Treasury bonds: Still safe for investors
You may have read reports about an impending “debt crisis” in the U.S. Should you be worried about investing in Treasury securities?
Part of the concern over debt has been driven by the cost of government borrowing, which has risen because of higher interest rates. But it’s worth noting that while interest expenses have risen to nearly 2% of gross domestic product (GDP), this measure had exceeded 3% in the early 1990s. So, while the upward trend of federal debt could prove problematic down the road, the claims of a current crisis may be overblown. And Treasury securities are still considered among the safest investments in the world, as they are secured by the full faith and credit — that is, the ability to borrow and tax — of the United States.
In any case, if you haven’t invested in Treasury securities, you’ll want to know the basics. First of all, when you purchase a Treasury security, you’re lending money to the federal government for a specific period of time.
Here are your purchase options:
- Treasury bill – Typically matures in four, 13 or 26 weeks, although some have maturities of up to a year.
- Treasury note – Matures between one and 10 years.
- Treasury bond – Typically matures in 10 to 30 years.
When you buy Treasury notes or bonds, you receive semiannual interest payments, but when you purchase a Treasury bill — a T-bill — you generally buy it a discount, and when the bill matures, you receive its face value. So, for instance, you might pay $4,700 for a 13-week T-bill and get $5,000 back at the end of the three months.
When investing in Treasury securities, you’ll want to keep these features in mind:
- Price fluctuation – While your interest payments will always remain the same, the market value of your Treasury security can change. So, you might not get face value for a Treasury bond if you sell it before it matures, particularly if market interest rates are higher than the rate you’ve been receiving. Because longer-term bonds have more payments left to make than shorter-term ones, they are more sensitive to interest rate changes and market price fluctuations.
- Taxes – Interest income from Treasury securities is subject to federal income tax but exempt from state and local taxes.
In addition to the traditional Treasury bonds, bills and notes, another option is available: Treasury Inflation-Protected Securities (TIPS). Unlike other Treasury securities, in which the principal is fixed, the principal of a TIPS can move up or down, based on movements in the Consumer Price Index for Urban Consumers (CPI-U). Once your TIPS matures, if the principal is higher than the original amount, you’ll get the increased amount; if the principal is equal to or less than the original amount, you’ll get the original amount. TIPS pay a fixed interest rate semiannually until maturity, but because interest is paid on the adjusted principal, the amount of your interest payments can vary. As with other Treasury securities, you can hold a TIPS until maturity or sell it before it matures.
Don’t let scary or gloomy predictions discourage you from considering Treasuries — they remain a good option as part of the fixed-income portion of your investment portfolio.
This article was written by Edward Jones for use by Joshua Fournier, your local Edward Jones Financial Advisor.
Edward Jones, Member SIPC.
