A Review of The Hamilton Enhanced Canadian Bank ETF (HCAL)

ByDan Kent Published On:

Canadians love their bank stocks; they always have. For this reason, they’re always exploring new options and funds that get released.

And in this article, we’re going to be going over a relatively new fund that gives you unique exposure to the Canadian banking sector, the Hamilton Enhanced Canadian Bank ETF (HCAL). Hamilton ETFs are lining themselves up to be one of the largest income-focused fund providers in Canada.

This ETF provides equal-weight exposure to the “Big Six” banks in Canada, with a strategy that includes a measure of leverage to potentially enhance returns. With its monthly yield payments, the investment objective of HCAL is to provide leveraged exposure to the banks and higher dividends.

Understanding the nuances of leveraged ETFs like HCAL is crucial, as it involves a 25% cash leverage approach, magnifying both potential gains and losses compared to non-leveraged funds. 

Not everyone will be comfortable with it, but the important thing is you understand the intricacies of the fund before deciding that for yourself.

Hamilton Enhanced Canadian Bank ETF (HCAL) Overview

Hamilton Enhanced Canadian Bank ETF (HCAL) provides you with an opportunity to invest in an equal-weight portfolio of Canada’s “Big Six” banks, utilizing modest leverage to enhance returns potentially.

The leverage element of the fund is what most will be attracted to; it is the portion of the fund that is going to be the reason why the fund is able to offer higher distributions than the competition.

Management fees

The management expense ratio for HCAL fluctuates quite a bit. You’ll see the fund quotes a management fee of 0.65%; however, the management expense ratio comes in higher than this because of the costs of financing and other trading-related costs.

As of the most recent data I found, the management expense ratio came in at 0.78%.

The fees for HCAL are in line with many specialized investment products, and we do have to understand that it does cost money to utilize leverage. As such, this fund is going to have a much higher management fee than your standard index fund or all-in-one fund like XEQT or VEQT.

Top holdings

The fund’s top holdings are relatively simple. It contains equal-weight positions in the six largest banks in Canada:

  • Royal Bank of Canada
  • Toronto-Dominion Bank
  • Bank of Nova Scotia
  • Bank of Montreal
  • Canadian Imperial Bank of Commerce
  • National Bank of Canada

However, it doesn’t do it by owning these banks individually. Instead, it just owns its own ETF, the Hamilton Canadian Bank Equal-Weight Index ETF (TSE:HEB).

If this was the gist of the fund, I’d certainly just say you’re better off buying the banks individually and saving on the management fee. However, it is the leverage where you gain an edge (if you’re comfortable with it, of course). We’ll talk about that later on.

Assets under management

The fund has over $480M in assets under management (AUM) at the time of writing. Considering the fund only started up in 2021, this is a pretty impressive number to be sitting at in just a short time, and it goes to show how much Canadians love and want to own Canada’s big banks.

Distributions

The fund is designed to provide you with a high monthly income, which is paid from the dividends and income generated by the underlying assets within its portfolio.

The fund routinely yields over 7.5%, much higher than most Canadian dividend ETFs, and depending on how Canadian banks do, the distribution can be made up of different forms of income. For example, if Canadian banks do well, you may see a mix of dividends and capital gains.

If they struggle, you may see the fund return dividends and return of capital.

Who is HCAL for?

Those who want financial exposure with leverage

If your goal is to gain amplified exposure to Canadian banks, HCAL may be a suitable option. It provides an equal-weight exposure to Canada’s “Big Six” banks with a modest 25% cash leverage, potentially enhancing your returns when the underlying banks perform well.

The only important thing to understand here is that leverage works well as stocks are increasing. However, you’re also leveraged when they go down. You need to consider both situations and decide if it’s right for you.

Those who want income

Investors seeking higher monthly income might find HCAL appealing due to its yield, which is much higher than traditional Canadian bank ETFs and is distributed monthly. 

Those with a higher risk tolerance

This ETF’s strategy entails higher risk and volatility compared to traditional equity assets. Your risk tolerance should align with this approach, especially considering the leveraged nature of HCAL, which can magnify both gains and losses. 

Remember, while leverage can increase potential returns, it also increases the risk.

How does HCAL work

25% leverage amplifies returns (and losses)

HCAL uses a 25% cash-leverage strategy, which means for every $100 invested by shareholders, an additional $25 is borrowed on cash to invest. This leverage aims to amplify gains when the underlying bank stocks perform well; however, it also magnifies losses during downturns. 

You should be mindful of the potential for increased volatility and balance this with your risk tolerance.

How leverage allows it to offer a higher yield

The employment of cash leverage enables HCAL to offer a yield that is typically higher than unleveraged ETFs covering the same sector. 

HCAL aims to generate and distribute higher income to investors by borrowing at institutional rates to invest more capital. When the fund comes up short in terms of total distribution, it will issue a return of capital distribution to maintain its high yield.

How HCAL allocates its assets

HCAL simply holds the Hamilton Equal-Weight Bank Index ETF (TSE:HEB). This ETF is one of the lowest cost equal weight banking ETFs out there. The fund will then utilize 25% cash leverage to buy more HEB.

How often does HCAL rebalance

HCAL rebalances semi-annually, which aligns with the index that it tracks.

How has HCAL performed?

HCAL vs. ZEB performance

HCAL, with its approach to include leverage to enhance returns, offers a distinct strategy compared to the BMO Equal Weight Banks Index ETF (ZEB), which follows a no-leverage, equal-weight approach that tracks the same index.

I used ZEB as an example because it’s the most popular banking ETF in the country, and it has virtually the same holdings as HCAL outside of the leveraged component.

In terms of performance, since HCAL was started in 2020, it has been virtually next and neck. HCAL benefitted significantly during the banking runup in 2021 and, at one point, was outpacing ZEB by quite a wide margin.

However, the bank drawdown in 2022 and 2023 wiped out most of its advantage over ZEB, highlighting how leverage works in both ways.

Ultimately, this should be a good example of when HCAL will do well and when it will struggle. When banks go up, they will perform better than most banking funds because of the 25% cash leverage.

And when banks are struggling, the leverage will cause them to underperform.

Alternatives to HCAL

When exploring alternatives to the Hamilton Enhanced Canadian Bank ETF (HCAL), as an investor, you have a variety of options to consider. Keep in mind both the funds listed below are not leveraged. One is a simple ETF that tracks the banks, and the other is one that deploys a covered call strategy, another strategy that allows investors to generate higher income.

  • BMO Equal Weight Banks Index ETF (ZEB): This ETF offers an equal weight strategy, which includes major banks like the Bank of Montreal, Royal Bank of Canada, Toronto-Dominion Bank, Canadian Imperial Bank of Commerce, and National Bank of Canada. It aims to replicate the returns of the Solactive Equal Weight Canada Banks Index, providing daily returns without the use of leverage.
  • BMO Covered Call Canadian Banks ETF (ZWB): For investors interested in strategies beyond simple equity holdings, this ETF implements covered calls to provide income on top of dividends potentially. By selling call options on the equity positions, an added layer of income is introduced, albeit with a trade-off in terms of capping the growth potential.

Before choosing to purchase one of these alternatives, you should consider the amount you aim to invest and whether it aligns with your financial goals. 

Additionally, each ETF comes with its own set of risks and opportunities based on its unique approach to the market, whether it be through equal weight distribution or additional options strategies. Therefore, your decision should be influenced by both your risk tolerance and investment strategy.

My overall opinion on HCAL

I think Hamilton’s leveraged bank ETF is a fairly reasonable fund. Its use of cash leverage certainly presents a unique opportunity for many Canadians who are comfortable with it. However, it does deploy a bit of a market timing element to it to avoid the downside risks of that leverage.

Considering the structure and oligopoly the Canadian banks operate here in Canada, the leveraged aspect of this fund should help you more often than not, as I’d expect Canadian banks to be in a bull market more often than not. 

However, when the banks are down, this fund will struggle, and anyone who bought this in early 2022 during the bank drawdown has likely witnessed this. It underperformed an equal weight bank strategy during this period by a solid margin.

But I do not blame the fund for this; it is simply the nature of the leverage. As an investor, you need to decide if it’s right for you.