Treasury bonds can turn out to be a good investment for the ones who seek stable returns or for those who are close to retirement. Are treasury bonds a good investment choice?
Investors consider several factors before applying for a bond: these factors include the type of bond, the amount the interest the bond pays, and the time duration their investment will be tied up.
Apart from these factors, there are other things also which can bear risk tolerance with a bond’s risk of default. These bonds are guaranteed by the US government.
US Treasury bonds are also a type of fixed income type that help investors to get guaranteed returns.
What is Fixed Income Securities?
Fixed income refers to those investment securities that pay a fixed sum of interest or dividend payments till their maturity date. Government and fixed income bonds are considered as one of the safest fixed income instruments in the world.
A bond is a debt security issued by an investor to a borrower. Here, the investors are: governments and organizations where they raise funds by issuing bonds and borrowers are the ones who purchase these securities and in turn achieve a significant amount of interest from the government.
It may be noted that the government pays you the principal amount on the date of maturity.
If you want to diversify your portfolio with the purpose of equity, you need to consider bonds as an asset class. Just like the equity trading market where investing comes with profits and loss, investing in bonds also has its good or bad.
Here are some of the pros and cons:
Pros
- With bonds, you receive a regular income through interest payments.
- Hold the bond to maturity to get the principal back.
- Capital gains if you sell the bond at a much higher price.
- Government and investment bonds are considered low-risk assets.
- Low correlation to equities that provide portfolio diversification.
Cons
- Bonds offer low returns as compared to equity.
- The market price of the bond is directly proportional to volatility and can fall.
- The borrower can default on the bonds and here the risk.
Before taking a deep dive into bonds, let’s take a look at the terminologies:
Face Value
The amount of bond will be worth only at its maturity. It is the reference amount that the issuer issues while calculating the interest payments. For instance, if someone purchased a bond worth $1K, that becomes the face value of that bond.
Coupon Rate
The rate of interest issuers will pay on the face value of the bond. A coupon rate of 5% will mean the bondholder will receive 5% every year on the $1K invested.
Coupon Dates
Dates on which the bond issuer will pay interest. The coupon date can be monthly, quarterly, annually.
Maturity Date
The date at which the bond will mature and the bond issuer will return the face value of the bond.
Expense Ratio
An expense ratio is an annual fee a fund charges to cover its expenses. For instance, if an ETF has an expense ratio of 1%, it means the fund uses 1% of the assets to cover the expenses.
Bond Ratings
Bonds are classified through their credit ratings of which the highest quality of bonds are classified as investment grade.
Under this category, bonds are issued by the US government and stable blue-chip companies. Different bonds are available and therefore it is up to you which bond you want to invest in. Bonds that have poor credit ratings have a higher risk of default.
High rated bonds are rated as AAA while D means default. Bonds that come with a longer maturity date usually have a higher rate of interest. This is because such bonds have bondholders to default risk that can be extended for a longer period.
Agencies like S&P, Moody’s, and CRISIL have the authority to give credit ratings to bonds.
US government bonds are generally issued by the federal government for a specific duration. These bonds are considered as less defaulter and therefore they carry the lowest rate of default. The bonds that the US Treasury issues are known as T-bills or treasury bills.
Different Types of US Treasury
Treasury Bills
Treasury bills are a type of government bond at which the maturities start from a few days to 52 weeks. These short term government bonds are sold at a discount from their face value.
Treasury Bonds
These bonds have a tenor of 20 or 30 years as these bonds pay interest every six months.
Treasury Notes
Government securities are issued with maturities of two, three, five, seven and ten hours.
Treasury Inflation-Protected Securities
There are securities that are issued with maturities of five, 10 and 30 years. These securities pay interest every six months. The only difference from the bonds is that the issuer adjusts the principal of such securities based on the Consumer Price Index (Consumer Price Index).
Floating Rate Notes
FRNs are issued for a two years term and pay interest to their shareholders on a quarterly basis. The interest rates rise and fall which is based on discount rates for 13-week Treasury bills.
Series I Savings Bond
These are low-risk savings products that not only earn interest but also protect you from inflation fluctuations.
Series EE Savings Bond
These are savings products that pay interest based on current market rates until 30 years or you cash them.
Ways to Invest in US Treasury Bonds from India
ETFs are the easiest way to invest US treasuries and corporate bonds as these are very lost cost securities than other securities. These types of investments are made under the Liberalized Remittance Scheme of the RBI.
Below is a list of some ETFs of different tenors that you can consider for investing in US Treasuries.
iShares 1-3 Year Treasury Bond ETF
This ETF tracks treasury bonds with short term maturities ranging from 1-3 years. The fund carries an expense ratio of 0.15%. It has total assets worth $19.5 2B and a dividend yield of 0.46%.
Vanguard Intermediate-Term Treasury ETF
The fund offers exposure which has a tenure of three to 10 years. The fund has the lowest expense ratio at 0.05%. This ETF has assets worth $7.62B under management.
SPDR Portfolio Long Term Treasury ETF
This ETF records an index that offers exposure to US treasuries having a maturity of 10 years and more. It carries minimal credit risk but a significant amount of risk associated with it. The fund has an expense ratio of 0.06% and has an AUM of $3.56.
Takeaway
Bonds can be considered as the safest yet most trusted investment security irrespective of age. This is because bonds can provide income, safety, and help to minimize the risk in an investment portfolio.
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