Canada represents a very small part of the global bond market. And that’s one reason why the purchase of foreign debt is an important tool in portfolio diversification. Mike McGann, an investment advisor with ScotiaMcLeod, sat down with John Carswell, CEO of Canso Investment Counsel, to talk about diversifying one’s savings bonds.
The Importance of Diversification in your Savings Bonds Portfolio
When purchasing savings bonds it is always imperative that you seek to create a diverse portfolio, seeing as different bonds carry varying interest rates and different subsequent advantages and disadvantages. The purchase of foreign debt is a potent tool in the quest to diversify one’s portfolio.
Mike: John, do you consider U.S. or foreign debt when investing in your [savings bonds] portfolio?
John: Well Mike, we are probably the first people in Canada to recommend to our clients to move to at least 30% of investments in foreign issuers. We did that because the Canadian market is a very expensive small bond market, and if I can buy a company that is similar to a Canadian company, two to three times as large, much better credit quality, and at an extra one percent interest rate, I will do that.
The problem is if I have clients who need Canadian funds and I invest in Euro, or Australian, or U.S. currency debt, then if the exchange rate changes I have a problem. So, what we typically do is buy the Canadian dollar debt of foreign issuers, and in this particular instance probably 50% of what we now own is foreign issuer debt.
Emerging Market Debt
So a Canadian bank, and Canadian banks are the most expensive globally in terms of many metrics, and what Canadians don’t understand is that we have subsidized our banks to their current very strong financial position. Canadian banks will trade at about a half percent above government bonds, where foreign banks are trading at one to two percent above foreign government bonds.
For us, if I have a choice between buying the Royal Bank of Canada or the Royal Bank of Scotland, Canadians love our banks and love our bankers, but the British hate their banks and hate their bankers, and I get paid an extra one to one and a half percent for pretty much, in my view, a similar credit quality.
Advantages of Foreign Savings Bonds
So when someone asks me: “why are you buying a foreign bank?” I go ‘because I’m being paid for that risk’. I have Canadian dollar investments in some Italian, German, British, and American banks because I get paid an extra one to two percent for holding those bonds.