Physical vs synthetic UK income ETFs during the coronavirus volatility

162 UK-listed cancelled or suspended dividend payments between 19 March and 20 April

Tom Eckett

City of London UK

The heightened volatility earlier this year has highlighted a structural issue with how UK companies pay dividends.

Compared to the continent where European firms pay dividends on a T+1 or T+2 basis, there is just under a month-long gap between when a UK stock goes ex-dividend and when the payment is made.

When 162 UK-listed cancelled or suspended dividend payments due to the coronavirus turmoil between 19 March and 20 April, according to ETF provider GraniteShares, this impacted physical and synthetic UK equity income ETFs in different ways.

For physically-backed ETFs which accumulate dividends, the portfolio manager would have purchased all the index components in the ETF accordingly when the underlying stock went ex-dividend.

As Paolo Giulianini, ex-head of ETP trading at UniCredit, explained: “When the dividend was cancelled (before the payment date), the portfolio manager immediately sold the same index components bought on ex-date, as it was clear that that amount was not received.”

In this case, the ETF would have incurred transaction costs that were not expected. It should be noted that this was the same for mutual funds and index futures.

For physical ETFs which distribute dividends, the cash component of the ETF would have increased on ex-date by the dividend expected to be paid out on the payment date.

Therefore, when the cancellation was announced, the cash levels simply went back to the original level as the amount was not paid, and therefore, transaction costs remained minimal.

Finally, for synthetic ETFs, the swap provider would have had to follow the specific index so the performance would have followed the different cancellation policies applied by the different index providers such as MSCI and FTSE Russell.

When investing in synthetic income ETFs, it is crucial investors understand the index providers’ policies so they are not impacted by any unexpected returns.

“As you can imagine, the timing of the reaction was not the same, so the behaviour of each ETF had to follow the index,” Giulianini added.

The behaviour of these ETFs during the heightened volatility also highlights a potential flaw in the dividend payment system for UK companies.

“The market still has this issue for UK stocks,” Giulianini stressed. “It is something that should potentially be addressed.”


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