Dividend ETF Analysis: FLVC.to

I’m often asked why I don’t buy a dividend ETF and head to the beach for the rest of my life.

It’s a legit question, so let me put it to rest forever. The reasons why I’m not interested in buying most Canadian dividend ETFs include:

• I find things I don’t like about virtually every dividend ETF. They either have too much weighting towards top stocks, or they add in sectors I don’t like (gold, mostly).

• Even the cheapest dividend ETFs have MERs in the 0.25% range, which works out to $2,500 for every $1M invested. That’s most of my golf budget!

• I’m addicted to the stock picking game, and I legitimately enjoy digging into annual reports and balance sheets. My results have been good enough that I believe, at worst, my stock picking skillz are neutral.

We have to remember that ETFs consist of individual stocks, and dividend ETFs consist of dividend stocks. If I choose good dividend stocks, buy them when they’re temporarily cheap, and embrace a long-term philosophy, I should be able to closely match the performance of ETFs — while saving the fee. I’m building my own ETF, and in doing so I get to place more emphasis on the qualities I want.

After saying all that, I fully understand why some of y’all might want to go the ETF and chill route. It’s much easier, especially for those who don’t have the confidence I do. Fees are reasonable, and continue to fall, too. And one could easily make the argument that the time spent building an investment portfolio could be better spent with the kids, or working overtime, or even searching for a higher paying job.

This is where I come in. Every few months I find a dividend ETF that looks interesting, so I check it out. I tried to find Canada’s version of SCHD, and then I took a closer look at one of those enhanced income ETFs with a 12%+ yield.

Today I’d like to take a look at a relatively new dividend ETF, the Franklin Canadian Low Volatility High Dividend ETF (FLVC). As the name indicates, this one has a couple little wrinkles to separate it from the other Canadian dividend ETFs out there. But is it worth your money?

Let’s check it out.

FLVC at a glance

FLVC is managed by massive U.S. wealth manager Franklin Templeton, a company more known for its dominance in mutual funds in the 20th century than one that has pivoted towards the passive strategies that dominate the 21st century. But it has been quietly changing its strategy and trying to stay relevant in a world where fees are slowly going towards zero.

The fund’s strategy is pretty simple, and one that I like at first glance. It comes down to both low volatility and high dividend yields. Essentially, FLVC is scouring the Canadian market for stocks that offer both, stuffing them into an ETF, and calling it a day.

I know this might sound nutty amid our current bull market, but boring low volatility stocks have a history of outperforming. This has been true for decades and it has happened in pretty much every stock market on the planet. It just hasn’t been a thing lately because tech has dominated the conversation in North America.

There are a few different reasons for this phenomenon, including:

• Low volatility stocks are generally mature businesses that have pretty dependable earnings

• Which do pretty well during bull markets

• But really show their worth during bear markets, outperforming as frightened investors pivot to safer names

• And they generally pay dividends better than the overall market, which quietly boost returns in the background

FLVC then narrows down the universe a little farther, and chooses just the low volatility stocks with high dividends. Or, at least it’s supposed to. But, as you’ll see, some lower dividend names with decent dividend growth potential have snuck their way in there, too.

The fund is still new and quite tiny. It has net assets of just over $64M. But that’s okay. We like the small funds here. It’s the big funds that scare us.

It’s been around for a little over a year, and its managed by the same folks who manage comparable U.S. and international low volatility ETFs. If you’re interested, you can find them under the ticker symbols FLVU and FLVI, respectfully, and yes, they’re open to Canadian investors and trade in Canadian Dollars.

We’ll note that this one doesn’t actually trade on the TSX, but rather the CBOE Exchange. You might remember CBOE under its previous name, the NEO Exchange. Even though it’s not on the TSX, you can still easily buy it via your favourite brokerage. Volume is quite low, but there’s plenty of liquidity behind the scenes.

The MER is quite cheap, checking in at a mere 0.16% as of March 31st. Most dividend ETFs in Canada charge in the 0.20% to 0.25% range, so this ETF is a little cheaper than most. 5-10bps doesn’t seem like much in the scheme of things, but it can really add up over time.

Since inception, the fund is up nearly 26%. That’s a slight underperformance compared to the TSX Composite, which is exactly what you’d expect. This is a fund that is built to do pretty good during bull markets and offer nice defense during bear markets. You won’t see outperformance now, but you’ll be grateful for the lower risk the next time the market is down 20%.

Still, that’s a pretty good result. I sincerely doubt that anyone reading wouldn’t have taken a 25% return in the 18 months since this fund launched — especially considering the low volatility that’s attached.

Income

First, the good news. FLVC pays monthly dividends, and has done so since its inception. When we get to the portfolio we’ll see that the underlying stocks are solid, and income should slowly go up over time.

The bad news is this ETF doesn’t smooth out its monthly distributions, as other monthly dividend-paying ETFs are known to do. It simply collects the income and fires it out the door in the same month. So some months will show higher dividend rates than others.

Here’s a look at the last ten distributions. They’ve been as high as $0.0665 per unit and as low as $0.0285 per unit. That’s quite the difference.

I did a little calculator work and added up the last 12 distributions. They came to just a hair under $0.6455 per share. That works out to a trailing 12-month yield of right around 2.6%.

I can already hear the objections. But Nelson! This isn’t a real income fund! Look at that pitiful yield! Also, your face is weird!

That last one seems unnecessary, but the other objections are valid. The dividend is quite low for an ETF that went to the work of putting “high dividend” in its name. And as we’ll see when we check out the portfolio, the fund manager has opportunities to add in higher yielding Canadian stocks. But it doesn’t, for some reason.

The portfolio

FLVC has a relatively concentrated portfolio for an ETF. It holds 40 stocks, all of which belong to the TSX Composite Index. Collectively the portfolio is reasonably valued, with the ETF trading at about 16x earnings, a hair over 2.1x book value, and it offers a return on equity in the 14% range.

Here’s a list of the top 10 holdings. With the exception of the last two, all of these names pay dividends of more than 3% and have the ability to increase their payouts by about 6-8% per year. Close to 50% of the portfolio is in those top names.

Here’s the next ten names, which consist of the next 35% of the portfolio. Even though the whole portfolio has 40 different names, there is concentration here. About 85% of the portfolio is in the top 20 stocks, with the bottom 20 only making up 15% of the portfolio.

There’s still some decent yield here, but you can really see the emphasis on current income taper off here. Couche-Tard and Metro aren’t names known for dividend yield. They’re more dividend growers.

Here’s the next 10 names, and this is where really start to see yield collapsing — with the exception of the high-yielding energy names. They offer nice yields but also payouts that could be dodgy if commodity prices don’t cooperate.

I’m not even sure why the portfolio has these last 10 holdings. They combine for about 2% of the portfolio. They don’t have enough weighting to make a difference diversification wise, and although there are some big yields there they’re not adding anything dividend wise either. The size of the positions just aren’t big enough to matter.

Looking at the portfolio more deeply really illustrates the issue I have with these funds. I’m not really sure this fund knows what it wants. It calls itself a low volatility and high dividend fund, but then it only takes token positions in a bunch of Canadian dividend payers that actually pay out a decent income stream.

You know what would add more income to your income fund? Actually buying real positions in Rogers Sugar, Enghouse Systems, and Cogeco, all of who pay out 5%+ dividend yields.

But instead, this fund owns names like Waste Connections, Metro, Thomson Reuters, Loblaw, and Couche-Tard. I have nothing against those companies (in fact, I own some), but I’m not sure they belong in an ETF that emphasizes dividends so much that it put “high dividend” in its name.

Also, notice anything missing from the portfolio? Say an asset class that we love around here because it pays generous income, is generally pretty safe, and is easy to understand?

Where are the REITs? Don’t they check off all the boxes this fund is looking for?

Related: Why I’d much rather own REITs than physical houses

The bottom line

I’ve seen enough. Here’s my verdict.

I think the Franklin Canadian Low Volatility High Dividend ETF is probably a decent place to park some capital. The portfolio looks reasonable, the MER is pretty cheap, and the low volatility strategy is a good one. It has a history of outperformance.

My issue is with calling this a “high dividend” fund. It’s more like a dividend growth fund.

There’s nothing wrong with a dividend growth philosophy. I’m moving more and more in that direction for my portfolio, and I think it’s a real nice strategy for the average Canadian’s retirement. Something like 80-85% of my portfolio is in names that regularly increase dividends.

If this ETF wants to be a low volatility dividend growth fund, then fine. Put that in the name. And if it wants to pay higher dividends, then it needs to tweak the formula so it puts more emphasis on the names in the forgotten back corner of the portfolio. I also think it should add in some REITs, too.

Overall not a terrible place to set and forget your money if you’re looking for a low volatility/dividend growth approach, but personally I’d rather just own the underlying stocks and keep my 0.15% per year.