Personal Investment Management
ADMS 3531 Fall 2011 – Professor Dale Domian
Lecture 10 Part 2 – Government Bonds and MortgageBacked Securities
– Nov 22
Chapter 19 Outline
Government bond basics.
Treasury bills, notes, bonds and strips.
Bank of Canada auctions.
Canada Savings Bonds.
Provincial and municipal bonds.
A brief history of MortgageBacked Securities.
Canada Mortgage and Housing Corporation.
Government Bond Basics
In 2003, the gross public debt of the Canadian government was approximately $120
The Bank of Canada finances government debt by issuing marketable as well as non
Provincial and municipal government debt is also a large debt market.
Marketable securities can be traded among investors.
Marketable securities issued by the government include Tbills, and Canada Bonds.
Nonmarketable securities must be redeemed by the issuer.
Nonmarketable securities include Canada Savings Bonds.
Canada bonds are longterm obligations with maturities of more than 10 years (when
Canada bonds pay semiannual coupons (at a fixed coupon rate) in addition to their face
value (at maturity).
Separate trading of registered interest and principal of securities.
Originally derived from Canada bonds. o A 30year bond can be separated into 61 strips – 60 semiannual coupons [+] a
single face value payment.
STRIPS are effectively zero coupon bonds (zeroes).
The YTM of a STRIP is the interest rates the investors will receive if the STRIP is held
Straight Bond Prices and Yield to Maturity
Recall: The price of a bond is found by adding together the present value of the bond’s
coupon payments and the present value of the bond’s face value.
Real Return Canadian Bonds
In recent years, the Bank of Canada has issued securities that guarantee a fixed rate of
return in excess of realized inflation rates.
These inflationindexed Canadian bonds:
o Pay a fixed coupon rate on their current principal, and
o Adjust their principal semiannually according to the most recent inflation rate.
Bank of Canada Auctions
The Bank of Canada conducts regularly scheduled auctions for government securities.
At each treasury auction, the Federal Reserve accepts sealed bids of two types.
o Competitive bids specify a bid price/yield and a bid quantity. Such bids can only
be submitted by treasury securities dealers.
o Noncompetitive bids specify only a bid quantity, and may be submitted by
The price and yield of the issue is determined by the results of the competitive auction
Auctions, More Details
All noncompetitive bids are accepted automatically and are subtracted from the total
Then, a cutoff yield is determined. This is the price at which all competitive bids are
sufficient to finance the remaining amount.
All bids at or above the cutoff yields are accepted.
Canada Savings Bonds
The Bank of Canada offers an investment opportunity of individual investors by issuing
two types of Savings Bonds: regular interest and compound interest bonds. These bonds:
o Have face value denominations ranging from $100 to $10,000. o Accrue interest semiannually and,
o Can be redeemed for the original price plus all prior accrued interest at any
Canadian financial institution.
o They are noncallable and nontransferable.
Canada Premium Bonds
Very similar to Canada Savings Bond.
However they provide higher returns.
Accrue interest semiannually (the interest rate is set as a fixed rate plus the recent