Copyright © 2008 Pearson Education Canada 9-1 Chapter 9 Debt Securities

Copyright © 2008 Pearson Education Canada9-1

Chapter 9

Debt Securities

Copyright © 2008 Pearson Education Canada 9-2

Debt Securities Investor

Is the lender Generally assumes less risk

Less management attention required


Five Groups of Debt Securities

1. Deposits2. Money market securities3. Mortgage-backed securities4. Bonds and debentures5. Canada savings bonds


1. Deposits Easy way to invest Examples

Savings accounts Term deposits Guaranteed investment certificates

Appropriate base for any investment portfolio


Savings Accounts Availability

Banks Trust companies Credit unions Caisses populaires


Savings Account Features Vary by institution Some permit chequing Some require minimum balance Institutions compete on

Interest rates offered Frequency of interest compounding

More frequent compounding is better


Term Deposits Availability



Term Deposit Features Specified term usually less than a

year Minimum investment usually

Penalty for early withdrawal Guaranteed rate

Usually higher than savings account Institutions compete on

Interest rates offered Frequency of interest compounding


Guaranteed Investment Certificates (GIC’s) Specified term of 1 to 5 years Minimum investment usually Some are redeemable Availability



Deposit Insurance Canada Deposit Insurance

Corporation CDIC

Insures deposits in member institutions

Maximum coverage $100,000 per account


2. Money Market Securities Large pool of short-term debt Maturities 30, 60, 90, 365 days Sold at a discount

By governments By businesses


Types of Marketable Securities Treasury bills Commercial paper Bankers’ acceptances Government of Canada money

market strips


Commercial Paper Large corporations borrow

By selling commercial paper Price is discounted present value Minimum face value usually

$100,000 Higher rate of return than T-bills


Bankers’ Acceptances Short-term promissory notes Issued by a corporation Fully guaranteed by a bank


Treasury Bills (T-bills) Short-term promissory notes Issued by federal government

mainly Through Bank of Canada

Price is discounted present value Mature at par


Secondary Market for T-bills Investment dealers

Re-sell T-bills to small investors Investors must open an account

With an investment dealer Usually minimum purchase of $1,000 Investor can re-sell at any time

Not required to keep the T-bills to maturity


Government of Canada Money Market Strips Interest coupons separated from

bond Sold separately at a discount

Similar to T-bills No limit on amount purchased



4. Bonds and debentures

Bonds Debt securities Issued

By governments and corporations Interest paid periodically Matures at par value

At some future date Up to 25 years


Bonds Versus Debentures Term often used interchangeably Bonds

Secured with property Debentures

Unsecured Backed only by issuer’s reputation

Most government bonds Actually debentures


How Bonds Are Issued Issuer uses an investment dealer

As underwriters Underwriter agrees

To buy the entire bond issue At a specified price

To re-sell at a slightly higher price



Interest Rate on New Bond Issues Affected by

Interest rates in general Time to maturity Issuer's credit rating


Interest Rate on Existing Bonds Affected by

Different coupon rates Different degrees of risk Different maturity dates Other features

Convertibility to common stock Callable Retractable


Issuers of Bonds Federal government Provincial government Municipalities Corporations


Bond Features Bonds may have a variety of

features Callable Convertible Extendible Retractable Sinking fund Floating interest rate


Callable Allows issuers

To recall or buy outstanding bonds From current bondholders before the

maturity date Money may come from

Firm’s profits The sale of addition stock Or the sale of a new bond at a lower

interest rate


Convertible Permits bondholders To exchange bonds

For a specified number of common shares Allows for the possibility of a capital

gain


Extendible Permits bondholder

To extend the maturity date


Retractable Permits bondholder

To shorten the maturity date


Floating Interest Rate Issued during a period

Of rapidly changing interest rates Interest rates periodically adjusted

In relation to the T-bill rate


Sinking Fund Issuer sets aside money

Into a fund For the redemption of the bond issue

Funds held in trust By a trustee

Usually a trust company


Buying and Selling Bonds Bought and sold over the counter

Dealers trade from their own inventory of bonds

No commissions charged Dealers make money

By adding a markup (spread) to their cost


Yield to Maturity Interest rate that equates

Current price of the bond with Present value of

Interest payments And maturity value


Accrued Interest Interest earned on the bond

But not due And not paid to bond seller

Buyer pays accrued interest Earned on the bond


Bond Quotations Found in newspapers’ financial

pages National Post Globe and Mail



Taxation of Bond Yields Depends upon whether it is

Interest income 100% included in taxable income

Capital gain 50% included in taxable income


5. Canada Savings Bonds

Two Types of Canada Savings Bonds Regular interest bonds

Interest paid annually Denominations

$300 to $10,000

Compound interest bonds Interest paid at redemption or maturity Denominations

$100 to $10,000


Features of Canada Savings Bonds Not really bonds Issued by Bank of Canada Sold by most financial institutions

To Canadian residents only Guaranteed rate

for one or more years


Features of Canada Savings Bonds Not traded to another party Non-callable Redeemable at any time Interest is paid every November 1 No interest paid for partial months


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Copyright © 2008 Pearson Education Canada 9-1 Chapter 9 Debt Securities