BoC rate hike drives bond prices lower

The Bank of Canada targeted overnight rate was recently raised to 0.75 per cent. Bond prices fell, of course, so that yields would rise and keep pace with the higher rate. Further rate increases will drive bond prices even lower. GICs and a recommended BBB corporate bond may be more attractive fixed-income substitutes in your laddered portfolio.

What to do about bonds now

bond_InvestingIn the wake of the Bank of Canada’s decision to raise the target for its overnight rate on July 12, bonds prices have fallen, and their yields, therefore, have risen. Nonetheless, bond yields still remain low, and their prices should head lower if interest rates continue to rise.

If liquidity is not so important to you, we recommend you hold mostly GICs in the fixed-income component of your portfolio, as their yields are typically more attractive than those of government and high-quality corporate bonds. That said, you may be able to occasionally find a higher-yielding corporate bond to fit into your portfolio.

One of our recommended corporate bonds, the Fairfax Financial bond maturing Oct. 14, 2022, currently yields 3.39 per cent. We feel it would fit well into a laddered GIC/bond portfolio among securities with a five-year term, if you’re willing to accept some extra risk.

What to do about preferred shares now

We recommend that income investors carry a normal weighting of preferred shares in their portfolios right now—about five to 10 per cent of their overall portfolio. Further, if tax issues warrant it, preferreds could actually be overweighted right now, as these securities benefit from the dividend tax credit outside of registered plans.

Within that allocation, we recommend that you overweight floating-rate preferreds relative to straight fixed perpetual preferreds. Though interest rates have gone up lately, they still remain at historically low levels. And we expect them to go up further, even if only on a gradual basis. So the protection offered by floaters may turn out to be worth it. The downside, of course, is you’ll typically have to settle for lower yields.

Certainly floating-rate preferreds have done well since our last update on preferred shares. Since then our floaters have risen an average 10.7 per cent, while our three fixed perpetuals have declined an average 2.4 per cent.

This is an edited version of an article that was originally published for subscribers in the August 4, 2017, issue of Money Reporter. You can profit from the award-winning advice subscribers receive regularly in Money Reporter.

Money Reporter, MPL Communications Inc.
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