Bonds Explained

Fixed-income investments, such as bonds are called a “debt security.”   Issuers of bonds fall into two broad categories: governments and corporations, both national and international. When a borrower or debtor needs money, it issues a bond, which is purchased by investors who, in effect, are lending (acting as creditors) money to the issuer. The funds raised through the bond issue can then be used by the issuer for any purpose, including ongoing operations.

Bonds are issued with a specified face value, or principal amount, and with a fixed “maturity date,” the point at which the bond comes due and the issuer must repay the full principal amount to the bondholder. Bonds are issued with a wide range of terms to maturity – from one year to 30 years, although some bonds have been issued for as long as 100 years.

In return for borrowing the funds, the issuer guarantees the repayment of the face value of the bond and also makes regular interest payments to the bondholder as compensation for borrowing the funds. The interest rate is called the “coupon rate” of the bond and is typically payable twice a year.

Unlike a GIC or a Canada Savings Bond, however, which must be redeemed directly by the issuer, an investor can sell a corporate or government bond before its maturity date to another investor, and an active market exists for buying and selling bonds.

KEY FEATURES OF BONDS

There are a number of key variables to look at when investing in bonds:

  • The interest rate (also known as the “Coupon”).
  • The maturity date.
  • Redemption features.
  • Credit quality.
  • Price.
  • Yield.
  • Tax.
  • Type of bond.

Together, these factors help determine the bond that best suits the needs of the investor.

Bonds with the highest credit ratings are assigned an AAA or equivalent rating. Interest rates offered on such bonds will be among the lowest of all bonds. As the credit rating declines, interest rates rise, so that the highest rate of interest is offered on bonds that are considered below investment grade. These include the bonds at the bottom of the creditworthiness scale, which are known as “junk”bonds, because that is essentially what the investor is buying and that’s all he or she may end up owning.

GOVERNMENT BONDS

Among Canadian government bond issuers, federal government bonds are ranked the highest, with provincial bonds lower, and municipal bonds lower still. Thus, the highest rate of interest will be paid by municipal bonds. This may make municipal bonds sound risky, but this is not the case. Municipal bonds in Canada are typically a safe and secure investment, and some will be guaranteed by the province in which the municipality is located.

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Best GIC Rates

1 Year 1.05%
2 Year 1.35%
3 Year 1.85%
4 Year 2.00%
5 Year 2.05%

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