US Treasuries & Bonds
U.S. Treasuries are the safest investment in the world. Backed by the full faith and credit of the U.S. federal government, Treasury bills, notes, and bonds have long been a staple in the portfolios of fixed-income and risk-averse investors. Because the government has the ability to raise taxes and print currency at any time means there is very little risk of an investor not getting his or her interest payments on time or principle returned upon maturity.
But Treasuries are associated with some risk. Because of the safety they offer, the amount of interest they pay is lower than other types of bonds. In a low interest rate environment, the amount earned could be next to nothing. Treasuries are also associated with a phenomenon known as "flight to safety." In periods of economic uncertainty, U.S. and global investor alike often flock to U.S. Treasuries because of the low risk of default.
Treasury Bills, or "T-Bills" as they are commonly known, are short-term savings instruments. They are sold with maturity dates of four, 13, 26 and 52 weeks and at a discount to the face value, which is also referred to as par value. For example, a 26-week T-Bill with a face value of $1,000 sells below par value if it sells for less than $1,000. Treasury Bills only pay interest at maturity, which is the difference between the purchase price and the face value.
T-Bills are best for investors looking for alternatives to certificates of deposits andsavings and money market accounts. The T-Bill market is highly liquid, which allows investors to quickly redeem them for cash via a bank or broker. The minimum purchase price of $100 means that T-Bills are accessible to all investors.
Treasury Notes are medium- to long-term investments that are issued in maturities of two, three, five, seven, and ten years. Retired investors who need the semi-annual interest payments for income and those who need to fund future expenditures like college tuition or the down payment on a home often turn to Treasury Notes.
Treasury notes present a greater interest risk than Treasury Bills. Because they are intermediate-term investments, an investor risks losing interest if an alternate investment pays more. However, much like Treasury Bills, Treasury Notes are highly liquid and can be sold prior to the maturity rate.
Treasury Bonds have the longest time to maturity at between 10 and 30 years. Bonds pay interest every six months until they mature, at which point the investor is paid the face value. Treasury Bonds are for those investors who are looking for safe, long-term savings vehicles.Like other Treasuries, bond prices and interest rates have an inverse relationship. When interest rates are rising, bond prices fall. When interest rates are falling, bond prices rise. Therefore, the longer a bond's maturity date, the greater its interest rate risk.
It's always important to remember that even bonds require a degree of allocation. Investors should divide their bond holdings among differing maturities. Long-term holdings are those that have maturity dates of 10 years or longer. Intermediate-term holdings are those that mature in three to 10 years and those that are short-term mature in three years or less. Holding various maturities will protect you from the interest rate and inflation risks of bonds.
Treasury Inflation-Protected Securities (TIPS)
TIPS are marketable securities (securities that can be bought and sold after their initial introduction into the market). The principal fluctuates based on changes that occur in the Consumer Price Index. If the CPI, which is a measure of inflation, increases, the principal of the TIP increases. If the CPI decreases, the principal of the TIP decreases.
Like Treasury Notes and Bonds, TIPS pay interest every six months. But even though the amount of interest on a TIP is fixed, it is based on the amount of principal, and therefore could fluctuate each month. If inflation increases during the period, the payment is increased. If there is deflation, the amount of the payment is reduced. At maturity, the investor receives the higher of the original principal or adjusted principal.
TIPS are an intermediate- to long-term investment sold in terms of 5, 10, and 30 years. The interest rate of the first payment is set once the security is sold at auction. Like other Treasury products, TIPS are sold in increments of $100, which makes them accessible to all investors. An investor can hold TIPS to maturity or sell them in the secondary market.
TIPS offer investors a hedge against inflation because purchasing power is protected in an environment of rising costs. For retired and elderly investors especially, TIPS can provide an added level of protection when the majority of a portfolio consists of fixed income investments. The downside of TIPS, however, is that if you want to sell them at a time when interest rates are rising, you may not receive the full amount, as other investors will be able to purchase TIPS that pay higher rates of interest.
Like all other instruments sold by the United States Treasury, TIPS are exempt from federal income tax. This alone can make for an excellent fixed income investment.
U.S. Savings Bonds
U.S. Savings Bonds have long been a favorite gift of grandparents. And while some children don't appreciate the gift at the time , they almost always do when they redeem the bond to pay for college tuition. Series EE Bonds are sold in denominations between $50 and $10,000. Series I Bonds provide inflation protection and are sold in denominations between $50 and $5,000. While savings bonds may not seem like a viable retirement savings vehicle, they can be certainly be used for that goal as part of a large portfolio.
Buying Treasuries Directly as Part of a Mutual Fund or ETF
Many investors prefer to invest in U.S. Treasuries through a mutual fund or ETF that specializes in the fluctuations of interest rates, yields, and purchase price. A professionally managed fund will hold bonds and some cash, as required to meet redemptions. For retired investors, bond funds ensure the preservation of capital while generating income each month or quarter. For investors who are more market savvy and can tolerate more risk, ETFs provide a way to get into and out of trades quickly. Shares can be bought and sold long or short depending on an investor's view of the market.
Regardless of your age or the asset allocation you've established, U.S. Treasuries can have a big impact on the overall return earned on your portfolio. Bonds and stocks rarely move up and down together. Therefore, in an effort to smooth out economic downturns and provide income regardless of market conditions, holding U.S. Treasuries is a wise move.
While we've covered the basics of bond investing here, there is much more to maximizing the success of your bond investing strategy. To make sure you're on the right track, contact a licensed financial advisor. It only takes a few minutes, Start Now.
More Bond Guidance
- Bond Investment Guide — The complete guide to bond investing.
- Municipal Bonds — Details about how to invest in municipal bonds.
- Corporate Bonds — Details about how to invest in corporate bonds.
- Bond Rates — Factors affecting bond rates, and how to find the best ones.
- Bond FAQ — Frequently asked questions about bond investing.