Gee, I See Now
Guaranteed Investment Certificates (GIC) offer investors predictability but are unlikely to result in higher expected returns
By Wes Crill, PhD Senior Investment Director and Vice President | Brad Steiman President, Dimensional Fund Advisors Canada ULC
Today’s high-interest-rate environment has ratcheted up the appeal of guaranteed investment certificates (GICs). Yields exceeding 5% with a government guarantee and no apparent price volatility—what’s not to like? However, these features come with tradeoffs, and investors may be leaving returns on the table pursuing GICs as a substitute for traditional fixed income funds.
A Familiar Investment Proposition
GICs are issued by banks to lock up an investor’s deposit for a predetermined period in exchange for a stream of interest payments and return of principal upon maturity. The “guarantee” in the name denotes that these securities are backed by the Canada Deposit Insurance Corporation (CDIC), up to $100,000 per issuer.
Today’s relatively high interest rates enable attractive yields on GICs. Of course, the interest rate environment also means high yields in the bond market. In fact, the investment proposition of a GIC—a stream of income with near-certain principal repayment—draws parallels to a Canadian treasury.1 Treasuries maturing on the same time horizon as GICs are therefore a natural reference for evaluating the tradeoffs of GICs.
Treasuries have had higher average returns than GICs of the same maturity over one-, three-, and five-year periods and have outperformed in the majority of those periods. For example, one-year treasuries beat one-year GICs about 73% of the time, averaging 0.52% higher returns. However, these return differences should be interpreted with caution, due to relatively short sample periods and the small number of sources (“Big Six” banks) reporting GIC yields to the Bank of Canada.2 Given the similarity in risk profile (minimal uncertainty around cash flow), it is reasonable to expect relatively similar returns for GICs and treasuries. At a minimum, investors should not expect higher returns from a GIC than a comparable treasury.
EXHIBIT 1
Stacking Up against the Competition
Performance of GICs vs. Canadian treasuries, January 2001–December 2023
Leaving Returns on the Table
If returns are a wash, the appeal of GICs for some investors may be the lack of perceived volatility because, unlike treasuries, they are not marked to market. This may offer behavioral benefits during periods of interest rate volatility when traditional fixed income strategies are changing in value. But insulation from valuation comes with tradeoffs. While treasuries are readily marketable, GIC redemption before maturity may involve penalties or forfeiture of interest. GICs are also less tax efficient compared to discount treasuries, whose total return includes a component taxed as capital gains instead of ordinary income.
So GICs effectively offer some bond-like attributes with a different set of tradeoffs. But unlike GICs, bond markets offer investors the chance to pursue higher returns than treasuries. And bond allocations with broader opportunity sets have produced commensurately higher average returns than GICs. For example, the FTSE Canada Universe Bond Index has beaten three- and five-year GICs in about 90% of rolling performance periods of three and five years, respectively, producing more than two percentage points in additional annualized returns on average.
EXHIBIT 2
Expanding the Opportunity Set
Performance of GICs vs. Canadian bond market indices, January 2001–December 2023
Weighing the Benefits
Would you find it disconcerting to observe fluctuation in your home’s value, even if you have no plans to sell? If so, you may see value in GICs’ primary distinction vs. traditional fixed income allocations—avoiding being told what your investment is worth at any given time. For everyone else, GICs’ tradeoffs may outweigh the benefits. And, if account value updates are still a sticking point, you always have the option of opening your mail less frequently.
FOOTNOTES
1. GICs are CDIC insured, and Canadian treasuries are backed by the Canadian government.
2. The “Big Six” banks are TD Bank, Royal Bank of Canada, Bank of Montreal, Bank of Nova Scotia, Canadian Imperial Bank of Commerce, and the National Bank of Canada.
GLOSSARY
Mark to market involves recording the price or value of a security or fund to reflect the current market value. For example, mutual funds are marked to market daily so that investors have a better idea of the fund’s net asset value (NAV).
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RISKS
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