Fixed Income
Savings Bonds
Savings Bonds issued by the Canadian and various Provincial governments are quite different than conventional bonds. Savings Bonds typically pay a specified interest rate annually (there are also compound interest bonds available) and are cashable at any time within a few months after they are issued.
The amount received for a Savings Bond will always be its face value if redeemed by the issuer, while the price received in the market for a conventional bond will depend on the level of interest rates at the time of sale. In addition, Savings Bonds may only be purchased by residents of Canada or of the province of issue, and may only be purchased up to a maximum amount-whereas there are no similar restrictions on conventional bonds.
GIC's
A GIC is a note issued by a trust company with a fixed yield and term. Many GICs are insured by the Canada Deposit Insurance Corporation (CDIC) for interest and principal totaling up to $60,000. At most banks, trust companies, and investment dealers, purchasing a GIC means locking in your funds for several years.
Treasury Bills
The shortest term, marketable debt instrument issued by the federal government. Ideal for investors seeking a short-term investment of one to twelve months, T-Bills are highly liquid, offer the highest security and a competitive yield.
Banker's Acceptances
A short-term promissory note issued by a corporation, bearing the
unconditional guarantee (acceptance) of a major Chartered Bank. BAs offer superior yields to T-Bills with higher quality and liquidity than most commercial paper issues.
NHA Mortgage-Backed Securities (MBS)
An NHA MBS is an investment which combines the features of residential mortgages and Canadian government bonds. MBS investors receive monthly income consisting of a blend of principal and interest payments from a pool of mortgages.
Bonds
A bond is secured by physical assets in a trust deed written into the fixed income contract. If the issuing company defaults on its payments, the trust deed provision allows certain specified assets to be seized by bondholders and sold to recover their investment. A debenture is a fixed income security that is not secured by any physical claim or lien on specific assets, and is backed only by the general credit of the issuer.
The most common form of debt securities are bonds. Bonds represent
a loan of funds by the investor to an organization seeking capital, usually
corporations or the government.
By purchasing bonds, an investor becomes
a creditor to the bond issuer. Holders of debt securities have a higher claim
on assets than that of shareholders. The bondholder, however, does not
share in the profits if a company does wellhe or she is entitled only to the
principal plus interest.
When purchasing a bond, the interest rate, sometimes
known as the coupon rate, is always specified along with the term to
maturity.
Bonds are not traded on an exchange, but sold through
investment dealers in an OTC environment, such as CanDeal.
The Canadian secondary debt market is comprised of
government and corporate debt issues with maturities ranging
from one year to perpetuity, although those starting with
maturities of more than 20 years are not common. Issues
that have remaining terms of more than 12 years are usually
considered to form the long-term market.
Strip Coupons And Residuals
These instruments are purchased at a discount and mature at par (100). For example, a Canada strip coupon maturing on March 15, 2003 with a yield of 5.31% would be priced at 77.07 to mature at 100. The difference between the purchase price and 100, is treated as interest income. Although this interest amount is not payable until maturity, a notional amount of interest is accrued each year which must be included as income for the purchaser for tax purposes. In comparison with bonds, strip coupons eliminate reinvestment risk over the term of the investment by virtue of paying no cash flows until maturity. A second related effect is that the price of a strip coupon will fluctuate more than the price of a bond of similar term. Finally, strip coupons generally offer higher yields than bonds of similar term and credit quality. The combination of these features makes them a popular choice for tax-sheltered accounts, such as RSPs and RIFs.
Laddered Portfolio
As its name suggests, the laddered portfolio is one made up of several fixed income holdings, each having a successively longer term to maturity. Typically each position in the portfolio would be the same size as the next, and there would be a roughly equal time interval between each maturity. Left on its own, such a portfolio would gradually liquidate itself over a number of years. But if instead, when each position as it matures is re-invested back out at the long end (i.e. at the top of the 'ladder'), then the portfolio acquires some remarkable properties which make it an ideal solution for the fixed income investor.
