I’ve always hypothesized that Canadian investors’ obsession with yield and income investing stems from the benefits of our Tax-Free Savings Account (TFSA) – thanks Jim Flaherty!
The TFSA’s structure allows tax-free growth and withdrawals, making it ideal for generating income that stays in your pocket, untouched by taxes. Compare this to the stricter Roth IRA in the U.S., where withdrawals come with more conditions.
When it comes to generating income, there’s no shortage of ETFs in Canada selling covered calls on stocks. Some track major indexes like the Nasdaq 100 or S&P 500, others are actively managed, and a few even get sector-specific or track single stocks. For higher payouts, some ETFs deploy 1.25x leverage to overcome the capped upside of the strategy—albeit at the cost of greater downside risk.
But in Canada, covered call ETFs don’t stop at stocks. If you want to diversify your yield portfolio beyond equities, there are options that cover cryptocurrencies and even Treasury bonds. Here’s a look at some of the most unique offerings from Purpose Investments and Hamilton ETFs.
Crypto premium yield
Canadian investors had access to spot Bitcoin and Ethereum ETFs before their U.S. counterparts, thanks to Purpose Investments. Those who stuck it out through the volatile 2022 bear market were rewarded with market-beating returns, even in the face of high price swings.
Speaking of volatility—it turns out it can be monetized. Why? Because higher volatility increases options premiums, all else being equal. This is why covered call strategies thrive on volatile assets. The more unpredictable the price movements, the more options traders are willing to pay for the right to buy or sell those assets.
Recognizing this, Purpose launched the Purpose Bitcoin Yield ETF (TSX:BTCYu) (TSX:BTCYb) (TSX:BTCY). This ETF sells covered calls on its existing spot Bitcoin ETF, using Bitcoin’s inherent volatility to generate premium income. The fund has $150 million in total AUM across its versions, with some key differences:
- BTCY is not impacted by USD/CAD exchange rate movements.
- BTCY.B benefits from a surging USD and is hurt by a falling USD.
- BTCY.U is denominated in USD.
It pays monthly distributions but comes with a hefty 1.41% MER. These distributions are fairly tax-efficient, consisting of a mix of capital gains and return of capital. As of December 23:
- BTCY pays an 11.68% distribution yield,
- BTCY.B pays 10.88%, and
- BTCY.U pays 11.51%.
Purpose has also extended this strategy to Ethereum with the Purpose Ether Yield ETF (TSX:ETHY), which pays 12.10%, 11.25%, and 12.04% yields, respectively, and charges a similar 1.40% MER.
Treasury premium yield
When you think of bonds, especially U.S. Treasurys, you probably consider them low-risk investments—and in terms of credit risk (the risk of default), that’s absolutely true. However, some Treasurys, particularly long-term bonds, are actually very volatile when it comes to price.
Treasurys with 20+ years to maturity typically have high duration—a measure of price sensitivity to changes in interest rates. Simply put, when long-term yields fall, the prices of these bonds rise significantly. Conversely, if yields rise, prices can fall just as sharply—exactly what happened in 2022.
Given this volatility, it’s possible to harvest high options premiums. While you can’t trade options on bonds directly, you can use ETFs holding these bonds as a proxy. That’s the approach taken by the Hamilton U.S. Bond YIELD MAXIMIZER ETF (TSX:HBND), which holds a portfolio of:
- iShares 20+ Year Treasury Bond ETF (NASDAQ:TLT) – 50.7%
- Vanguard Long-Term Treasury Index Fund ETF Shares (NASDAQ:VGLT) – 40.4%
- Vanguard Extended Duration Treasury Index Fund ETF Shares (NYSE:EDV) – 10.1%
HBND sells at-the-money calls on 50% of the portfolio, focusing on TLT, which has the most liquid options chain. At-the-money strikes are chosen to prioritize income generation, though the remaining 50% of the portfolio retains upside potential.
The distributions from these options premiums are typically classified as return of capital and capital gains, making them tax efficient. Importantly, HBND is managed by Nick Piquard, CFA, Chief Options Strategist at Hamilton ETFs. This isn’t a systematic approach—you’re getting true active management from a highly experienced options trader.
As of December 23, HBND is paying monthly distributions with a 10.79% distribution yield. However, note that the ETF’s average duration of 16.7 years makes it sensitive to changes in long-term yields.
For a lower-risk alternative, I personally like the Hamilton U.S. T-Bill YIELD MAXIMIZER ETF CAD Hedged Units (TSX:HBIL). HBIL uses a barbell strategy, with:
- 20% in TLT for income generation.
- 80% in the iShares 0-3 Month Treasury Bond ETF (NYSE:SGOV) for capital preservation.
Only the 20% allocation to TLT is used for selling calls, while the bulk of the fund remains safe in SGOV. This keeps the overall portfolio duration low at 3.4 years, significantly reducing sensitivity to yield changes. HBIL currently offers a 7.54% distribution yield.
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