United States Treasury security
A United States Treasury security is a fixed-income security issued by the United States Treasury Department. U.S. Treasury.
Treasury securities are backed by the full faith and credit of the US government, and are available in two types: marketable and nonmarketable. Treasury security interest income is exempt from state tax. Treasury securities can be purchased in an individual or entity account at Treasury Direct. [note 1] Marketable Treasury securities also can be purchased in accounts at some banks and brokerages.
Marketable Treasury securities
There are four types of marketable Treasury securities:
- Treasury bills have maturities ranging from a few days to 52 weeks.
- Treasury notes have maturities ranging from one year to ten years.
- Treasury bonds have maturities of greater than ten years.
- Treasury Inflation Protected Securities (TIPS) are securities whose principal is adjusted by changes in the Consumer Price Index. TIPS pay interest every six months and are issued with maturities of 5, 10, and 30 years.
In addition to being backed by the full faith and credit of the United States government, another benefit of marketable Treasury securities currently being issued is that they are not callable. Some older issues available on the secondary market are callable.
See the linked articles for details on each type of marketable Treasury security.
Nonmarketable Treasury securities
There are several types of nonmarketable Treasury securities. The types that are of most interest to individual investors are U.S. Savings Bonds, which currently are issued in two series: Series EE and Series I. See the linked articles for details on each type of savings bond.
The other types of nonmarketable Treasury securities are Zero-Percent Certificate of Indebtedness and Government Account Series. The former may be of interest to investors with a TreasuryDirect account.
Role in a portfolio
Treasury securities are candidates for the fixed-income portion of a portfolio. Generally the primary risks of fixed-income securities are credit risk and interest-rate risk. However, since treasuries are widely considered to have no credit risk, this leaves primarily interest-rate risk as a consideration. Nominal Treasury securities (Treasuries other than TIPS) also have inflation risk, and Treasury securities other than Treasury bills have reinvestment risk.
Because there is no credit risk, it is not necessary to diversify by holding a large number of Treasury securities. Nevertheless, mutual funds are available that invest only in treasuries, and some investors use these funds for convenience.
Due to their short-term maturities, Treasury bills have very little interest-rate risk, and thus generally are considered the safest type of fixed-income security. Treasury bills also have no reinvestment risk, so the nominal return of a T-Bill held to maturity is certain. See Treasury bill for more details on the role of T-Bills in a portfolio. FDIC-insured bank accounts and short-term Certificates of Deposit (CDs) are similarly safe alternatives for retail investors.
The interest-rate risk, inflation risk, and reinvestment risk of Treasury notes and bonds is proportional to their maturities (i.e., longer maturity = higher risk). Most Bogleheads authors recommend holding shorter-term fixed-income securities, including treasuries, typically with maturities no greater than five years. [note 2]
"Take your risk in stocks" is a refrain often heard in conversations advocating conservatism in bond investing, as the potential reward for taking on risk with newly issued bonds held to maturity is limited by the coupon rate, whereas with stocks the investor shares fully in the up-side when risks are rewarded.
Some authors recommend holding longer-term nominal Treasury securities, especially if the investor has a high allocation to equities. A recent paper co-authored by Larry Swedroe presented evidence that this was an effective strategy. David Swensen advocates the use of long-term Treasuries held in small amounts as the perfect diversifier for equities, a concept explored in this forum thread. See Treasury bond for more on the role of longer-term Treasury bonds in a portfolio.
Others advocate including other types of bonds in the bond portion of the portfolio, resulting in higher yield, higher expected total return, but also higher credit risk. Categories of bonds often included by advocates of this approach (including Bogleheads Guide authors) include mortgage-backed securities (MBS) and corporate bonds. The popular Vanguard Total Bond Market Index fund holds corporate bonds and MBS as well as Treasury securities.
A common recommendation for the fixed-income portion of the portfolio is to hold some nominal bonds, including Treasury securities, and some real return bonds such as TIPS. Larry Swedroe advocates primarily holding TIPS and short-term nominal Treasury securities as the fixed-income portion of a portfolio. Maturities of TIPS can be extended because of the inflation protection feature. See Treasury Inflation Protected Security for more on the role of TIPS in a portfolio.
Bogleheads author and investment manager Rick Ferri advocates the inclusion of a small portion of high-yield bonds as well. Investors should understand the rationale for and the risks of such a strategy before adopting it, since higher yield almost always comes with higher risk.
See Bond basics for more information on the role of Treasuries and other fixed-income securities in a portfolio.
- Government agencies also issue debt, some of which is backed by the full faith and credit of the government and some which is not.
- Historical interest rates for Treasury securities are included in the graphs below. Data source:FRED, St. Louis Federal Reserve.
- Treasury Direct Why You Should Consider Treasury Securities for Your Portfolio
- Treasury Direct Treasury Bonds. However, Treasury Direct cannot be used to purchase bonds intended for IRAs. (Treasury Direct 31CFR Part 346, Regulations Governing U.S. Individual Retirement Bonds)
- Treasury Direct: Treasury Securities & Programs
- Ferri. "Total Bond Index Funds are Not the Total Bond Market". Retrieved April 17, 2012