They're low-risk, liquid investments that, upon purchase, do Uncle Sam a favor...
What are these mystery tools, and what surprises do they hold?
They're Treasury securities, or Treasuries, as they're commonly called. Treasuries comprise four types of securities -- Treasury bills, Treasury bonds, Treasury notes and TIPS, which stands for Treasury Inflation-Protected Securities. But there's more to them than just the advantage of helping out the government. They can be viable investing tools that add value to your portfolio.
The U.S. Treasury created Treasuries in 1790 as a debt-financing tool for the United States. (In 1790, the national debt, incurred during the Revolutionary War, was $54 million, or about $4.1 trillion in today's dollars.) They are sold at auction weekly (quarterly for 30-year Treasury bonds) and, despite worldwide financial turmoil, remain a solid investment.
"Despite last year's (U.S. credit-rating) downgrade, U.S. Treasuries are the safest credit anywhere in the world," said Larry Hill, senior portfolio manager at Bernstein Global Wealth Management in New York.
Solid, but because of low interest rates, not particularly lucrative. While buying Treasuries won't make anybody rich overnight, they're useful enough to warrant a second look.
"Every investor should know what they are and what they can be used for," Hill said, adding that for many people, "they'd be a little too conservative if you have long-term goals and objectives."
With that in mind, here are 10 facts investors should know about Treasuries:
1. Treasury bills are shorter-term investments. They come with maturation rates from a few days to one year (52 weeks). They are sold at a discount, or coupon, of 1% off face value; when the bill matures, the seller receives the interest rate and the principal in the form of the face value.
2. Treasury bonds are longer-term investments. They have maturities of two, three, five, seven and 10 years. (Thirty-year bonds are issued quarterly.)
3. Treasury notes are also longer-term investments. Treasury notes mature in two to 10 years; holders receive interest payments every six months. Treasury notes are sold at a discount to face value, and when the note matures, the seller receives the full value.
4. TIPS offer protection of the principal against inflation. They are available with maturities of five, 10 and 30 years and pay interest every six months. The principal increases along with the rate of inflation, and interest accrues on that principal-plus-inflation amount. When the bond matures, the seller gets the whole heapin' helping.
5. As investments go, they're safe. "They are widely considered to be a risk-free asset on the shorter maturities," Hill said. "Interest rate volatility won't affect them."
6. Fun fact: China is the world's largest holder of Treasuries, precisely because the investments are so safe and because of the volume of trade that country does with the United States.
7. Treasuries are not particularly lucrative. There's always a tradeoff with a safe investment, and with Treasuries, it's a low yield because of historically low interest rates. In fact, Treasuries yields are the lowest they've been since 1790, Hill noted. The yield now is .65%, meaning that a five-year Treasury bond would earn its owner about 3% over that time.
"Many high-quality stocks pay that much in dividends every year," Hill said. "You do sacrifice returns."
8. They're liquid. "The market is readily active and available" for Treasuries, Hill said. That goes for bonds that are mature and yet haven't reached maturation rate, though for investment purposes, buyers are smarter to hold on until the bond, bill, note or TIPS matures.
9. TIPS can prove a tax disadvantage. TIPS holders pay taxes on the interest they receive, as well as on the increase in the principal, even though holders won't see that money until the TIPS matures. For that reason, TIPS are best used in a tax-deferred account, such as an IRA, or via investing in a mutual fund that owns TIPS, Hill said.
10. You can buy Treasuries direct from the government. A government-maintained website Treasury Direct sells T-bills and T-bonds at a discount (or coupon, in Treasuries parlance) off face value. Treasury Direct also offers useful information on different U.S. Treasury products, including bills, notes, bonds, TIPS and EE saving bonds. (The U.S. Treasury also sells savings bonds: I Bonds, which like TIPS are protected from inflation, and EE Bonds, which pay interest based on current market rates. The difference between bonds and Treasuries is that the bonds are not sold at auction.)
Action to Take --> For cautious types who'd just as soon put their savings under a mattress, Treasuries are a safe and sound investment vehicle. They're also good for young investors saving for something big, say college, and who need a safe place for money to grow over a short period of time.
But they're hardly a one-size-fits-all investment. "If you're 35 years old and saving for retirement, you don't need the safety of Treasuries in your portfolio," Hill said.
This article originally appeared on InvestingAnswers.com: