You may have heard that guaranteed investment certificates are "risk-free". As nice as this would be, it doesn’t paint the full picture. There are some risks to holding GICs, as well as so-called “opportunity costs,” which are the lost benefits of doing one thing as opposed to another. To use a non-finance example, the opportunity cost of going to a concert on a summer evening is not being able to attend a baseball game that same night. Think of opportunity costs as trade-offs. We’ve compiled a list of key risks and opportunity costs to consider, before investing in GICs.
GIC risks
It is true that your principal – the original amount you invested - is guaranteed to be returned to you, when you purchase a GIC. Also, most GICs are insured by the government, in the event of a bank failure. Having said this, some risks remain. Let’s take a look at the potential risks of owning GICs:
-
In the event of a bank failure, only savings up to $100,000 are insured by the Canada Deposit Insurance Corporation (CDIC). Any amount over and above $100,000 is not guaranteed.
-
Some GICs are not liquid. Liquidity refers to the ease with which an investment can be bought and sold (converted to cash). Particularly with non-redeemable GICs, accessing your money in short order may not be possible. If liquidity is a top priority, consider either a high interest savings account or a cashable GIC instead.
-
Inflation, and particularly unexpectedly high inflation, reduces the purchasing power of a GIC upon maturity; this is arguably the biggest risk when buying a GIC. Particularly for long-term, non-redeemable GICs, any significant burst of inflation can wreak havoc with your investment. If your GIC interest rate is lower than inflation, your purchasing power goes down.
GIC opportunity costs
Let’s assume you have locked in a 5-year GIC at 3.00%. Shortly after making the investment, interest rates on GICs and GIC alternatives start to increase. Unfortunately, because your money is locked in with the bank, re-investing at the higher rate during the term may not be possible; this is the “cost” of going after an opportunity. But, again, it’s true for many investments.
Depending on your needs and risk tolerance, buying a GIC foregoes the possible benefits of investing in other higher-return options. Stocks, bonds, real estate, or precious metals have the potential for loss but also the possibilities of higher returns than GICs (though be sure to check out our explanation of market-linked GICs).
Comments
0 comments
Article is closed for comments.