A stock is a security that gives you a share of ownership in a company. It entitles you to certain rights on the corporate assets and, possibly, a portion of the benefits, which are distributed as dividends.
Stocks are important to your portfolio diversification strategy. They provide a higher return potential than fixed-income securities and money market investments, but they also carry a higher level of risk, depending on the stock you choose. Investing in this asset class can be a tremendous source of growth and income, especially if you select dividend-paying stocks.
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Exchange-traded funds (ETFs) are baskets of securities, which offer advantages similar to that of traditional mutual funds, but with the added flexibility that is typically associated with investing in individual stocks.
Essentially, ETFs can be traded on the market at any time during regular trading hours. In comparison, mutual funds can only be redeemed once a day, at their closing net asset value (at 4:00 p.m.).
ETFs often mirror specific indices in order to generate a similar return. They are excellent diversification tools and carry certain tax advantages over mutual funds.
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A mutual fund is the pooling of several investors’ assets to achieve a specific set of objectives. When you invest in a mutual fund, you purchase a share of the fund; this share is referred to as a unit.
Mutual funds invest in various securities, including common and preferred shares, debt securities such as bonds and debentures, as well as money market instruments like Treasury Bills. Each mutual fund is assigned specific characteristics and goals that dictate its underlying investments. Professional managers make the decisions concerning the management of assets held in the fund.
In order to choose the right mutual fund, it’s important to evaluate the Management Expense Ratio (MER), which allows you to determine in which proportion the assets held in the fund are used to cover operating expenses each year. In Canada, the leading mutual fund companies offer their products across three MER structures: front-end load funds, back-end load funds and no-load funds.
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Bonds are investment products issued by a company or a government. They entitle you to a debt claim over the issuer. In other words, bonds are loans that give you the right to a coupon, i.e., a percentage of interest based on the bond’s nominal value, on the interest rate calculated on the nominal value, as well as on the repayment terms.
For example, a $10,000 investment in a provincial bond offering 3% interest will yield $300 in interest income each year.
Bonds are typically used by investors seeking some degree of capital preservation, as well as an annual or semi-annual return.
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Stripped bonds are bonds where coupons are detached from the principal portion of a bond in order to create two separate products. As such, a bond investor can decide to detach the underlying coupons at a precise moment to create two distinct products: the principal (face value) and the coupon (interest payments).
Residual bonds and stripped coupons are purchased at a discount and redeemed at their full nominal value at maturity, although they may be sold in whole or in part before maturity. They do not provide regular interest payments, as all interest is settled at maturity. When purchasing stripped coupons from a cash account, you must declare a portion of the interest every year, even if you do not receive this amount until maturity.
You may sell your coupons on the secondary market before maturity, in which case they would trade at their current market value. Since the market value fluctuates with the markets and interest rates, there is no way to predict the return or the proceeds of the sale before maturity.
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Debentures are debt instruments that are not guaranteed by tangible assets, but rather by the credit rating of the issuing company. As such, debentures offer a potentially higher interest rate than their bond counterparts.
Traditional debentures are traded on the bond market. However, in certain cases, a company may choose to issue a debenture on stock markets. This is referred to as an exchange-traded debenture.
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Guaranteed Investment Certificates (GIC)
Guaranteed Investment Certificates (GICs) are investments that allow you to preserve and grow your invested capital.
There are two main types of GICs: conventional and variable (or index-linked).
Conventional GICs, also called term deposits, offer a guaranteed rate of return that is known in advance and usually determined by maturity, which can vary between 30 days and five years. Your principal and interest payments are guaranteed. GICs can be redeemable or non-redeemable before maturity.
The second type of GIC offers capital protection and market exposure; the return is therefore not known in advance. Since this product provides market exposure, its return potential is greater than that of a conventional GIC.
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Principal-protected notes are debt securities that offer a principal-repayment guarantee at maturity, based on the issuer’s credit rating. The return at maturity, if applicable, depends on the performance of the underlying asset, which can also be a group of various asset classes (e.g., stocks, indices or funds), as indicated in the prospectus. It is usually possible to sell a principal-protected linked note before maturity by making it available on the secondary market.
This type of investment is not eligible for deposit insurance under the Canada Deposit Insurance Corporation (CDIC).
Linked notes are ideal for clients who do not need liquidity over the short term, but are looking for ways to avoid the downside risks of the underlying assets.
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Non-principal protected notes
These notes are investments that offer exposure to their underlying assets (e.g., stocks, indices, funds), but with no guarantee that the principal will be repaid at maturity. Investors may therefore receive an amount that is less than their initial investment. In return, they offer greater return potential based on the return of the benchmark portfolio.
The final return is determined by the performance of the underlying assets, as mentioned in the prospectus. It is usually possible to sell a non-principal protected note before maturity by making it available on the secondary market.
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Options can help you manage risk (protection) or increase the value of your portfolio (income). An option contract gives you the right, but not the obligation, to purchase or sell a specific number of a security, at a pre-determined price, within a specified timeframe. Usually, an option contract represents 100 shares.
A call option gives you the right to purchase the underlying asset, while a put option gives you the right to sell the asset. European options allow you to exercise your right on a specific date, whereas an American option allows you to exercise your right at any time before the expiry date of the contract.
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Money market instruments
Money market securities make up a significant portion of the financial markets. Because they are issued in large denominations, they tend to attract institutional investors, such as banks and insurance companies. However, the emergence of products offered in smaller denominations has sparked considerable interest from individual investors and small businesses.
Money market instruments are highly liquid, as they can be sold at any time on the secondary market. They generally represent the short-term, secure portion of an investment portfolio.
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