Index-linked GIC: The index-linked GIC promise: A false sense of security?

An index-linked GIC is one of the many investment products that promise more than they deliver

There’s a problem with the financial industry: it offers its salespeople incentives to give clients advice that may not be in the best interest of the client.

Brokers simply have too many opportunities to sell their clients investment products—like index-linked GICs, options, new issues, tax shelters and so on—that are designed to favour income for the industry and the broker, rather than gains for the client.

Invest in your Financial Future for FREE

Learn everything you need to know in '9 Secrets of Successful Wealth Management' for FREE from The Successful Investor.

Secrets of Successful Wealth Management: 9 steps to the life you've always wanted, before and after retirement.

The index-linked GIC

An index-linked GIC is marketed as a secure and profitable place to put your money by providing the buyer with a return that is “linked” to the direction of the stock market in a given period—but they’re usually a more secure source of income for the seller than the buyer.

Index-linked guaranteed income certificates (GICs) promise to safeguard a portion of investors’ portfolios, and in volatile markets these products may seem like an appealing place to put some of your money.

However, if you decide to invest in an index-linked GIC, you could be making one of the costliest mistakes that investors can make: That is to accept the advice of a securities or insurance salesperson without considering how conflicts of interest may have influenced that advice.

Securities and insurance salespeople sell a variety of financial and investment products that may be suitable for a particular investor. They earn a wide variety of commissions and fees, depending on the product. This arrangement introduces conflicts of interest. What’s best for the salesperson may not be best for the client.

Of course, some salespeople are scrupulous about settling these conflicts in favour of the client. Some go so far as to try to talk their clients out of making bad investment decisions, and thus talking themselves out of a commission. Others sell whatever is easiest and most profitable for them to sell.

How returns can be diminished with an index-linked GIC

A quick look at the rules on these deals may give you the impression that you can profit substantially with little risk. However, the payout may depend on the average level of the index over the course of a year, rather than the year-end value. This will tend to diminish the performance that determines investor returns. In volatile markets like the ones we’ve been experiencing, these products may seem like an appealing place to put some of your money.

Above all, remember that banks and insurance companies are not in the business of giving away something for nothing. Index-linked GICs were created to give investors a false sense of security.

Holding steady is the best hope for an index-linked GIC

Interest on a bond or GIC holds steady, at best. However, stock dividends can grow.

In fact, the best dividend stocks like to ratchet their dividends upward—hold them steady in a bad year, and raise them in a good one. That gives you a hedge against inflation.

Dividends are a better goal than steady interest from an index-linked GIC

For a true measure of stability, focus on dividend-paying companies that have maintained or raised their dividends during recessions and stock market downturns. These firms leave themselves enough room to handle periods of earnings volatility. By continually rewarding investors, and retaining enough cash to finance their businesses, they provide an attractive mix of safety, income and growth.

If you’re an income investor, you may wish to place more emphasis on utilities and Canadian banks. That’s because these firms generally pay high, secure dividends.

High dividend paying stocks can be a big part of long-term investment gains

If you stick with top-quality high dividend paying stocks, the income you earn can supply a significant percentage of your total return—as much as a third of your gains. And at the same time, dividends are more dependable than capital gains as a source of investment income.

Good dividend stocks are a valuable component of any sound investment portfolio. But note, though, that when it comes to investment safety, a long history of steady dividends is more important than a current high dividend yield.

Furthermore, if you only buy stocks that pay dividends, you’ll automatically stay out of almost all the market’s worst stocks.

Have you ever fallen for the advice from a securities or insurance salesperson and ended up buying a product that turned into a costly mistake?


Tell Us What YOU Think

You must be logged in to post a comment.

Please be respectful with your comments and help us keep this an area that everyone can enjoy. If you believe a comment is abusive or otherwise violates our Terms of Use, please click here to report it to the administrator.