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GIC vs. Bonds

Which Should You Invest In?

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When it comes to investing your money, there are many options available in the market. Two popular options are Guaranteed Investment Certificates (GICs) and bonds. Both of these investment options have their own advantages and disadvantages, making it difficult for investors to decide which one is right for them. On this page, we’ll compare GICs vs. bonds based on various factors so that you can make an informed decision about where to put your hard-earned money.

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A Guaranteed Investment Certificate (GIC) is a type of investment where you deposit your money with a financial institution for a fixed period of time at a fixed interest rate. At the end of this term, you receive your initial investment plus the accumulated interest. It’s “guaranteed” because the financial institution guarantees that you will receive your initial investment back, along with the agreed upon interest.

GICs are even further protected with deposit insurance, which means that if the financial institution fails, your initial investment and accumulated interest are still guaranteed by the government through the Canada Deposit Insurance Corporation (CDIC) for banks and your provincial government for credit unions.

As you can’t lose any money, this makes GICs a popular choice for risk-averse investors who are looking for a secure and steady return. Some GICs may have a variable interest rate based on prime or the return of a specific market index, but your initial investment is still guaranteed by the issuer. GICs may also pay out interest semi-annually or annually.

Bonds are loans taken out by governments or corporations to raise funds. When you purchase a bond, you are lending money to the issuer, and in return, they pay you interest on that money for a set amount of time. Once the bond reaches maturity, you receive your initial investment back.

There are different types of bonds, including government bonds, corporate bonds, and municipal bonds. They also have different names depending on how long it is until maturity. These include Treasury bills (T-bills) for Canadian government bonds maturing in less than 1 year, notes for 1 to 10 years, and bonds for more than 10 years. The most commonly quoted bond is the 5-year Government of Canada bond.

Bonds are graded by credit rating agencies to determine the likelihood of an issuer defaulting on their payments. The higher the credit rating, the lower the risk of default and the more likely you are to receive interest payments in full and on time. Generally, the lower the credit rating, the higher the interest rate offered on the bond. This means that investors who are willing to take on more risk may receive a higher return on their investment.

This ranges from AAA (the highest rating) to C or D (considered to be in default). Bonds below BBB- are considered “below investment grade” or “speculative grade,” and are also known as high-yield bonds or junk bonds.

Now that we have a basic understanding of GICs and bonds, let’s compare them based on various factors.

Bonds have varying levels of risk based on the credit rating of the issuer. Canadian government bonds are essentially risk-free, while corporate bonds are not. Meanwhile, GICs are risk-free up to the deposit insurance coverage limit, which is $100,000 for the CDIC and varying amounts for provincial credit unions. When it comes to risk, GICs are generally considered a lower risk investment option compared to corporate bonds, but have the same risk level as most government bonds.

In terms of rates of return, corporate bonds generally offer higher interest rates, or “yield”, than GICs. This is because corporate bonds are riskier investments and require a higher return to compensate for this risk. GICs, on the other hand, have lower interest rates but offer a guaranteed return if your GIC is below the CDIC limit of $100,000. GIC rates vary among different financial institutions, but the best GIC rates might be higher than the Government of Canada (GoC) bond yields with comparable maturity. However, average GIC rates are certainly lower then GoC bond yields with comparable maturity.

GICs and bonds both have fixed terms, but there are still ways to access your money. With redeemable GICs, you can withdraw your money before the term is up, but with a lower interest rate. Cashable GICs allow you to withdraw your money at the same interest rate. GICs with the highest interest rate are usually non-redeemable GICs, meaning that your money is locked in. Even with non-redeemable GICs, you can still tell your financial institution that you need your money, and most banks will still release your money. However, they will charge a penalty.

Bonds can be sold on the secondary market before maturity, but this may result in a loss or gain depending on market conditions. That’s because bond prices can change, just like stocks. In terms of liquidity, bonds are often more liquid than non-redeemable GICs, but generally are just as liquid as cashable and redeemable GICs. The liquidity of a specific bond generally depends on the size of its issue. Government bonds are often issued in large quantities and so are often quite liquid.

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40-Year Average Annual Return (1982-2022)

Source: RPIA (1-Year GICs by Major Banks and the FTSE Canada Bond Index)

Historically, bonds have outperformed GICs. In the past 40 years, from 1982 to 2022, bonds outperformed the return of 1-year GICs in 33 out of the 40 years, according to RPIA. That’s based on annual returns from the FTSE Canada Bond Index, which includes both government and corporate bonds.

When looking at the average annual return over the past 40 years, the 7.44% annual return of a bond index is almost double the 3.88% annual return of big bank 1-year GICs. With bonds having a higher return than GICs 80% of the time, it's clear that they have the potential for higher returns.

If you had invested $10,000 in 1982, with annual compounding, you would end up with $45,843 with GICs or $176,457 with bonds by 2022. That’s quite a significant difference!

This comparison is based on the 1-year GIC rates of major banks, which are often not the best GIC rates that you can get. Similarly, the FTSE Canada Bond Index might not fully represent the best bonds to invest in.

You also can’t directly invest in the FTSE Canada Bond Index, but you can easily invest in exchange-traded funds (ETFs) that track this index, such as the iShares Core Canadian Universe Bond Index ETF (XBB). If you have a margin account at a brokerage, you can even buy bond ETFs using margin to magnify your potential returns!

While bonds had higher returns over a long investing period, the same is also true for stocks. If you had invested in equities over the same 40-year time span, you would have also outperformed bonds. From 1982 to 2022, the 40-year average annual return for stocks was 11.6% in the U.S. according to Rocket Money. A $10,000 investment in 1982 would turn into $806,432 by 2022!

40-Year Investment Gain (1982-2022)

From a $10,000 Initial Investment with Annual Compounding

Short-Term Performance

It’s important to note that the coupon rate of bonds will still remain the same regardless of how the bond price changes. However, since bond prices can fluctuate based on market conditions, GICs may outperform bonds in certain short-term scenarios. For example, if there is a sudden increase in interest rates, bonds may lose value through a lower bond price while GICs will maintain their fixed return. That’s because bond prices move in the opposite direction of interest rates. If you’re not holding the bond until maturity, you might get a lower or negative return. However, if interest rates remain stable or decrease, bonds may outperform GICs in terms of returns. This is because bond prices will increase and the fixed return on GICs will remain stagnant.

This situation unfolded in 2022 and 2023 when the Bank of Canada significantly increased interest rates, bringing the overnight rate from 0.25% in early 2022 to 5.00% by mid-2023. Bond prices fell dramatically, bringing negative returns to bond investors. For example, the TD Canadian Aggregate Bond Index ETF decreased by almost 15% from September 2020 to September 2023. At the same time, GIC rates also rose, but initial GIC investments are guaranteed and protected. During this time, GICs had a higher return compared to bonds.

A similar result is also seen with the TD High Yield Bond Fund. It has underperformed compared to GICs over the past 5 years, with an annualized return of less than half of GICs. Below, we’ve compared historical returns of Tangerine’s 1-year GIC with the TD High Yield Bond Fund.

Return of GICs vs. High-Yield Bond Mutual Funds

GICs vs. High-Yield Bond Mutual Funds

(5-Year Performance)

The short-term performance of a bond can also be affected by the credit rating of the issuer. If an issuer's credit rating is downgraded, the price of their bonds will decrease. That negatively affects bondholders.

Below, we’ve compared the return of 1-year GICs with Canadian government bonds through the iShares Core Canadian Government Bond Index ETF, which tracks federal, provincial, and municipal government bonds. The return of government bonds have been even worse, despite being risk-free, due to rapidly rising interest rates in 2022. iShares quotes the return in 2022 as -12.45%, and the annualized 3-year return as -5.68%. The weighted average yield to maturity of the ETF is 4.61%, and the weighted average coupon is 2.78%.

Return of GICs vs. Government Bond ETF

GICs vs. Government Bond ETF

(5-Year Performance)

Interest Rate Environment:

The current interest rate environment has a significant impact on bonds. When interest rates rise, bond prices tend to decrease, while GICs maintain their fixed return as they do not trade on a secondary market, but the value that they provide to the investor also decreases. That’s because investors can now get a better interest rate from other investments, making the bond’s fixed coupon or GIC’s fixed return less competitive.

If investors want to get a higher interest rate, such as from a new bond, they will need to sell their old bond at the now-lower bond price. This can lead to a decrease in the value of their investment.

On the other hand, when interest rates decrease, bond prices increase, making them potentially more attractive. That’s because they’re now paying a higher interest rate than what other newer bonds on the market are paying, making them more valuable.

Meanwhile, GICs have reinvestment risk if interest rates decrease, as GIC investors will need to renew their GIC at lower interest rates when their term expires. The GIC rate is the rate that you get, while bonds have a yield that can change if it is sold prior to its maturity. Bonds also have reinvestment risk, with the risk being the same if they have the same term length as GICs.

Credit Rating:

Generally, the higher the credit rating of a bond issuer, the lower the yield on the bond may be. This is because investors are willing to accept a lower return for a lower-risk investment. This allows you to potentially increase your returns by increasing your risk, such as by investing in junk bonds or speculative bonds.

GICs have more limited risk, but there are options to take on some risk too. Market-linked GICs, for example, offer a potentially higher return if an underlying market index performs well. However, it’s important to keep in mind that these types of GICs also have a cap on potential returns.

Maturity Date:

Generally, the longer the term or maturity of a GIC or bond, the higher the potential return may be. That’s because you’re locking in your money for a longer period of time and taking on more risk. However, there is also a higher level of risk associated with longer-term investments as they are more susceptible to changes in interest rates and market conditions. If interest rates rise during the term of a GIC or bond, they may miss out on potentially higher returns.

Bonds and GICs can be held in registered accounts, such as a tax-free savings account (TFSA), registered retirement savings plan (RRSP), or registered education savings plan (RESP). For example, interest earned on GICs or bonds aren’t taxed in a TFSA.

For GICs and bonds held in non-registered accounts, bonds are generally more tax efficient if purchased at a discount. That’s because while interest income is fully taxed at your marginal tax rate, capital gains on bonds are only taxed at 50%.

In contrast, GICs do not have any potential for capital gains or losses as they can’t be traded and are normally held until maturity. This means the full interest earned is subject to taxation. This can impact your overall return on investment and should be carefully considered when choosing between GICs and bonds.

GICs vs. Bonds: Tax Example

To compare taxes between GICs vs. bonds, let’s take a look at a bond and GIC with the same yield-to-maturity (YTM), which is the return if held until maturity.

To see how a bond can be tax efficient with capital gains, we’ll use a discount bond purchased below par, which means that some of the yield is through purchasing the bond below par, and then redeeming it at par. This part is the capital gains. The rest is through the coupon rate.

In the table below, we’ve listed the investment characteristics. The bond has a bond price of $97.50 and a coupon rate of 2.37%, giving a YTM of 4.99%. The 1-year GIC has a rate of 4.99%. In both cases, we’ll invest $100,000.

GIC vs. Bond Example

Investment Characteristics

Next, we’ll calculate the returns. A portion of the bond’s return is from the price going to par, $100, at maturity.

1-Year Return of GIC vs. Bond

Return Calculation

For the tax calculation, we assume a marginal tax rate of 53.53%, which is the highest marginal tax bracket in Ontario.

Since only 50% of capital gains are taxable, it results in a much lower total tax of $1,938 for bonds compared to $2,671 in tax for the GIC. This gives a net return after taxes of 2.93% for bonds and 2.32% for the GIC, even though they both originally had the same yield before-taxes of 4.99%.

1-Year Return of GIC vs. Bond After Taxes

Tax Calculation

When deciding between GICs and bonds, it's important to consider your risk tolerance and personal investment goals. Are you looking for a low-risk option with a guaranteed return? Or are you willing to take on more risk for the potential of higher returns?

If your goal is capital preservation and steady income, GICs may be a suitable choice. However, if you're looking for higher returns and are comfortable with taking on more risk, bonds may be a better option.

Your time horizon, or how long you plan to hold your investments, is also an important factor to consider. GICs are a better option for shorter-term investments, while bonds may be more appropriate for longer-term investments.

When interest rates go down, the value of bonds goes up. In such situations, the return of long-term bonds will be quite attractive. However, if interest rates rise, the value of bonds goes down. In a rising interest rate environment, investing in bonds might not be such a great idea, as the value of your bonds will decrease when rates increase. This makes it important to consider both current interest rates and potential future interest rates when choosing between GICs and bonds.

Interest from GICs are fully taxes, while only 50% of capital gains are taxable from bonds. If you’re investing using a non-registered account, in an environment where rates decline, bonds can be more tax efficient, meaning that you can keep more of your investment gains. But when interest rates are falling, GICs will be more tax efficient.

GICs offer no risk and a guaranteed return, making them suitable for conservative investors with a short-term investment horizon. Bonds can be more beneficial for those with a higher risk tolerance and a long-term investment perspective. They offer the potential for higher returns, outperforming GICs 80% of the time, and can be more tax-efficient. However, they come with a risk of capital loss if interest rates rise. There is also risk of default for corporate bonds, or write-downs, as famously seen with Credit Suisse. As always, it's recommended to seek advice from a financial advisor to make the best investment decision for your specific situation.

The main difference between GICs and bonds is that GICs offer a guaranteed return while bond returns are not guaranteed and can be affected by changes in interest rates or the financial strength of their issuer.

Interest income is fully taxable, while only 50% of capital gains are taxable. All of the return from a GIC is interest income while a portion of return from a bond may be in the form of a capital gain. However, bond investors may also face a capital loss if interest rates rise.

Both GICs and bonds are fixed-income investments, which means that they can generate a steady stream of income. Generally, fixed-income investments are paired with equities in an investment portfolio to create a balanced mix of risk and return. Including both GICs and bonds in your portfolio can help diversify your investments and reduce overall risk.

GICs offer a guaranteed return, so investors cannot lose their initial investment, unless their GIC investment is over the deposit insurance coverage limit and their GIC provider goes bankrupt. However, the bond issuer may default and bond prices can fluctuate, and if sold before maturity, an investor may face a capital loss.

Yes, both GICs and bonds can be held in a retirement account such as a Registered Retirement Savings Plan (RRSP) or Tax-Free Savings Account (TFSA).