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How to buy bonds

The bond market, being much bigger than the stock market, requires a different approach than stock investing.

Investing in bonds can be a trying experience. But whether you use a full-service or discount broker, bonds serve as a great portfolio stabilizer.

We’ve always recommended buying your fixed-income securities directly rather than through a mutual fund. That’s because you can’t plan your cash-flow requirements using a mutual fund. But buying bonds, GICs and stripped coupons directly lets you match maturities to your future cash needs.

What’s more, with long-term bonds yielding less than two per cent these days, we doubt many fixed-income funds will be able to justify their management expense ratios, many of which exceed one per cent. Even GICs offer highly competitive rates. After all, they’re the product of the banks competing with brokers for your fixed-income securities business.

Like shopping in a store

But investing in bonds takes a little know-how. If, for example, you expect the same yield on a Government of Canada (GOC) bond that’s quoted in the media, you’ll be disappointed. The current yield on the benchmark five-year GOC bond, for example, is 1.33 per cent. But if you use a discount broker, say, you’ll receive a lower yield on this bond—perhaps 10 to 15 basis points lower, depending on the amount of money you have to invest.

There’s a reason for this difference. The bond market, being much larger than the stock market, is a much more efficient pricing mechanism.

In other words, it’s much harder to find bargains. Higher yields abound if you’re prepared to take higher risk. But higher yields for comparable risk are hard to find. And a bond trader’s idea of a bargain will be different from a stock-market investor’s. That’s because a board lot in the bond market is $100,000. So a few points of yield can make a nice profit on a trade.

If you’re buying less than that, however, finding what you want at a reasonable price may be difficult. Most brokers keep inventories of bonds for trading purposes and their clients. So if you want to invest, say, $10,000 in a federal government bond maturing in five years, remember you’re a retail buyer so you can expect retail prices.

Other bonds pay more than the government of Canada

If you want a higher yield, accompanied by higher risk, you can consult your broker for the availability of provincial bonds, municipal bonds, corporate bonds, stripped coupons and so on. For example, you can use $10,000 to buy the five-year bond offered by Cameco Corp. listed in the Money Reporter [1]’s table of Recommended Bonds and Preferred Shares. With that, you can obtain a yield of 3.07 per cent. (Note, we list retail prices and yields in our bond tables.)

GICs lock up your money, but pay more

When you’re planning a fixed-income portfolio, don’t overlook GICs. They aren’t as bad as some would have you believe. For example, as noted above, the benchmark five-year GOC bond yields just 1.33 per cent. But you can get about 2.20 per cent on a five-year GIC offered at one of the big banks.

Even better, Luminus Financial was recently offering 3.25 per cent on the same term GIC. GICs, then, are great if you don’t mind having your money locked in for the length of their terms. (Note, if you deal with a discount broker, it may offer GICs from different financial institutions, but at lower yields.)

Few financial advisers and mutual-fund specialists will be able to address all your fixed-income needs. Some will broker the GICs of other institutions. But for bonds and stripped coupons, you’ll need a broker. And if you want these securities in your registered plan, you’ll probably need a self-administered plan.
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This is an edited version of an article that was originally published for subscribers in the June 28, 2019, issue of Money Reporter [1]. You can profit from the award-winning advice subscribers receive regularly in Money Reporter. [1]

Money Reporter [1], MPL Communications Inc.
133 Richmond St. W., Toronto, On, M5H 3M8, 1-800-804-8846