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Are treasury bonds a great investment to grow your money?

by Maurice Draine | Contributor
November 3, 2020

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One of the safest ways to invest your money is to trust in the United States government and purchase treasury bonds.

A bond, according to the U.S. Securities and Exchange Commission, is a type of IOU debt security. When purchasing a bond, the issuer could be a government or corporation that promises to pay a set rate of interest during the life of the bond and repay the face value of the bond when it matures over a certain period.

A treasury bond is also known as a T-bond. They are government debt securities from the federal government that set maturity dates for a range of 10 to 30 years. They are generally considered risk-free since the U.S. can tax its citizens to pay back the bonds.

Why buy bonds?

Investors who are especially risk-averse typically buy bonds to gain a steady income stream. They are usually given back their principal, as well as an interest payment twice a year. It is a great way to receive the entire principal back and preserve capital while continuing to invest in other assets. Governments tend to issue bonds to attain operating cash flow, fund capital investments and finance debts.

What types of bonds are there?

Several types of U.S. Treasury debt carry the full credit and faith of the U.S. government. These include the following:

  • Treasury bonds: Also known as T-bonds, treasury bonds are long-term securities that generally mature in 20 to 30 years and pay an interest amount every six months.
  • Treasury notes: Often referred to as T-notes, treasury notes are long-term securities that mature within two to 10 years. They are often used for consumer loans, such as mortgages.
  • Treasury bills: Also known as T-bills, treasury bills are short-term securities that mature within a few days, weeks or months. The most extended maturity term is for a year.
  • Treasury inflation-protected securities: TIPS adjust their price to keep their real value as inflation increases. Maturity terms consist of five, 10 and 30 years, and interest is paid every six months.

Advantages of treasury bonds

There are many advantages to investing in treasury bonds, and it is vital to understand both the benefits and risks of achieving your financial goals. Examples include:

  • Liquidity: While each type of bond has a maturity date to determine how sellable your investment will be, treasury bonds are highly liquid because there is always a market for them. Hence, they can be unloaded relatively quickly without highly significant price changes.
  • Tax perks: Treasury bonds are exempt from local and state taxes, though you need to pay federal income taxes. Keep in mind when selling your treasury bonds or redeeming them when they mature, some components can be taxed.

    Moreover, you can buy a bond at an Original Issue Discount (OID) or through a market discount via a secondary market. If you purchase a bond at an OID and sell it or wait until it reaches maturity, your profits will fall into a varying type of income compared to if you bought a bond at a market discount for a price that is less than the face value.

  • Reliable credit and low risk: The U.S. government backs securities and most likely has a negligible risk level. A 30-year treasury bond will typically pay out at a higher interest rate than shorter bonds due to having a longer maturity.

According to Statista, the treasury yield curve as of September 2020 shows how treasury bonds with longer maturities overall produce higher yields.

Graph of US Treasury yield curve

Disadvantages of treasury bonds

It is essential to think about your financial goals and whether the disadvantages of investing in treasury bonds are the way to go. Things to think about include the following:

  • Lower returns: Because treasury bonds have a low risk, they also come with lower returns in comparison to other investments such as stocks. However, investing in stocks does come with higher risks. The formula you can use to calculate your return on investment in treasury bonds held to maturity would be:

    Treasury Yield = [Coupon Rate + ((Face Value – Purchase Price)) / Time to Maturity] / [(Face Value + Purchase Price)/2]

  • Long-term investments and penalties: As previously mentioned, treasury bonds typically mature in 20 to 30 years, which can be a long time to wait to receive a return on your investment. Penalties and restrictions may be in place with redeeming treasury bonds before they mature as well.
  • Tax liabilities: Although you are exempt from paying local and state taxes when purchasing treasury bonds, you are still accountable for paying federal income taxes.

How to buy treasury bonds

To buy treasury bonds, you can go to the U.S. Treasury Direct website as long as you have a U.S. tax identification number. You will also need to access your bank account to fund your purchases and an email address to start your account. Treasury bonds are sold at online auctions four times each year on the first of Wednesday in February, May, August and November. You can do two types of bidding:

  • Non-competitive bidding: Non-competitive bidding is perfect for those who are not experts in securities trading. In this case, when you make a bid, you agree to accept any interest rate that is determined at the auction. In return, you will be guaranteed that your bid will be accepted, and you will be paid at face value when you reach maturity.
  • Competitive bidding: Competitive bidding is when you give the exact interest rate you wish to receive, but your bid will only be accepted if it is equal to or less than the auction set rate.

The minimum price for buying a treasury bond is often set at $100 and raises in increments of $100. The maximum amount you can invest in is $5 million.

You can also buy treasury bonds through a bank or brokerage. The financial institution will watch the U.S. Treasury’s auctions and place bids for you, though you may be charged an added fee to place bids with them. They can also help you buy older treasury bonds through a secondary market such as a major stock exchange for an extra fee.

Should you invest in treasury bonds?

There are many benefits to investing in treasury bonds, especially if you are looking for a low-risk alternative and are highly conservative. It can also be a way to diversify your financial holdings and mix your assets. Choosing to invest in treasury bonds can be great for your portfolio if you work with the right financial institution that is looking after your best interests.

Alliance America can help

Alliance America is an insurance and financial services company. Our financial professionals can assist you in maximizing your retirement resources and achieving your future goals. We have access to an array of products and services, all focused on helping you enjoy the retirement lifestyle you want and deserve. You can request a no-cost, no-obligation consultation by calling (833) 219-6884 today.

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