, don’t require investors to maintain margin. That’s unlike more traditional leverage approaches. This approach may not suit everyone, Mr. Learmonth says.
“Yet, for particularly bullish investors who still want enhanced cash flow, these modestly levered income ETFs can be a good fit,” he adds.
Advertising feature produced by Globe Content Studio with Harvest Portfolios Group. The Globe’s editorial department was not involved.