New Canada Mortgage bonds: Canada Mortgage Bonds will pay interest and at competitive rates

Money Digest, May, 2001 by Chuck Chakrapani

Most Canadians are familiar with Mortgage Backed Securities. MBS are investments in a pool of residential mortgages with payments guaranteed by Canada Mortgage and Housing Corporation (CMHC).

With an MBS you receive a blend of principal and interest, as some homeowners pre-pay their mortgages. Such pre-payments affect MBS's yield to maturity. Because such payments are irregular, it is not always easy for an investor to reinvest the amount since the market conditions are constantly changing.

Soon (probably by the time you read this), CMHC is expected to unveil a new product: Canada Mortgage Bonds. The new security will feature semi-annual interest payments plus the full return of principal at maturity. In short, it will be like any other regular bond on the market.

Canada Housing Trust will issue the bonds and will use the proceeds to buy mortgages packaged into MBS from sellers, who are typically financial institutions.

The trust will transform the cash flows on the mortgages to enable investors to receive an interest cheque every six months and to guarantee the full return of principal at maturity.

While transforming the cash flows, the trust may, from time to time, be required to invest excess inflows in the market. These inflows will be invested in securities issued by the government of Canada and other conservative vehicles. In the case of cash flow deficiency (the opposite of cash flow excess), the trust will be able to draw on a pre-set line of credit. However, this is considered an unlikely scenario.

The trust will be run by a private sector administrator. CMHC will assist Canada Housing Trust in facilitating the acquisition of the mortgages and in selling the proposed bonds.

Like most bonds, Canada Mortgage Bonds will be issued in denominations of $1,000 and likely for a term of five years. They will be accessible to both institutional and retail investors. These bonds can be bought through investment dealers, banks, trust companies and other financial institutions.

At the time of writing, the yield on Canada Mortgage Bonds was unknown. However, these bonds are expected to provide competitive rates.

Canada Mortgage Bonds are suitable for safety conscious investors who desire investment income.