Canadian fund manager Brompton has launched the first ETF to track Canadian split corp preferred shares, with an index provided by Index One. This is the first ETF of its kind to hit the Canadian market and will be actively managed by Brompton. The ETF is being listed on the TSX.
Preferred shares have become a less active part of the Canadian market in recent years, with fewer new issues. Many investors have been using ETFs as a proxy for direct access to preferred shares in Toronto, and this has led the ETFs to become more dominant in the market.
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The Brompton ETF [SPLT CN] aims to select its holdings from all the split corp preferred shares available in the market, the objective being to provide investors with a comprehensive and diversified investment opportunity. Brompton plans to cover all the preferred share split issues in the market, focusing on those split shares that offer good value and superior liquidity
What are Canadian split share corporations?
A split share corporation issues an equal number of shares from its pool of preferred shares and class A shares with the proceeds of the issue being invested in conventional dividend-paying shares. Preferred shares will generally offer investors a high and secure dividend yield at a fixed rate and with no capital gain.
Capital shares – also known as class A shares – are designed to capture the price moves in the underlying stocks but with more intrinsic leverage than if an investor was an owner of ordinary stock. Dividends that are received in a split share fund portfolio are used to fund the payments made on the preferred shares.
Companies typically issue preferred and capital shares in an equal proportion. Listed split share companies can offer exposure to a single name on the exchange, but can also offer a more diversified basket of stocks. Currently there are over 30 such split share corporations listed in Canada with over CAD 5bn in preferred shares. Throw in the capital shares, and total size hits CAD 10bn.
Sector-wise, these split share corporations are heavily focused on the financial sector. The market is dominated by a handful of managers, of which Brompton is one, alongside the likes of Quadravest and Brookfield.
ETF launch could be a game changer for split share investment
The launch of the Brompton ETF could conceivably be a game changer here, as the preferred shares ETF market in Canada is actually more liquid than the underlying preferred shares market. According to Brompton, the average daily turnover in preferred shares on the Canadian market is about CAD 120,000 per day, not large. The single, most actively traded preferred share ETF in Canada sees CAD 5m change hands. ETFs now account for over 7% of the total Canadian preferred shares market.
Looking at the split corp market, the average daily turnover of a split corp in Canada is CAD 130,000 per day. The thin turnover makes it harder for investors to gain exposure to this market. With an ETF wrapper, investors can transfer some of the execution costs and risks to a market maker and can also access the split corp market through a single ticker. Brompton says it hopes the new ETF could actually get large enough (CAD 400m or so) to help as a price discovery tool for the split corp market.
