Skip to content

Using instalment warrants to enhance yield

Photo of Peter Mermelas, UBS By Peter Mermelas, UBS

min read

How a Dividend Builder strategy works and the key risks and benefits.

Yield enhancement strategies are becoming increasingly prevalent as investors seek to maximise returns in a low interest rate environment.

UBS Dividend Builders are ASX-quoted securities that combine a share with a limited-recourse loan and are vehicles for investors seeking to achieve enhanced yields. Furthermore, because the loan embedded in the structure of UBS Dividend Builders is limited recourse, these instruments are way superannuation funds can borrow to invest.

Put simply, a yield enhancement strategy (when compared to unleveraged direct share ownership) will be successful if the cost of borrowing to buy the share is less than the total return on the share. This means investors can potentially enhance their returns using the same capital outlay. Alternatively, UBS Dividend Builders can make an investor’s money work harder and potentially achieve the same return for a smaller initial outlay (of course borrowing to invest can magnify losses as well and gains).

A case study
We can examine this through a hypothetical example. Assume you buy a UBS Dividend Builder over ANZ, such as ANZISI, and hold it for seven months. In that time ANZ pays two dividends totalling $1.60. Also assume ANZ was trading at $30.47 at the time of your investment and each ANZISI Dividend Builder was purchased for $11.72.

For every ANZISI Dividend Builder purchased, the investor obtains a beneficial interest in one ANZ share; entitling them to price performance, dividends and franking credits.

Because the price of an ANZISI Dividend Builder is lower than the price of an ANZ share at the time of purchase, for the same amount of cash invested, the UBS Dividend Builder could give exposure to more shares, which in turn translates to greater dividends and franking credits.
 

  ANZ shares UBS Dividend Builder
(ANZISI)
Purchase price per share (or UBS Dividend Builder) $30.47 $11.47
Number of shares (or UBS Dividend Builders) 656 1,706
Total share exposure $20,000 $51,982
UBS loan ($19.45 per ANZISI) $0 $33,182
Pre-paid interest over 7 months (at 5.80% p.a.) $0 -$1,123
Assumed dividends (total of $1.60 per share/ANZISI) $1,049.60 $2,729.60
Franking (assumed 100% franked) $449.83 $1,169.83
Gross dividends $1,499.43 $3,899.43
Gross dividends less interest cost $1,499.43 $2,776.78
Gross dividend less interest expressed as a percentage of total amount invested 7.50% 13.88%
Total amount invested $20,000 $20,000

Source: UBS

* This hypothetical example is not based on any actual prices for any UBS Dividend Builder, nor is it an indication, projection or forecast of underlying share price performance, dividends, loan amounts, interest costs, brokerage and fees which may, in practice, be significantly different to this example. It illustrates the effect of leverage on dividend income but does not show how leverage can also magnify losses (as well as gains) resulting from changes in variables such as the underlying share price. This is explained more fully under ‘key risks’ below.
This enhanced dividend yield strategy can be used over a wide variety of shares, allowing for a diversified underlying portfolio that can be built to generate enhanced sustainable yield.
While the case study looks at a holding period of seven months, which was sufficient time to capture two dividends from the underlying share, the holding period can in practice be much longer. For example, the loan could be maintained for several years, allowing for leveraged exposure to the underlying share, the dividend stream and any associated franking credits.


The holding entity for the investment can also make a difference, particularly the taxation rate that may apply to the holding entity. For example, holding the UBS Dividend Builder in your own name, where a marginal tax rate may apply, versus holding it in an SMSF in accumulation phase where the taxation rate is 15 per cent.

When buying underlying shares that pay fully franked dividends using UBS Dividend Builders in SMSFs, the fully franked dividend yield may be further enhanced because of the franking rate being 30 per cent and the taxation rate of the SMSF being 15 per cent.

In this case, the leveraged exposure to the share price and dividends could be further enhanced on an after-tax basis because of the difference in the franking rate versus the tax rate.

Key risks

  • Borrowing to invest will magnify and accelerate losses as well as gains, and borrowing costs such as interest will reduce any returns. Investors should be aware that the underlying share price and the UBS Dividend Builder price can go up or down and be volatile. Also, there is no capital protection; you can lose your entire purchase price.
  • There is an interest charge on the loan element and the interest rate applicable to each UBS Dividend Builder will vary over time.  Bear in mind that the interest rate for future interest periods will not be determined until the relevant annual interest date.
  • Enhancing your dividend yield is a key driver for investing in this product, so the dividends paid on the underlying shares is critical to performance. Actual dividends may be lower than you expect, which will reduce the effectiveness of your strategy.
  • Tax legislation changes may reduce your after-tax return.
  • UBS Dividend Builders may be terminated on an annual interest date or under certain extraordinary circumstances. Refer to the Master PDS for details and implications of such early termination.
  • You are exposed to risk if UBS (as issuer of UBS Dividend Builders) and UBS Nominees Pty Ltd (as security trustee holding the underlying shares) do not perform their obligations.
  • A more detailed description of the key risks of investing in UBS Dividend Builders is included in the Master PDS. Consult your financial, legal and taxation advisers if you need help to analyse these risks or the terms of UBS Dividend Builders set out in the Master PDS and Term Sheet

Further case studies, brochures and other information, including PDS and pricing sheets for UBS Dividend Builders, can be found here.

About the author

Peter Mermelas is a Director of UBS.
This information is communicated by UBS AG Australia Branch (ABN: 47 088 129 613, AFSL: 231087) and/or its affiliates ("UBS"). Before making an investment decision, you should read the corresponding Master Product Disclosure Statement (PDS) (for UBS Share Builders the Master PDS dated 25 September 2014 or 16 October 2015 (as applicable), and for UBS Dividend Builders the Master PDS dated 17 October 2014), the relevant Term Sheet applicable to the Series they wish to invest in (together the "PDS") and any applicable Supplementary Product Disclosure Statement(s) ("SPDS"), including sections relating to Key Risks. These documents are available by calling UBS on 1800 633 100 or on the website www.ubs.com/investmentbuilders
This document does not take into account your investment objectives, financial situation or particular needs. Accordingly, nothing in this document, the PDS or any SPDS is a recommendation by UBS or its related entities or by any other person concerning investment in any financial product and before acting on this information, you should consider its appropriateness having regard to your situation. We recommend that you not only consider the information in the PDS and SPDS but also obtain independent financial, legal and taxation advice as to the suitability of an investment in a financial product (bearing in mind your investment objectives, financial situation and particular needs).
Structured products and UBS Investment Builders are complex and may involve a high risk of loss. An investment in UBS Investment Builders is only available to persons receiving the PDS and SPDS in Australia. The PDS and SPDS do not constitute an offer of any financial product in any place in which, or to any person to whom, it would not be lawful to make such an offer. The distribution of the PDS and SPDS in jurisdictions outside Australia may be restricted by law and any person who resides outside Australia into whose possession this information comes (including nominees, trustees or custodians) should seek advice on and observe those restrictions. The financial products discussed in the this document, the PDS and SPDS may not be offered or sold in the United States of America (US) or to, or for the account of or benefit of, US persons. Accordingly none of the PDS, SPDS or the Application Form may be sent to persons in the US or otherwise distributed in the US.
UBS may from time to time, as principal or agent, have positions in, or may buy or sell, or make a market in any securities, currencies, financial instruments or other assets underlying the product or transaction to which this document relates. UBS may provide investment banking and other services to and/or have officers who serve as directors of the companies referred to in this document. UBS may pay or receive brokerage or retrocession fees in connection with this product or transaction. UBS' trading and/or hedging activities related to this product or transaction may have an impact on the price of the underlying asset and may affect the likelihood that any relevant barrier is crossed UBS has policies and procedures designed to minimise the risk that officers and employees are influenced by any conflicting interest or duty and that confidential information is improperly disclosed or made available.
UBS AG, Australia Branch is a foreign Authorised Deposit-Taking Institution ("foreign ADI") under the Banking Act 1959 (Cth), and is supervised by the Australian Prudential Regulation Authority. It is important for you to note that the financial products issued under the relevant Term Sheet(s), Master PDS and SPDS(s) are not deposit products and will not be covered by the depositor protection provisions in the Banking Act 1959 (Cth).
In any event, provisions in the Banking Act 1959 (Cth) for the protection of depositors do not apply to foreign ADIs including UBS AG, Australia Branch.  For example, depositors with foreign ADIs do not receive the benefit of the following protections: (i) Deposits are not covered by the financial claims scheme and are not guaranteed by the Australian Government. (ii) Deposits do not received priority ahead of amounts owed to other creditors. This means that if a foreign ADI was unable to meet its obligations or suspends payment, its depositors in Australia would not receive priority for repayments of their deposits from the foreign ADI's assets in Australia. (iii) A foreign ADI is not required to hold assets in Australia to cover its deposit liabilities in Australia. This means that if the foreign ADI was unable to meet its obligations or suspends payment it is uncertain whether depositors would be able to access the full amount of their deposit.
Copyright 2017 UBS AG, Australia Branch. All rights reserved. No part of this document may be reproduced or distributed in any manner without the prior written permission of UBS. UBS accepts no liability whatsoever for the actions of third parties in this respect.
 

From ASX

Warrants has information on the features, benefit and risks of investment and trading warrants.

The views, opinions or recommendations of the author in this article are solely those of the author and do not in any way reflect the views, opinions, recommendations, of ASX Limited ABN 98 008 624 691 and its related bodies corporate ("ASX"). ASX makes no representation or warranty with respect to the accuracy, completeness or currency of the content. The content is for educational purposes only and does not constitute financial advice. Independent advice should be obtained from an Australian financial services licensee before making investment decisions. To the extent permitted by law, ASX excludes all liability for any loss or damage arising in any way including by way of negligence.

© Copyright 2017 ASX Limited ABN 98 008 624 691. All rights reserved 2017.
Previous Next
Share: