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Guaranteed Investment Contracts -
Another Name For Private
Placement Bonds

While there are a number of minor differences between privately placed corporate bonds and Guaranteed Investment Contracts (GICs), private placements and GICs share many important characteristics. This article is not intended to describe all of the various aspects of private placement bonds or GICs, but it is intended to show that GICs and private placement bonds possess many of the same attributes that institutional investors find attractive.

The first attribute is the manner in which each instrument is secured. Both investments are typically backed by the full faith and credit of the issuing company. Additionally, depending on the needs of the investor, private

placements will commonly be structured as senior obligations, with the general assets of the company or some specific asset of the company pledged as collateral. Like private placements, GICs are backed by the general assets of the issuing insurance company. Thus, the two investments can both be referred to as senior secured obligations.

A second similarity is the flexibility of the purchaser to negotiate a desirable set of cash flows. Conventions for GICs and private placements are somewhat different, in that private placements will typically have a semi-annual coupon and GICs commonly pay interest on an annual basis or are continuously compounded over the life of the instrument. However, the flexibility of both investments allows the issuer and investor the ability to agree on a favorable set of cash flows, including interest payments and return of principal. This

flexibility becomes a tool for the investor that can be used to alter the performance characteristics of a portfolio or generate internal liquidity, which is important when considering the relative liquidity of these obligations.

Due to the fact that there has been relatively little success in creating a broad secondary market for GICs or private placements, the liquidity of these investments is relatively low when compared to similar publicly traded issues. However, when negotiating contract terms for a particular GIC or protective covenants for a private placement, provisions can be put in place to allow for the discontinuance of either instrument.

For a private placement, a buyer may negotiate a put option which may be triggered by any number of specific events that have negative credit implications. On the other hand, many GICs will include a provision that allows for the discontinuance of the contract (in essence a put) at what amounts to the lesser of book value or market value, as specified in the contract. Although contracts with this provision do not specify triggering events for discontinuance, it is likely that a GIC would not be discontinued unless there was some pending negative credit event on the horizon. (It is FCM’s opinion that excessive use of such a contract provision would be detrimental to future negotiations for new GICs.) All else being equal, the marketplace is likely to pay more for investments with this put option, which improves the level of liquidity.

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