[Horizons BetaPro says that yesterday’s post overstated the risks associated with the BetaPro S&P/TSX 60 Index ETF. I received the following clarification from HBP that addresses the three risks mentioned in the post.]
Counterparty Risk
100% of the HXT portfolio is held in Cash securities with our Custodian and Sub-Custodians. Counterparty risk is limited to the marked-to-market value of the Swap, which in accordance with NI 81-102 governing mutual funds, cannot generally exceed more than 10% of the Net Asset Value of the ETF
From our perspective, there is very limited counterparty risk as it solely hinges on the very unlikely scenario that National Bank of Canada, one of Canada’s largest financial institutions, is not able to meet it’s obligations under the Swap.
There is potentially a higher tracking error that can result from traditional index replication – holding the physical securities – which can result in compounded tracking error over time and a difference in the returns of the ETF in comparison to the index it tracks.
Swap Fees
You wrote that you’re concerned that swap agreements could be amended and expenses may be amended, resulting in investors paying swap fees. Under the current Swap with our Counterparty, which matures in 5 years, this cannot happen. The swap fee is locked at zero for five years.
We used the words “Initially, …” in the Swap Fee section of the Prospectus because there is always the remote possibility that we have to enter into a new Swap with one or more new counterparties i.e. if the ETF gets too large for our current Counterparty, which may require us to pay a swap fee, we cannot quantify what is “too large” but we do not anticipate this ever happening.
Horizons BetaPro has a longstanding relationship with our Counterparty, and there has never been any issue with the existing over-the-counter derivative products used for other ETFs. . Individual investors are not expected to incur any distributions. As was stated in a previous email, in the unlikelihood that a distribution occurs, a process is in place to offset those gains to redeeming dealer unitholders. Again, individual investors will not incur the cost of any distributions.
Unclear Tax Treatment
Here is a complete explanation of the tax treatment of HXT which is available www.horizonsetfs.com/HXT
The Manager does not anticipate any income distributions from HXT for unitholders who buy and sell their units through normal market facilities. HXT should not have any net income for tax purposes to allocate to its unitholders who do not redeem their units. It is expected that any income that HXT earns in any year will be offset by expenses that are deductible during that year.
As the Manager intends to maintain the TRS, HXT should only realize income if the TRS has to be partially settled as a result of a redemption request that is done through the Manager instead of through normal market facilities. If this occurs, then the Manager intends, on behalf of HXT, to allocate any income realized to the party redeeming their units. Provided an HXT unitholder does not submit a request to redeem their units through the Manager, the Manager does not expect the unitholder will receive any income distributions for tax purposes.
Again, there is a remote possibility that the ETF will make a distribution, but Horizons BetaPro will apply the same standard of care in minimizing taxable distributions with its ETF it has taken with the other Horizons BetaPro ETFs, which have never paid a taxable distribution.
