What are Treasury Notes?
Conservative investors can do no better than government-backed securities when it comes to safety and stability. And while there are several types of government bonds available, the most popular is the Treasury Note, or T-Note. In fact, the 10-Year Treasury Note is the most popular debt instrument in the world.
Treasury Notes are fixed-income securities issued by the U.S. Treasury with maturities ranging from two to 10 years. They’re redeemable for par value at maturity; however, in the meantime, investors benefit from a coupon payment every six months. They’re backed by the full faith and credit of the United States Government, which makes them one of the safest debt securities and a strong defensive investment.
There’s more to T-Notes than their par value and coupon rate, however. These debt instruments are heavily tracked by many other financial products based on how they affect the Yield Curve. Here’s a closer look at T-Notes and their role as both investment products and economic benchmarks.
How Treasury Notes Work as Investments
Like all government-backed debt securities, the U.S. issues T-Notes to fund infrastructure projects and other civil projects. Each Treasury Note features a $1,000 par value, redeemable for full face value at maturity. Maturities include increments of two, three, five, seven and 10 years, with the 10-Year T-Note far and away the most popular.
T-Notes are popular among income investors because they pay interest payments twice annually (every six months), with interest rates skewing higher the longer the note’s term. As is the case for other government securities, there’s no tax at the state and local level; however, income from bonds is subject to tax at the federal level.
The Benefits of Investing in Treasury Notes
Treasury Notes are popular with income investors because of their many maturities. This, coupled with safe interest rates and the bi-annual interest payments makes them great for tax-advantaged cash flow. At the very least, they’re a defensive investment that can bring balance to a portfolio.
The other big benefit of Treasury Notes is their popularity in secondary markets (more on this below). It’s easy to buy and sell bonds in this market, making them relatively liquid.
The Drawbacks of Investing in Treasury Notes
Inflation is the biggest threat to T-Notes. Their moderate time horizon (up to 10 years) leaves their par value subject to inflationary decay during the maturity period. This, coupled with lower interest rates than corporate bonds, can leave investors wondering about their efficacy as an investment. T-Note investors need to monitor the yield curve, which, ironically, is heavily influenced by T-Notes.
How to Calculate the ROI of a T-Note
As a primary tool for income investment, it’s prudent to understand the total ROI of a T-Note over the term of the security. Investors should look at total return, as well as the annual rate of return. For example, if you have a $1,000 T-Note that has returned $150 over a three-year period, it has a 15% rate of return and a 5% annual rate of return.
For those who acquire a T-Note through the secondary market, consider the carrying value when determining forward-looking ROI. Carrying value is the amount of value left in the bond until maturation. To determine this, add the remaining premium to be amortized to the face value of the bond.
A Look at the Secondary Market for T-Notes
There’s a robust secondary market for T-Notes. Broker-dealers often buy T-Notes and sell them to investors, or purchase them back. The fluctuations of supply and demand keep the market for T-Notes flowing. Many fund managers and institutional investors help maintain T-Note liquidity by buying them as defensive investments to balance large portfolios. These notes change hands with varying prices and premiums, dictated by competitive and non-competitive bids set at auction.
Competitive vs. Non-Competitive Bids
Competitive bids have buyers specify the desired yield they expect from a T-Note. The most competitive bid sets the yield and winning bids secure the bond. Non-competitive bids guarantee purchase of the bond at rates set by competitive bidders. These bids occur at the point of issuance and carry through secondary markets as the note changes hands.
Treasury Notes as a Benchmarking Tool
Once, the 30-Year Treasury Bond was the staple for economic benchmarking. Today, the 10-Year T-Note holds that title. The reason? Because it’s the primary benchmark on the Yield Curve.
The debt Yield Curve is a measure of the interest rates associated with debt securities across different maturity periods. Theoretically, the longer the maturity term, the higher the interest rate. This isn’t always the case, however. The Yield Curve can be normal, flat or inverted:
- Normal occurs when long-term maturities garner higher interest rates than short-term.
- Flat occurs when interest rates are negligible across debt securities, regardless of term.
- Inverted occurs when short-term maturities garner higher interest rates than long-term.
The Yield Curve examines three-month, two-year, five-year, 10-year, and 30-year U.S. Treasury debt. Most of the products examined are Treasury Notes, and the 10-year T-Note is a good midway point on the curve to dictate the slope (if any).
The Most Popular Government-Back Securities
T-Notes are a popular debt instrument for so many reasons. With diverse options for maturity and a burgeoning secondary market, it’s easy for investors to secure Treasury Notes that conform to their short-to-medium-term investment strategy. Moreover, T-Notes play a role in shaping broader markets based on investor sentiment and economic markers. To say they’re an integral part of global financial markets is an understatement. And you can learn all about them with the experts at Liberty Through Wealth. Sign up for the Liberty Through Wealth e-letter below for access to stock tips and smart investment opportunities.