High demand for U.S. blue-chip stocks leads to more CDRs – but how do they fit in portfolios?

Backed by high demand from do-it-yourself investors, financial advisors and portfolio managers, CIBC Capital Markets launched six more Canadian depositary receipts (CDRs) in September that track specific U.S. blue-chip stocks. That brings the total to 47 stocks two years after the initial launch of these investment products.

“The program has been really well received,” says Elliot Scherer, managing director and global head of the wealth solutions group at CIBC Capital Markets.

The new additions include software maker Adobe Inc. ADBE-Q / ADBE-NE, semiconductor maker Broadcom Inc. AVGO-Q / AVGO-NE, heavy machinery maker Caterpillar Inc. CAT-N / CATR-NE, pharmaceutical giants Eli Lilly and Co. LLY-N / LLY-NE and Johnson & Johnson JNJ-N / JNJ-NE, and aerospace and defence conglomerate RTX Corp. RTX-N / RTX-NE.

The CDRs have jumped to $2.7-billion in assets from $1.1-billion a year ago, and the value traded to date has topped $15-billion, up from about $4.5-billion a year ago, Mr. Scherer says.

CDRs were launched on the NEO Exchange in July 2021 and allow Canadian investors to buy a fraction of blue-chip U.S.-listed stocks in Canadian dollars without worrying about the volatility of the foreign exchange rate of converting Canadian dollars into U.S. dollars.

CIBC Capital Markets earns a hedging fee that’s capped at 0.5 of a percentage point per year. There are no ongoing management fees with CDRs. For most investors exchanging Canadian and U.S. dollars, fees can range from 1 to 2 per cent.

Mr. Scherer predicts that in the end there may be 75 to 100 CDRs on the list to offer Canadian investors the choice of investing in top U.S. stocks. CIBC Capital Markets is also continuing to explore whether international names will be added.

“It is something that we see as an important next step to meet specific feedback that we’re receiving from advisors and investors,” he adds.

‘Easy to get in and out of stock positions’

Douglas Lane, director and portfolio manager with Wickham Investment Counsel Inc. in Burlington, Ont., says he uses CDRs often in client portfolios as a way to get direct access to the big U.S. stocks, such as Microsoft Corp. MSFT-Q / MSFT-NE, for a fraction of the cost of buying shares in U.S. dollars and without having to take any currency risk.

“They are dominant and very attractive U.S. companies, and they trade pretty heavily, so liquidity is not a concern,” he says.

“You probably want some of these [stocks] in a client’s portfolio, maybe as a core position or as a trading position. This is a pretty easy way to do this.”

For example, if you wanted to buy 100 shares of Microsoft for a client, the stock currently trades at about US$330. It would cost US$33,000, or about $45,000 at current exchange rates. But the Microsoft CDR is about $24, so 100 shares would cost $2,400. That’s much more affordable for investors with smaller accounts and ensures they aren’t overweighted in any one particular stock, Mr. Lane notes.

He adds that CDRs make it easy to get in and out of stock positions if the opportunity arises. A CDR can be purchased more easily because it doesn’t require the client to have U.S. dollars in their account and they can buy a smaller amount.

While investors can buy an exchange-traded fund (ETF) of the S&P 500 that’s hedged to Canadian dollars, it means getting broad access to the market, not just to specific stocks a client might want to hold, Mr. Lane says.

He adds he would be interested if there were CDRs available for international stocks as well, especially luxury goods retailers such as LVMH Moet Hennessy Louis Vuitton SE.

Appealing from a ‘pricing perspective’

Aman Raina, investment coach and founder of Sage Investors in Toronto, uses CDRs in his own personal portfolio and likes them because he can purchase big U.S. stocks without having to pay a premium. He also likes you can buy a really expensive stock, such as Berkshire Hathaway Inc. BRK-A-N, which trades at around US$525,000 per share, for a fraction of that cost with a CDR, BRK-NE, at $26.50.

Mr. Raina says one downside is that the liquidity on CDRs is lower on the NEO Exchange with thousands of shares trading daily, while potentially several million shares of a particular stock trade each day on the U.S. exchanges.

On the upside, many Canadians want access to big U.S. blue-chip stocks but are wary of the high level of the U.S. dollar right now and shy away from taking on any currency risk with the Canadian dollar trading at around US73¢.

“CDRs may be very appealing right now from a pricing perspective,” he says.

The CDRs also closely match the performance of the underlying stock.

“They seem to track the underlying security pretty decently,” Mr. Raina says. “There’s no significant kind of tracking error I’ve noticed.”

Mr. Scherer says the day-to-day correlation between each CDR and the underlying U.S. stock is 99.8 per cent. “It’s really high and continues to track well.”

Access to buying fractional shares

But not every advisor is a fan of CDRs. Jason Pereira, senior partner and financial planner with Woodgate Financial Inc., says all Canadian financial institutions should offer clients the option to buy fractional shares – a portion of a share of higher-priced stocks.

Currently, online brokerages including Wealthsimple Trade, Questrade and Interactive Brokers LLC give investors that option, he says.

“It makes it more accessible for people with smaller amounts of money to get into these [stocks] and have a diversified portfolio,” Mr. Pereira notes.

Stock picking is also a challenge for most investors, he adds, and buying a diversified portfolio of ETFs can be a better move.

“You can buy the entire index for as cheap as one of these [CDRs] and do better on average in the long run,” he argues.

Investors are “better off not worrying about stock picking securities when they don’t have enough [funds] to buy them outright in the first place.”