GICs have never enjoyed much respect from investors or their advisors. Well, maybe they did in the 1990s, when it was possible to find guaranteed investment certificates yielding five or six percentage points above inflation. But in today’s low-rate environment, they’ve lost much of their appeal among retirees and other income-oriented investors. Meanwhile, bond funds are seeing huge inflows. It’s a shame, because GICs are superior to bonds in a number of ways:
Higher yield for the same risk. GICs covered by the federal government’s CDIC program carry virtually no credit risk, which makes them equivalent to Government of Canada bonds of the same maturity. But while five-year Canadian bonds currently yield about 1.35%, you can find five-year GICs with payouts twice as high. The main reason for that gap, of course, is that GICs are usually not liquid. For retirees who want to increase their income and don’t mind locking up cash for a few years, the reward is significant.
Lower cost. Advisor compensation for GICs is hardly transparent: many clients believe they’re getting these products for free. That’s not true, but GICs are often less costly than even bond ETFs, which can carry annual management fees of 0.30% or more. These fees are sometimes overlooked by investors who don’t realize that the yield-to-maturity of their ETFs is expressed before subtracting the fund’s MER.
Stability and predictability. A simple five-year GIC ladder provides a remarkably stable income stream in all but the most volatile interest-rate environments: whether interest rates move up or down has surprisingly little effect if the moves are modest. Of course, you can build a similarly predictable ladder using individual bonds. But unlike bonds, GICs don’t fluctuate in price with every interest-rate move, which is comforting to jittery investors.
Tax-efficiency. Fixed-income investments should be held in tax-sheltered accounts whenever possible. But when that’s not feasible, GICs are almost always preferable to bonds in non-registered accounts. Today the vast majority of bonds sell at a premium, which means their coupon payments are considerably higher than their yield to maturity. Those higher coupons result in a much larger tax bill.
Only the wealthiest retirees will be able live off the income from a GIC portfolio. But for investors with a significant allocation to fixed-income products, the humble GIC still has a lot to offer.
TD Retirement Portfolios