Balancing Your Dividend Holdings

One problem with the two leading Canadian dividend ETFs is that they are not very well diversified across sectors. The iShares Dow Jones Canada Select Dividend (XDV) is half banks and financials. Claymore’s S&P/TSX Canadian Dividend (CDZ) has the opposite problem: it includes none of the banks, and although it has a broader overall mix it is 25% oil and gas stocks.

The newest Canadian dividend ETF hasn’t seemed to generate a lot of buzz, but in my opinion it tracks an index that is better than both of the incumbents. The iShares S&P/TSX Equity Income (XEI), which was launched back in April, simply selects the 75 companies in the S&P/TSX Composite Index with the highest yield, period. (If there happens to be fewer than 75 stocks with yields above the median, other rules kick in.) These companies are weighted by market cap, but no company can make up more than 5%, and no sector more than 30%.

This index avoids the problem inherent in CDZ (which had to kick out the banks because they haven’t raised their dividends for five years running) and XDV (which is hugely overweight in banks because there is no sector cap). However, it’s still very heavy in financials, energy and telecoms:

Financials 50% 12.7% 29.9%
Energy 13% 25% 28.3%
Materials 2% 3.1% 0.5%
Industrials 3.7% 15.7% 2.6%
Consumer Discretionary 0% 5.9% 7.7%
Telecommunications 15.5% 8.2% 19.7%
Information Technology 0% 0% 0%
Consumer Staples 4.6% 5.9% 0.6%
Utilities 10.7% 8.3% 9.7%
Health Care 0% 0% 0.5%

Note: The CDZ website lumps together all consumer retailers in a single category. I split the 11.8% figure equally between discretionary and staples as an estimate.

Biases without borders

The fact is, no Canadian dividend ETF can get around the fact that our economy is highly concentrated in some sectors and all but absent from others. That’s why dividend-oriented investors—just like more conventional Couch Potatoes—would do well to look south of the border for some diversification. But again, the methodology that US dividend ETFs use can have a huge effect on their sector breakdown.

Take a look at these three dividend-focused ETFs. The first is the SPDR S&P Dividend ETF (SDY), which includes only companies that have grown their dividends for at least 25 years. (The brand new Claymore S&P US Dividend Growers ETF (CUD) tracks the same index.) Because of its focus on mature companies, it’s very heavy on utilities, financials and consumer retailers, and light on technology and telecoms.

Contrast that with the Vanguard Dividend Appreciation ETF (VIG), which also focuses on dividend growth, but without the strict 25-year rule. It’s dramatically lighter on financials and utilities, but much more tilted to energy and industrials.

Finally, the WisdomTree Total Dividend Fund (DTD), which is fundamentally weighted. It falls in the middle of the other two with respect to financials, utilities, and energy, and has the highest weightings in telecoms, health care and technology.

Financials 16.7% 6.3% 10.8%
Energy 3.3% 14.9% 9.9%
Materials 10.5% 6% 3.8%
Industrials 11% 20.7% 9.6%
Consumer Discretionary 10.5% 13.1% 7.2%
Telecommunications 4% 0.1% 7.3%
Information Technology 3% 6.6% 8.4%
Consumer Staples 19.9% 24.9% 16.6%
Utilities 14.9% 1.7% 8%
Health Care 6.3% 5.7% 9.9%

Complementing Canada

It should be clear that all dividend-focused indexes have built-in sector biases. But these sector biases are very different in Canada and the US. What this means is that any of the US funds listed above would go a long way toward diversifying a portfolio of Canadian divided payers.

Here’s what your sector breakdown would look like if you combined these ETFs with XEI in equal amounts. All three combinations offer a much broader mix of dividend stocks than you can get at home:

Financials 23.3% 18.1% 20.4%
Energy 15.8% 21.6% 19.1%
Materials 5.5% 3.3% 2.2%
Industrials 6.8% 11.7% 6.1%
Consumer Discretionary 9.1% 10.4% 7.5%
Telecommunications 11.9% 9.9% 13.5%
Information Technology 1.5% 3.3% 4.2%
Consumer Staples 10.3% 12.8% 8.6%
Utilities 12.3% 5.7% 8.9%
Health Care 3.4% 3.1% 5.2%


Disclosure: I do not own any of the ETFs discussed in this post.


24 Responses to Balancing Your Dividend Holdings

  1. Think Dividends September 20, 2011 at 11:19 am #

    Great article Dan! I think XEI is the best of the bunch too.

    For the record, XEI is not market cap weighted. Its largest holdings are Thomson Reuters, CIBC, BCE, BMO, Telus, RBC, Shaw, Crescent Point, Canadian Oil Sands and Sun Life.

  2. Canadian Couch Potato September 20, 2011 at 11:28 am #

    @Think: Thanks for the comment. I was confused by the weightings in XEI, too, because the methodology of the index states: “The index is market-capitalization weighted subject to a maximum weight of 5% for each stock and 30% for each GICS Sector.”

    I contacted iShares and they replied as follows:

    “This capping is what can lead to the result you note, namely that the weight of any given security that was subject to a cap (either on the individual or sector level) can become unlinked from an uncapped market cap weight. The capping is re-applied quarterly, meaning that the weights may drift with the market in between rebalances.

    “There were six companies that were capped at 5% at the time of the September rebalance (based on September 8th prices): Thompson Reuters, Telus, BCE, CIBC, BMO and RBC. The variance in their weights since then will be entirely driven by their relative share price performance. As of 9/26, it looks like their current weights range from 5.13% to 4.87%, but they are still the six largest constituents.”

    Note also that some reliable dividend payers did not make the cut in XEI because their yields were below the median: namely Scotiabank, TD and Enbridge: “The bottom constituents (by indicated annual dividend yield) at the time of the rebal were all above 4% yield. BNS, TD, and ENB all were below the top 75, at 3.94%, 3.56%, and 3.00% respectively.”

  3. Eric September 20, 2011 at 1:18 pm #

    These ETFs are very different. CDZ (Div Growth) & XDV (High Div Yield) only have 9 stocks in common. I don’t like XEI – too many Reits (6%). XRE is a better option as a separate asset. XEI has also the lowest quality dividend requirement- none . For CDZ & XDV, the underlying companies have a proven track record of consistant and increasing dividends.

    As for diversification, I do not believe XIC or XIU are better options (75% in energy-finance-materials) . I use both CDZ & XDV and the only sector missing is materials but I have a better allocation between sectors ( 30% Fin. (less than 18% in the big 6 Bk) – 18% Energy – equal weight between Cons D – Telcos – Indust – Utilities – Cons S).

    VYM (Vanguard) is a better choice if you’re looking for high yielding stocks in the US.

  4. Canadian Couch Potato September 20, 2011 at 1:35 pm #

    @Eric: Thanks for the comment. I’ve written in the past that XDV and CDZ actually complement each other well. Indeed, I suggest both in my Yield-Hungry Couch Potato portfolio:

    The sector weightings have changed since that post was written, but the principal still holds. However, the CDZ/XDV blend still doesn’t get around the problem of the huge weight given to financials and energy in this country. Almost any US dividend ETF will plug this gap, including VYM.

  5. Eric September 20, 2011 at 2:51 pm #

    @Dan: I was under the impression that XEI was now your first choice for the yield-hungry couch potato portfolio.

    As for VYM, I just think it has a better allocation across sectors with more than 400 stocks.

  6. Canadian Couch Potato September 20, 2011 at 3:16 pm #

    @Eric: I’m reluctant to change my model portfolios too often, especially to add an ETF that has a track record of only a few months. But I certainly think you could swap out XDV/CDZ and replace them with XEI. I’m pretty agnostic here—I don’t think it would make a huge difference over the long run.

    Any opinions from the dividend investors in the audience?

  7. Eric September 20, 2011 at 4:14 pm #

    @Dan: I don’t understand. These ETFs do not replicate the same index and have very different holdings.

  8. Canadian Couch Potato September 20, 2011 at 6:03 pm #

    @Eric: Sorry, my wording wasn’t very precise. All I meant was that no one can reasonably predict whether XEI will outperform a mix of CDZ and XDV over the long term. The same is true for any of the US-listed ETFs I mentioned. They will no doubt behave differently, but no one knows which strategy will turn out to be the superior one.

  9. Canadian Couch Potato September 21, 2011 at 8:13 am #

    Note that PWL Capital produced a comparison sheet of CDZ, XDV and XEI earlier this year. The weightings are a bit out of date now, but it’s still useful.

  10. My Own Advisor September 22, 2011 at 8:38 am #

    Great post Dan. I was not aware of the comparison table produced by the folks at PWL Capital – nicely summarized.

  11. Think Dividends September 22, 2011 at 4:50 pm #

    @ Dan: Any word from iShares regarding the portfolio construction methodology? Thanks

  12. calvin September 22, 2011 at 7:39 pm #

    XEI pays highest dividend at 4.5%, compared to XDV ‘s 3.9% and CDZ’s 3.3%.
    For a retiree who withdraws dividend income, XEI makes more sense?

  13. Canadian Couch Potato September 22, 2011 at 11:08 pm #

    @Think Dividends: Waiting on a response—will let you know ASAP.

    @Calvin: It’s always dangerous to simply look at yield, which is only part of your total return. Even retirees who are drawing on their portfolio for income need to remember that higher yield doesn’t necessarily mean higher overall returns.

  14. Be'en September 26, 2011 at 2:24 am #

    Is there any advantage in holding a preferred-share ETF along with CDZ and XDV? If so which one is better: XPF vs CPD vs PPS? Are the returns from preferred shares treated like interest income or dividend income for taxation?


  15. Canadian Couch Potato September 26, 2011 at 2:01 pm #

    @Be’en: Preferred shares have little potential for price appreciation: generally they will go up in value only if interest rates fall. In that sense, they behave a bit like corporate bonds. However, their dividends are eligible for the tax credit, unlike bond interest. This may make them a reasonable holding in a taxable account: I include a small allocation to them in my Yield-Hungry Couch model portfolio.

  16. Jon June 2, 2014 at 7:26 pm #

    Hi CCP, is there any evidence that sector diversification is of any use? I gather Canada is concentrated in some of its sectors but has it been demonstrated that this has any adverse affect? Does diversifying amongst sectors give you similar benefits to diversifying amongst asset classes? Thanks!

  17. Canadian Couch Potato June 3, 2014 at 9:04 am #

    @Jon: Yes, I would say there are adverse effects to holding an equity portfolio with high concentrations in a small number of sectors, which is the case if you hold a broad market Canadian index fund. That’s why I would recommend broad foreign diversification in the portfolio: adding US and international equities goes a long way to evening out those sector weights.

  18. Al September 4, 2014 at 2:55 pm #

    How does CPD compare to other dividend producing ETFs?

  19. Jim R March 17, 2015 at 9:17 pm #

    XEI, and I think CDZ, count REITs as being “financials”. Shouldn’t REITs be a sector in its own right? I have a difficult time understanding how a REIT has something in common with a bank, insurance company, or mutual fund company.

  20. Canadian Couch Potato March 17, 2015 at 10:41 pm #

    @Jim R: It’s true that investors tend to consider real estate not only a separate sector, but a distinct asset class. But technically REITs are investment firms, and many of them are involved in financing real estate as well as owning and managing properties. So they are lumped in with other “financials” in the GICS classification:

  21. Jim R March 18, 2015 at 1:16 pm #

    Wow – there’s a standard that addresses this sort of thing. Who knew.

    Thanks for the information, CCP.

  22. Brian April 29, 2016 at 11:53 am #

    Hi Dan

    I wonder if 5 years later, you have the same opinion on XEI? Has the dividend etf space diversified at all in Canada that something better is out there (perhaps from Vanguard)?

  23. Canadian Couch Potato April 30, 2016 at 1:18 pm #

    @Brian: Thanks for the follow-up. There are definitely more dividend options available now, but five years on I am more firm in my belief that investors are generally better off simply using low-cost total-market ETFs rather than screening for dividends.


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