Government savings bonds
Many Canadians invest money in Canada Savings Bonds (CSBs) and Canada Premium Bonds (CPBs). These bonds are guaranteed by the Government of Canada. Much like GICs, interest is paid and the principal is guaranteed.
Here are some key facts to consider about government savings bonds:
Availability: Canada Savings Bonds are only available for sale from early October to November 1st each year, and are now only available via employer purchase programs where the investment can be taken directly from the employee’s paycheque. Canada Premium Bonds may only be purchased from early October to December 1st and are available at most financial institutions.
Interest Rate: Currently, the interest rate for Canada Premium Bonds is roughly the same as the interest paid on high interest savings accounts (i.e. roughly 1.00%). Canada Savings Bonds currently yield 0.5%.
Term: Canada Savings Bonds have a 3-year term and can be cashed at any time. Interest is accrued right up until the bond is cashed. By contrast, Canada Premium Bonds (also on a 3-year term), while cashable, only pay interest on the last full year the bond was held (known as the last “anniversary date”). No interest for a partial year is paid. Because CSBs have the advantage of paying interest until they are cashed, they come with a lower interest rate than CPBs.
Minimum Amount: For most savings bonds, the minimum investment is $100.
Regular bonds
Governments and corporations are constantly borrowing money to fund their activities. To do so, they issue bonds to investors. Much like a GIC, these bonds guarantee an investor’s principal plus a set rate of interest.
Availability: Similar to GICs, bonds pay interest to those holding them (typically before maturity). However, unlike many GICs, government and corporate bonds are not cashable before maturity. So if an investor wants to liquidate their bond before it matures, they must sell the bond to someone else. The bond “market” is traded actively, just like the stock market. You can buy and sell bonds year-round.
Here is where regular bonds differ from savings bonds, high interest savings accounts and GICs: selling a bond before it matures may result in either a capital gain or a capital loss. Let’s say you bought a corporate bond paying 4.00% a year, but then interest rates on comparable bonds plunged to 2.00%. While your bond still pays you 4.00% a year, it is now more valuable to an investor than the 2.00% alternative. In this case, other investors will “bid up” the face value of your bond. Bonds, and particularly corporate bonds, also have the possibility of default. So-called “junk bonds”, where the issuer may or may not remain in business, are very risky because the principal may never be repaid.
Interest Rate: Depending on the issuer, the interest rates on bonds can vary greatly. For example, with the Government of Canada, investors have a high degree of certainty the government will be able to repay them at the end of the bond’s term. As a result, the interest rate paid by the government will be relatively low. On the other end of the spectrum, let’s picture a company that is losing money and is already highly-indebted. For this issuer, investors are likely to demand a much higher rate of interest, to compensate them for the high risk that the company may default on the bond.
Term: Bonds can have terms as short as 1 year and as long as 30 years. Generally speaking, the longer the term, the higher the interest rate; this is to compensate the investor for increased risk, including the chance of higher inflation during the term of the bond.
Minimum Amount: Most government and corporate bonds are traded in increments of $1,000. However, when buying through a broker, the minimum investment is often $5,000.
As we’ve seen, there are a number of alternatives to GICs for your savings. Some, like high interest savings accounts, can pay decent rates of interest while remaining insured by deposit insurance. Savings bonds, while also government-backed, tend not to pay very high rates of interest. And regular bonds, while offering the potential for higher rates of interest, do come with both higher risk and higher potential reward. In all cases, it is crucial to understand who is backing your product and how quickly it can be turned into cash.
