What are we looking for?
Canadian-domiciled inflation-linked bond funds.
The screen
According to Statistics Canada, the country’s inflation rate in June was the highest it’s been since January, 1983. At this point, inflation is nearly impossible to ignore as it eats into Canadians’ buying power, clearly noticeable at both at the grocery store and gas pump, and potentially affecting our retirement plans. This said, inflation-linked bonds (aka real return bonds), are something worth considering if your belief is that inflation will continue for a prolonged period.
These government-issued bonds are different than a traditional bond in that the principal amount is adjusted (increased) to keep up with the growth of the consumer price index, which is the key measure of inflation. Subsequently the coupon rates for these bonds are then based on the adjusted principal. In other words, real return bonds provide an effective hedge against inflation on its own. However, they are still exposed to interest rate risk, and like traditional bonds will still fall in price if interest rates rise.
Today, I use Morningstar Direct to find the mutual funds and exchange-traded funds that specifically invest in these instruments. We are screening specifically for funds in the Canadian inflation-protected fixed-income category and available to do-it-yourself investors.
What we found
It is no surprise that the universe is small, given that inflation hasn’t really been an issue until recent times, stifling the demand for these products. Regardless, the funds that fall into this category are displayed in the accompanying table alongside their fees, trailing performance, inception dates, and a measure of weighted average effective duration. Recall that duration, expressed in years, measures how much bond prices fall for each one-percentage-point increase in interest rates. If rates were to rise one percentage point, for example, a bond or bond fund with a five-year average duration would likely lose about 5 per cent of its value.
This article does not constitute financial advice. Investors are encouraged to conduct their own independent research before purchasing any of the investments listed here.
Ian Tam, CFA, is director of investment research for Morningstar Canada.
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Ian Tam, CFA