# HBB - Horizon Canadian Select Universe Bond ETF



## larry81 (Nov 22, 2010)

It seem that horizon is preparing tu launch a new tax-efficient bond ETF (HBB):

http://www.horizonsetfs.com/Pdf/Prospectus/HJE_HXS_HXT_Prospectus.pdf

Discuss


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## humble_pie (Jun 7, 2009)

larry u are funny!

have the folks at PWL convinced you to go all couchy-potato?
whatever happened to the son of Suncor?


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## andrewf (Mar 1, 2010)

We're looking at a management fee of 0.15%, a swap fee of 0.15% and possible counterparty hedging expense of 0.0 to 0.1%. They seem to be trying to skirt the ruling that caused other 'tax-efficient' ETFs such as CAB and CSD to lose their ability to recharacterize income as capital gains or return of capital by not paying any regular distributions.

I don't know what the index characteristics are, but if we compare to one of the cheaper bond ETFs in Canada, CAB, with its management fee of 0.12%, we're looking at an incremental fee of 18 - 28 bpp. The tax benefit of the recharacterization of income as deferred capital gains with CAB's coupon of 3.46% is about 50% of 3.46% = 1.73% times your marginal tax rate for income. At ~45% depending on the jurisdiction, that's 0.78% in tax savings. Even better than that, though, is that the fund compounds before tax, and the gain is taxable only when sold.

With today's low rates, this fund is 'just okay'. If/when rates rise, though, this could be very helpful.


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## larry81 (Nov 22, 2010)

humble_pie, most of my assets are in a passive portfolio.

Suncor gamble was part of my 'play money', some call it 'core and explore'. I sold last year.

edit: lol @ 'the son of suncor'


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## larry81 (Nov 22, 2010)

andrewf nice comment.

A part from the tax saving, like you said what scare me of swap based ETF is the potential of CRA coming after the missing return. But its nice to see more and more fixed income ETF targeted at taxable investor:

BXF - First Asset DEX 1-5 Year Laddered Government Strip Bond Index ETF
ZDB - BMO Discount Bond Index ETF
HBB - Horizon Canadian Select Universe Bond ETF


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## andrewf (Mar 1, 2010)

If CRA goes after HBB, they are also going to go after other existing funds like HXT and HXS, which are operated on the same principle. Not to mention all the many billions of dollars of existing swap arrangements between institutions. I think the problem with CAB, etc. was that they were making distributions.

I'm not especially concerned about counterparty risk, given the nature of the swaps Horizon uses.


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## bettrave (Jan 10, 2013)

Since I don't want to pay more taxes right now and for a couple of more years, this ETF will be great for my non-registered account. I already own HXS and HXT.


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## andrewf (Mar 1, 2010)

Even if you wanted to generate a stream of income from this ETF, the taxation is considerably more favourable. If you were to sell an equivalent fraction of your holding in the ETF as the yield/distribution of the index, it would start off as almost entirely 'return of capital' with a small amount of capital gains, with the fraction being counted as capital gain rising over time. So not only is the 'other income' converted to a capital gain, most of that gain is deferred until much later. It also neatly avoids the problem with premium bonds, where the coupon rate is higher than the YTM, which hurts the tax efficiency of traditional bond funds significantly.


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## james4beach (Nov 15, 2012)

So this is a bond ETF that pays no distributions at all.

Just like the tax-advantaged bond funds before it, I think this ETF is trying to use cute derivatives games to evade taxes on a technicality. Fundmentally, interest income should be taxed. Think of zero coupon bonds... those don't pay coupons either, but they are still taxed (one pays tax on virtual interest being accrued).

I don't think CRA will let them get away with this. Maybe for a year or five, but how long? I agree it sounds tax efficient for now, though.

Personally I don't buy any ETF until it's been around long enough that I can see audited annual financial statements. I mean with interest rates this low anyway, who cares, everything rounds to zero with or without taxes.


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## andrewf (Mar 1, 2010)

I don't know. I think this is the only way I would be willing to own premium bonds in a taxable account.

And I'm not sure how easily CRA could separate this fund from all the other total return swap ETFs. Why does interest income get special treatment vs dividend and foreign income from HXT and HXS? And attacking the tax treatment of total return swaps is a bigger can of worms, with potential double taxation on both sides of the swap.


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## bettrave (Jan 10, 2013)

Any launch date?


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## larry81 (Nov 22, 2010)

bettrave said:


> Any launch date?


http://www.newswire.ca/en/story/135...ches-canada-s-first-swap-based-bond-index-etf

this morning !


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## larry81 (Nov 22, 2010)

bump

just noticed today that HBB is now at 135M$ of asset under management while BMO ZDB felt below 30M$ !


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## lindaphillipsbong (Apr 27, 2015)

Hello money peeps:
A question from a soon-to-be rookie DIY investor. I have $200K that needs to go into a bond ETF (unregistered). Should I be looking at VAB, or more risky (?) HBB? The risks are that CRA will change rules and I may have a tax bill coming? And that the underlying products might not be as secure? 
Thanks in advance for any advice.
Linda.

PS; should have added; I am 55, hoping to retire at 60.


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## andrewf (Mar 1, 2010)

I doubt there is much real risk of a change in tax status. It likely wouldn't be retroactive, as that would be a nightmare to sort out. Worst case would be the closure of the fund, triggering a capital gain, which would still be far less taxation than paying interest on the coupons from premium bonds. Premium bond funds like VAB are a disaster in taxable accounts.


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## lindaphillipsbong (Apr 27, 2015)

Thank you Andrew. 
If a person were to put some (all?) of his/her fixed income allocation into HBB, I have read in another thread, that instead of the traditional bonds-into-registered accounts, one might put equities into the registered accounts, and have this HBB as a taxable item. Is anyone doing this? 
Linda.


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## james4beach (Nov 15, 2012)

Thanks for keeping this thread alive. I was interested in this but wanted to revisit it after it has some track record.



larry81 said:


> (2015-06-15) just noticed today that HBB is now at 135M$ of asset under management


And today it's $169 million assets, another 25% growth in assets in just 6 months. So it definitely keeps attracting funds.

Wow, this is magical. It performs exactly like XBB. In this chart, HBB is green and XBB is blue. The blue line for XBB is adjusted for distributions, so you're seeing XBB total return. And HBB in green has no distributions, so it's intrinsically total return.

Look at this beauty. WOW:
http://stockcharts.com/h-sc/ui?s=HBB.TO&p=D&yr=1&mn=6&dy=0&id=p08059844179

I _would_ hold this non-registered, which produces no distributions and only a final capital gain/loss. Unfortunately due to being subject US tax law, I can't hold Canadian ETFs non-registered. Sigh. How frustrating


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## james4beach (Nov 15, 2012)

The swap counterparty is National Bank of Canada, right?

As I understand it, the risk of the swap has to do with the incremental total return offered. So if National Bank collapses, the current period's return may not materialize but the bulk of the HBB value would still be safe. Is that how others understand the risk?


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## Ostracized (Feb 7, 2014)

james4beach said:


> The swap counterparty is National Bank of Canada, right?
> 
> As I understand it, the risk of the swap has to do with the incremental total return offered. So if National Bank collapses, the current period's return may not materialize but the bulk of the HBB value would still be safe. Is that how others understand the risk?



Can you explain this further? What do you mean by 'current period's return'?

I also hold HBB (and HXT, HXS) and I worry about counter party risk.


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## GreatLaker (Mar 23, 2014)

james4beach said:


> The swap counterparty is National Bank of Canada, right?
> 
> As I understand it, the risk of the swap has to do with the incremental total return offered. So if National Bank collapses, the current period's return may not materialize but the bulk of the HBB value would still be safe. Is that how others understand the risk?


http://canadiancouchpotato.com/2011/10/24/etf-risks-in-perspective-synthetic-etfs/
From the above CCP link:


> Under Canadian mutual fund regulations, counterparty exposure cannot exceed 10% of a fund’s assets. This means that even if the counterparty did fail, the worst-case scenario is that an investor would recover 90% of the index’s current value.


Also:
http://canadiancouchpotato.com/2011/06/06/understanding-swap-based-etfs/
http://canadiancouchpotato.com/2011/06/08/swap-based-etfs-what-are-the-risks/

I used to own HXT. Sold it at the end of last year's dismal results in the TSX and replaced it with ZCN because I am approaching a life stage where I prefer ETF distributions over deferred capital gains. Something to consider if you are anywhere near the portfolio withdrawal phase of your investing lifecycle. :smilet-digitalpoint


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## james4beach (Nov 15, 2012)

HBB's 2014 annual financial statement shows that the majority of the fund assets are in cash & equivalents. They don't spell out where this cash is stored but "cash" often means money market/corporate paper so that has associated credit risk too.

Two parts of the financial statements that describe the risk (in a convoluted way) are the following:



> Since the Swap, like most swap agreements, may settle the obligations of each party on a net basis, the exposure of the
> ETF to the credit risk of the Counterparty is *limited to the positive mark-to-market of the Swap*, which is calculated and
> accrued on a daily basis.


and



> The ETF’s maximum credit risk exposure as at the reporting date is represented by the respective carrying amounts of the
> financial assets in the statements of financial position, including any positive mark-to-market of the ETF’s swap agree-
> ments. This amount is included in “Derivative assets” (if any) in the statements of financial position.


Figuring out the net effect of these would require further study, and the most recent audited financial statements. It's also worth noting that whether there's risk of loss depends on whether the current swap is a positive or negative value, i.e. does National owe us money, or do we owe National money? Therefore it's a constantly changing figure and the best you can do is see the past value.

Here's what I conclude about the risk:

1) The cash amounts/money market paper has counterparty risk, not spelled out
2) swaps pose minimal risk of loss. At 2015-06-30, the risk of loss was $66,019 out of the $144 million fund or NIL risk

I actually worry more about 1) than the swaps.


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## james4beach (Nov 15, 2012)

Additional note, at 2015-09-30, the swap portion of the fund shows as a negative amount ... this is an amount payable to National Bank. Therefore no portion of the swap represents risk of loss to HBB.

In past periods, the positive (receivable) portion of the swap looks like 1% to 2% of the NAV. So the risk of loss at those times could be up to 2% of the fund's value.

Overall, I wouldn't be worried. The swaps seems to be under 2% of the fund's exposure, sometimes zero. The cash/money market poses a risk but that would only happen in case of a serious credit crisis such as 2008. And I'd consider that more of a liquidity risk, like if there's a credit crisis and commercial paper becomes illiquid then the fund might have to freeze up.


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## Ostracized (Feb 7, 2014)

Thanks a lot for your input!


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## rinze (May 16, 2018)

james4beach said:


> Wow, this is magical. It performs exactly like XBB. In this chart, HBB is green and XBB is blue. The blue line for XBB is adjusted for distributions, so you're seeing XBB total return. And HBB in green has no distributions, so it's intrinsically total return.
> 
> Look at this beauty. WOW:
> (URL removed because the system won't let me)


I'm new to the forum and have been reading articles that mention swap-based ETFs. I found this thread and visited this graph today. It seems like the performance for HBB is lower. That difference we're seeing, is it caused due to the swap fee?


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## james4beach (Nov 15, 2012)

rinze said:


> I'm new to the forum and have been reading articles that mention swap-based ETFs. I found this thread and visited this graph today. It seems like the performance for HBB is lower. That difference we're seeing, is it caused due to the swap fee?


Good question, and I was surprised to see HBB underperforming XBB.

XBB has actually done a better job tracking its index. The iShares XBB page shows that 3 year performance is 1.12% annual return compared to its benchmark of 1.39%, so it's performing about 0.27% per year worse than the benchmark. That's due to the management fee, which by the way has been reduced further recently, so XBB should do even better vs its benchmark going forward.

HBB in comparison had 3 year performance of 1.02% versus its benchmark 1.34%, so it's performing about 0.32% per year worse than the benchmark.

When all's said and done, XBB has outperformed HBB by 0.10% per year. This seems to be a combination of the XBB benchmark doing better (+0.05%) plus XBB tracking closer to its benchmark (+0.05%).

If you're talking about a tax sheltered account, XBB is the clear winner. The total expense ratio is about 0.10%, whereas HBB's is more like 0.27% due to the swap fees. Both funds reduced their management fees last year but even after those cuts, XBB has much lower expense ratio.


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## rinze (May 16, 2018)

james4beach said:


> If you're talking about a tax sheltered account, XBB is the clear winner. The total expense ratio is about 0.10%, whereas HBB's is more like 0.27% due to the swap fees. Both funds reduced their management fees last year but even after those cuts, XBB has much lower expense ratio.


Thanks a lot for your answer. So, would this be a good example on the power of compound interest (compounding fees, in this case)?


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## Larry700 (Sep 2, 2017)

*HBB vs. XBB vs. VAB*











This table compares HBB and XBB and VAB, It appears HBB has done a lot better over 1 year. Explanation?


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## Larry700 (Sep 2, 2017)

delete


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## Jimmy (May 19, 2017)

Larry700 said:


> This table compares HBB and XBB and VAB, It appears HBB has done a lot better over 1 year. Explanation?


I think you saw the reason. 

That is from the G&M.Those returns are price only. As HBB pays no dividends , the returns all go back into the NAV and its price. The others pay dividends which reduces the NAV price. If you add the div yield of ~2.7%/yr to XBB, VAB for the 52 wk you will get similar returns.


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