How to keep money liquid yet have it grow? | General comparisons | Discussion forum

CharlieFox said
If for me, a few days delay is considered 'liquid', would Short Bond ETFs be ok? The risks are low and I can get better returns than 3%.

Short-term bond ETF's are not for parking money. Yes, they are liquid. One will receive the funds a few days after the units are sold. However, there's no guarantee that one will receive one's original investment back when one sells.

No way right now a short-term bond EFT can return over 3%, net of managment fees, with just short-term government bonds. According to CanadianFixedIncome.ca, 5-year Government of Canada bonds have a wholesale price that gives a yield-to-maturity of just 1.74% per year. The one-year Government of Canada treasury bills are yielding 0.97% at wholesale pricing.

The subject gets even more interesting since that article was written using the iShares bond ETF examples. There are now short and medium term corporate bond ETF offerings, as well as high yield (junk below investment grade) and high quality (mostly AAA, AA and A ratings). There is probably a combination of yield and duration that would suit almost anyone's appetite..... recognizing the further one steps away from government and/or AAA/AA rated corporate bonds, the higher the risk.

oldlady said

Short-term bond ETFs may not be the best option for a lot of people, but they can be useful under certain circumstances. Personally, I am very happy with the 2.4% income I've received on a Vanguard short-term bond ETF (VSB) in the last 12 months.

True, the price of the ETF has oscillated by about 2% per share during that time, so selling on the wrong day would have almost wiped out my gains. But I don't use this investment for money I think I'll need in the near future.

Also true, I could get a similar return from a 3- or 4-year non-redeemable GIC, AND my original investment would be guaranteed. But this ETF money is also my "in case of emergency, break glass" fund. Besides, unlike the return on a GIC, the return on my ETF will rise if interest rates do. So this seems to work for me.
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I'm not sure you will be receiving a higher rate of return.

Bonds and bond ETF's do not work exactly the same way as GIC's. One can't just compare the interest rates to compare returns.

With a GIC, the face value is both what one invests and what one receives at maturity. That's often not the case with bonds. Bonds are often bought pre-owned. So, the purchase price and the face value/maturity value of a bond won't be the same for a subsequent purchaser if interest rates have moved since the bond's initial owner. When interest rates dropped, as they have recently, purchasers will have to pay above face value for the bond because of the higher interest payments of the older bonds.

Consequently, a bond investor may not receive their original purchase price when the bond matures. That is compensated by the higher interest payments (the coupons) in the meantime. A yield-to-maturity calculation needs to be used for comparison.

I had a look at the Canadian Short-Term Bond Index ETF (VSB) you had mentioned. It has an average coupon of 2.8%. So, the bonds in the ETF have interest payments of 2.8% of the maturity value of the bonds.

The yield to maturity is a lower 1.6%. That means, the maturity value of the bonds is lower than their purchase value. There will be a small capital loss when the bonds mature that brings the actual return from 2.8% down to 1.6%.

Loonie said I am wondering if the rate inflation risk with bond ETFs is really worth it, considering the returns are in the same range.

It depends on what you want the money for as well as other factors such as how much money you have in your overall portfolio, how that money is invested, whether you are investing inside a taxable or non-taxable account, and your overall investment style.

For instance, if you have an investment portfolio that includes stocks the conventional wisdom is that you probably will also want to hold bonds. In this case your bond holdings are there not just for income but, perhaps more importantly, as a sort of ballast to keep your portfolio on an even keel. The conventional wisdom would also argue that you want to hold bonds so you can sell them to buy stocks the next time there's a "stock market correction" (translation: everyone else is selling).

On the other hand, if you're just looking to make the best possible return on cash that you might need soon, bond funds are almost certainly not a good choice.

And then there's that huge grey area in between, where the tradeoffs are complicated enough to give you--well, me anyway--headaches.

CharlieFox said
Ideally would be to put it with PT @ 3%, but withdrawls and then depositing it back in can bring it over the 31k limit. That and I'm not sure if they limit withdraws to once a month. And because of that, I might have to overestimate the withdrawl to overcome the EFT delay...which messes with the contribution limit if I deposit it back in again.

Your TFSA contribution limit is not affected by withdrawals per se. You can redeposit whatever you withdraw as long as you wait until the following January. See https://www.highinterestsavings.ca/forum/pc-financial/april-2014-rate-drops-to-1-30/#post10575 .
So then the issue is whether the frequency of permitted withdrawals by PT is less than you can live with, and also whether you expect to have the money available to redeposit before January. On the latter question, you could always put it in Accelerate etc until January. Depending on when, during the year, you are making the withdrawal and when you expect to have the money available again, this might be a good option.
It sounds like you don't already have your TFSA topped up (or else you would presumably not be thinking in terms of using this route, as it would already be maxed out). This being the case, it would almost certainly be your best option, to use up the TFSA room first, as long as the withdrawals you will require are permitted. This is because the income from the TFSA is tax-exempt. Even at a low 20% tax bracket, if you leave it outside the TFSA, then you are automatically losing 20% off the top of whatever return you get. So much the worse if you're in a higher bracket. If you put it in some kind of bond fund inside a TFSA, and you lose money on that at the time you have to withdraw it, you will never be able to get that lost room back in your TFSA.

That's fine; the discussion was a useful one.

Bond ETF's are a useful portfolio building block. I think they are useful when one would like a portion of one's portfolio to behave like a basket of bonds. However, the amount of money involved is not sufficient to get good pricing for individual bonds from a broker. Bond ETF's even replicate the small capital loss one would experience nowadays with most bonds as they decline from their purchase price to their face value as they mature!

I think people will be fine as long as they consider the impact of the likely small loss at maturity, even if interest don't move upward.