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What is a Strip Bond?

Financial institutions use high quality bonds to create strip bonds by splitting apart and selling separately – the coupon interest payments and the principal component. Each interest payment and the remaining principal becomes a separate strip bond. The strip bond entitles you to a single payment when the interest payment or principal amount becomes due.

This section looks at Canadian government strip bonds and their unique risks. Strips of corporate, municipal, or foreign government bonds have additional risks.

If you are considering a strip of a corporate bond, consider the information on the corporate bond page.

What risks does it have?

Strip bonds are not high risk. Once the bond matures, you will receive the face amount of the strip bond. Because the discounted price you pay for the bond includes interest, you do not have to worry about reinvestment risk for interest payments as you do with a regular bond.

Strip bonds are riskier than regular government bonds if you need to sell them before they mature. There are no interest payments until the strip bond matures. The price can swing quite dramatically and the value on your statement may show large fluctuations.

If interest rates rise, the price of strip bonds decreases, even faster than the price of regular bonds. Conversely, during times of falling interest rates, the price of strip bonds increase. If you need money before a strip bond’s maturity date, you may receive much less than you paid for it.

If you hold a strip bond outside a tax deferred account, like an RRSP or RRIF, you are required to claim the interest you made on the strip bond each year even though you haven’t yet received any interest payments. If you sell a strip bond before its maturity for more than the purchase price plus accrued interest, you will have to pay tax on the increase in value (capital gains).

Strip bonds have the same risks as other government bonds in terms of reinvestment. You can address the reinvestment risk by creating a bond ladder. Refer to the government bond page to learn about these risks.

If you are considering a strip of a foreign government bond, ask your advisor additional questions about the underlying currency and international securities risk. Strip bond risks would also apply in those circumstances.

Can you sell them easily?

Not likely. It is more difficult to sell strip bonds than to sell other government bonds. The type of strip bond you purchase may determine the liquidity or availability of potential buyers. If you need to sell it before it matures, you may find you cannot find a buyer or that you will have to discount your price to find one. Like other government bonds, you can’t redeem strip bonds before their maturity date and stock exchanges do not trade strip bonds.

What are the costs?

Strip bond prices contain a mark-up to cover your advisor’s costs based on the face value of the bond. For a discussion of bond pricing, see the government bond page. You will likely pay the same amount of mark-up per $100 of face value even if you are purchasing a strip bond at a deep discount. You should compare the yield of a strip bond to the yield of a conventional bond, factoring in the mark-up.

What are typical returns?

Strip bonds pay interest, usually more than GICs and regular government bonds. However, you will not receive any interest payments until they mature, at which point, you will receive the face amount of the bond. Normally the longer the maturity date, the higher the yield.