Treasury Bonds: What They Are and Why They Matter - NerdWallet (2024)

What are Treasury bonds?

U.S. Treasury bonds are fixed-income securities. They're considered low-risk investments, and are generally risk-free when held to maturity. That's because T-bonds are issued with the full faith and credit of the federal government. Since the U.S. government must find a way to repay the debt (and always has so far), the odds of Treasury bonds defaulting are extremely low.

Relative to higher-risk securities, like stocks, Treasury bonds have lower returns. Yet even during periods of low yields, U.S. Treasury bonds remain sought-after because of their perceived stability and liquidity, or ease of conversion into cash. They are also tax-advantaged. Interest income earned from Treasury bonds is subject to federal income taxes, but it is exempt from state and local income taxes.

Treasury bond rate

The current interest rate for a 20-year Treasury bonds is 4.750%, while the rate of a 30-year bond is 4.750%. TreasuryDirect releases the bond auction schedule that includes information about Treasury interest rates and maturity dates.

Types of Treasury securities

Although the term "Treasury bonds" is often used as a catchall term for government bonds, Treasury bonds are only one type of Treasury security. The other two most popular are Treasury bills and Treasury notes. The distinguishing factor among these types of Treasury securities is simply the length of time until maturity, or expiration. Keep in mind that generally speaking, the longer the term, the higher the yield.

Treasury bills are short-term debt securities that mature in less than one year while Treasury notes are intermediate-term government debt securities that mature in two, three, five, seven and 10 years. Interest on Treasury notes is paid semiannually.

Treasury Inflation-Protected Securities (or TIPS) are a type of Treasury bond, adjusted over time to keep up with inflation. (Learn more about TIPS.)

Investors in longer-term Treasurys (notes, bonds and TIPS) receive a fixed rate of interest, called a coupon, every six months until maturity, upon which they receive the face value of the bond. The price paid for the bond can be greater (sold at a premium) or less than (sold at a discount) the face value, depending on market demand.

Treasury yields have rallied in 2022 and 2023, in large part due to the Federal Reserve's efforts to tamp down inflation with interest rate increases. And this rapid change in yields often comes with what's known as an inverted yield curve.

This occurs when interest rates of shorter-term Treasurys rise higher than the interest rates of longer-term Treasurys. In December 2023, yields on 1-month, 2-month and 3-month Treasury bills were all above 5%, while yields on 10-year Treasury notes were in low 4% range . Why does this matter? Because an inverted yield curve has a very good track record of predicting a recession.

Are Treasury bonds a good investment?

Generally, yes, but that depends on your investing goals, your risk tolerance and your portfolio's makeup. With investing, in many cases, the higher the risk, the higher the potential return. This applies here.

Asset allocation is an investing concept and portfolio strategy for how to spread investment dollars among various asset classes, or groups of similar investments. Of the three most common —equities, bonds and cash —equities generally provide the greatest long-term growth potential, but are the most volatile. Cash has the least risk and lowest return to buffer volatility or cover unexpected expenses.

Bonds, like Treasurys, can generate income, usually have more modest returns, and can help balance out the volatility of stocks. Bonds are a common asset in a well-diversified portfolio.

Why Treasury bonds are important

Proceeds from the sale of Treasury bonds go hand in hand with tax revenues to help the federal government finance its operations and repay outstanding U.S. debt.

As a longer-term bond, the 10-year Treasury bond is also used as a gauge for investor sentiment on the economy. It acts as a benchmark for longer-term interest rates, affecting other bonds, mortgages, car loans, personal loans, student loans, savings rates, etc.

Because Treasurys are considered a safer investment, demand is greater when investors are concerned about the state of the economy, which means Treasury bond prices rise, and their respective yields come down.

On the flip side, when the economy heats up and people are not as risk-averse, investors likely prefer higher-earning investments over safety and stability. Treasury bond prices often come down, and their respective yields increase.

How to buy Treasury bonds

You can purchase Treasury bonds directly from the Treasury Department through its website, TreasuryDirect, or through any brokerage account. (Don't have one? Here's how to open a brokerage account and start investing.)

Similar to other stocks and bonds, you can purchase Treasurys either individually or as a collection of securities through mutual funds or exchange-traded funds, or ETFs. If you have no particular time frame in mind for repayment, investing in a mutual fund or ETF may be more appealing because of enhanced diversification from owning a collection of bonds.

Unlike individual bonds, bond funds do not have a maturity date, and can therefore be subject to greater volatility. In a bond fund, a fund manager buys and sells bonds with varying terms, so your returns can be subject to market fluctuations when you sell the fund, instead of providing a predictable income.

Buying individual bonds can make sense when you’d like to pinpoint a specific time frame to receive the bond’s repayment. Examples include using bonds as a lower-risk way to earn some interest on money set aside for a certain purpose — think a wedding, tax or tuition payment next year — or as a way to generate a predictable income stream in retirement.

If you’re looking for short-term maturities, a money market fund can provide exposure because they are usually made up of Treasury bills and other shorter-term debt securities.

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