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WILL TREASURYS RESCUE YOUR PORTFOLIO? By Nikhil Hutheesing
WWW.FORBESNEWSLETTERS.COM
2
008 was a pitiful year for investors but there was one group that had something to boast about: those who bought Treasurys. During times of economic crisis and mar-
ket turmoil, investors often move into Treasurys, which are typically regarded as a safehaven for funds. While the broader stock market indexes were down about 40% in 2008, 10 year treasury notes, which are government securities that are issued with maturities of 2, 3, 5, and 10 years and pay interest every six months, saw their yields drop—from more than 4% to 2%—still providing income for investors. The yield on 30-year maturity Treasury bonds, also known as the Long Bond, fell from 4.5% to 2.6% as the price jumped by 37.5%, so with the interest coupon, the total return was 42%.
Is investing in Treasurys still wise? With the prospect of inflation, Obama’s massive stimulus spending and an increasing deficit, you have to be very careful. Here’s what you need to know and what you may want to buy.
WWW.FORBESNEWSLETTERS.COM
the market value. Treasury bond futures require even less margin, around 1%. Zero coupon bonds, which are sold at a discount and have the interest return built in since they mature at par, rise much more in price than coupon bonds when interest rates fall. That's because you don't have to reinvest the coupon payments at everlower returns as interest rates fall. But Shilling’s excellent track record would be hard to replicate in today’s environment. So is now a good time to get into Treasury bonds? Probably not. Interest rates are very low and investors know that President Obama is planning to counter the bad news with an increase in stimulus spending, which could mean a rise in infla◆ First, he says they're the best credits in the tion, along with an increase in the nation's debt. world, so far above AAA that they aren't rated but instead are the standard by which other fixed income vehicles are compared. This means you TIPS May Be the Best Choice With the prospect of higher interest rates and don't have to worry about credit quality, defaults or writedowns as is the case with subprime- inflation that could come from Obama's efforts to rebuild the economy, your best bet, if you are backed CDOs. seeking the safety of Treasurys, is Treasury ◆ Second, Shilling points out that they have Inflation Protected Securities (TIPS). These gigantic liquidity, trading billions and billions securities are indexed with inflation so as prices rise, so does the value of the principal and the and billions each day. coupon payment. You can buys TIPS for 5, 10 and 20 years terms ◆ Third, in most cases Treasurys can't be called before maturity as can many corporate and and the minimum investment was recently municipal bonds. If interest rates decline, those dropped from $1,000 to just $100. The rate bonds are called and you're forced to replace your adjusts every six months and the coupon rate corporate or muni with a lower yielding bond. paid by TIPS adjusts according to changes in the But if rates go up, they aren't called and you're consumer price index for urban consumers. While TIPS are less volatile than Treasury stuck with a lower-than-market-yielding bond. bonds and notes, their value and the coupon they Heads the issuer wins, tails you lose. pay will fall are if prices decline. If inflation does Shilling also says that with Treasurys you can be not occur, you have to be prepared to accept a as aggressive as you want. There are no margin meager return. requirements, so lenders will often lend 95% of Another worry: If instead of inflation, we actuTreasury Notes and Bonds Gary Shilling, a Forbes columnist and one of the nation's top economists and editor of Gary Shilling's Insight, has long been profiting from Treasurys. Back in 1981 when 30 Year Treasury bonds peaked at 14.7%, Shilling recommended buying Treasurys and he successfully remained invested during the its 27 year rally. Treasury bonds, like Treasury notes, pay interest every six months, but the bonds mature in a period greater than 20 years. In his report, Bear Market Tool Kit, Shilling explains why Treasury bonds can be so good for investors.
WWW.FORBESNEWSLETTERS.COM
1
ally end up in a deflationary environment, the value of the principal and the coupon will actually fall. For the three months ending in December, the consumer price index has fallen 12.7%. The good news here, is that even if prices do come down significantly, there is a safety net. If you hold the TIPS until maturity, you get back your original principal—so that is safe. There is no guarantee on the coupon rate.
Treasury Bills Treasury bills are securities that have a length of maturity that is less than one year (13, 26 or 52 weeks). Therefore, they are offered in a discounted form. Instead of offering interest along with the repayment amount, purchasers are offered more money at the time of maturity than they paid for the bill to begin with. So if you were to buy a 3 month T-bill right now for $10,000, you would have to pay $9,996.46; a six-month bill sold for $9,983.82. That would equal an annualized rate of 0.142% for the three-month bills and 0.195% for the sixmonth bills. But the yield here isn't great. Even with the poor news coming out of the banking sector and Microsoft's surprise announcement that it would post an 11% drop in earnings for its second quarter, the yield on the three-month Tbill, considered one of the safest investments, rose to 0.11%—practically zero.
Savings Bonds Savings bonds differ from others in that they are registered to one person only and therefore cannot be actively traded. Also, they are the most affordable kind of treasury investment, as investors can purchase them for as low as $25.
This is a low-risk savings product that earns interest while protecting you from inflation. Right now, it offers a relatively gigantic 5.64% annual interest rate. Not an all-time high, but compared to the alternatives, an appealing investment.
How to Buy Treasurys You can buy Treasurys through various discount and full service brokers. Bond brokers also allow you to buy and sell treasurys. Savings Bonds can be bought at just about any bank as well as other financial institutions. Or you can go through the "Treasury Direct" program, which provides transactions for little or no fees. Treasury Direct (www.treasurydirect.gov) Tel: (304) 480-6144 One way to buy Treasurys is to go to Treasury Direct, an electronic marketplace and online account system where investors may hold and conduct transactions in eligible book-entry Treasury securities. The Treasury Direct system is run by the Bureau of the Public Debt section of the U.S. Treasury Department, a branch of the federal government. Investors are able to participate in Treasury auctions and purchase debt securities, including U.S. savings bonds directly from the U.S. Treasury. For buying government debt securities, this program is relatively inexpensive and trouble-free. Eligible securities include Treasury bills, Treasury notes, Treasury bonds, Treasury inflation-protected securities (TIPS). Buying is simple. Once you log on, you can click directly to purchase express, the online buy order entry system. You'll be prompted to select the owner of the security, as many investors buy Treasuries for gifts and other charitable transfers. You'll also select the product type or term, source of funds and the amount of purchase. You can
WWW.FORBESNEWSLETTERS.COM
2
schedule the purchase for whenever you like and how often you like, although dates are subject to availability. The system will allow you to review your order before submitting it. Savings bonds are usually issued to your account within one business day; T-bills, notes, bonds and TIPS are issued within one week of the auction date. The minimum purchase amount for savings bonds is $25 per person per year in penny increments up to $5,000. For T-bills, notes, bonds, and TIPS, an investor may submit noncompetitive bids from $100 up to $5 million for each security type in $100 increments.
Bond Funds You can also buy Treasurys and TIPS through a bond fund to take advantage of the fund manager's ability to stagger maturities and trade for capital gains. Unless you own a fund in a tax-deferred account, you'll have to pay taxes on the inflation-based readjustment of principal as well as on interest payouts. But funds pay the adjustment of principal as income, so you won't have to wait until the bond matures to get it. Here are some bond funds to consider:
iShares Barclays TIPS Bond Fund (nyse: TIP) has an expense ratio of 0.20% a yields 6.46%.
WWW.FORBESNEWSLETTERS.COM
3
Vanguard Inflation-Protected Securities fund (VIPSX) has an expense ratio of 0.20% and yields 5.33%.
The SPDR Barclays Capital TIPS ETF (nyse: IPE) has an expense ratio of 0.19% and yields 5.97%.
WWW.FORBESNEWSLETTERS.COM
4
Vanguard Intermediate-Term Treasury (VFITX) has an expense ratio of 0.26% and a 30 day yield of just under 2.5%. 85% of its assets are in regular Treasury debt or Treasury inflation-protected securities.
T.Rowe Price U.S.Treasury Intermediate (PRTIX) has an expense ratio of 0.54% and a 30 day yield of just under 2.5%. 85% of its assets are in regular Treasury debt or Treasury inflation-protected securities.
WWW.FORBESNEWSLETTERS.COM
5
Vanguard Intermediate-Term Bond Index (VBIIX) has an expense ratio of 0.18% and a 30-day yield of 4.72%. 54% of assets in government bonds—42% in Treasuries and 12% in agency securities—and the rest in investment-grade corporate bonds.
American Century Inflation Adjusted Bond (ACITX) has an expense ratio of 0.49% and yields 5.62%.
WWW.FORBESNEWSLETTERS.COM
6
Fidelity Inflation-Protected Bond (FINPX) has a 0.45% expense ratio and yields just under 2%.
Pimco Real Return (PRRIX) has a 0.45% expense ratio and yields 3.91%.
WWW.FORBESNEWSLETTERS.COM
7
WWW.FORBESNEWSLETTERS.COM
2
008 was a pitiful year for investors but there was one group that had something to boast about: those who bought Treasurys. During times of economic crisis and mar-
ket turmoil, investors often move into Treasurys, which are typically regarded as a safehaven for funds. While the broader stock market indexes were down about 40% in 2008, 10 year treasury notes, which are government securities that are issued with maturities of 2, 3, 5, and 10 years and pay interest every six months, saw their yields drop—from more than 4% to 2%—still providing income for investors. The yield on 30-year maturity Treasury bonds, also known as the Long Bond, fell from 4.5% to 2.6% as the price jumped by 37.5%, so with the interest coupon, the total return was 42%.
Is investing in Treasurys still wise? With the prospect of inflation, Obama’s massive stimulus spending and an increasing deficit, you have to be very careful. Here’s what you need to know and what you may want to buy.
WWW.FORBESNEWSLETTERS.COM
the market value. Treasury bond futures require even less margin, around 1%. Zero coupon bonds, which are sold at a discount and have the interest return built in since they mature at par, rise much more in price than coupon bonds when interest rates fall. That's because you don't have to reinvest the coupon payments at everlower returns as interest rates fall. But Shilling’s excellent track record would be hard to replicate in today’s environment. So is now a good time to get into Treasury bonds? Probably not. Interest rates are very low and investors know that President Obama is planning to counter the bad news with an increase in stimulus spending, which could mean a rise in infla◆ First, he says they're the best credits in the tion, along with an increase in the nation's debt. world, so far above AAA that they aren't rated but instead are the standard by which other fixed income vehicles are compared. This means you TIPS May Be the Best Choice With the prospect of higher interest rates and don't have to worry about credit quality, defaults or writedowns as is the case with subprime- inflation that could come from Obama's efforts to rebuild the economy, your best bet, if you are backed CDOs. seeking the safety of Treasurys, is Treasury ◆ Second, Shilling points out that they have Inflation Protected Securities (TIPS). These gigantic liquidity, trading billions and billions securities are indexed with inflation so as prices rise, so does the value of the principal and the and billions each day. coupon payment. You can buys TIPS for 5, 10 and 20 years terms ◆ Third, in most cases Treasurys can't be called before maturity as can many corporate and and the minimum investment was recently municipal bonds. If interest rates decline, those dropped from $1,000 to just $100. The rate bonds are called and you're forced to replace your adjusts every six months and the coupon rate corporate or muni with a lower yielding bond. paid by TIPS adjusts according to changes in the But if rates go up, they aren't called and you're consumer price index for urban consumers. While TIPS are less volatile than Treasury stuck with a lower-than-market-yielding bond. bonds and notes, their value and the coupon they Heads the issuer wins, tails you lose. pay will fall are if prices decline. If inflation does Shilling also says that with Treasurys you can be not occur, you have to be prepared to accept a as aggressive as you want. There are no margin meager return. requirements, so lenders will often lend 95% of Another worry: If instead of inflation, we actuTreasury Notes and Bonds Gary Shilling, a Forbes columnist and one of the nation's top economists and editor of Gary Shilling's Insight, has long been profiting from Treasurys. Back in 1981 when 30 Year Treasury bonds peaked at 14.7%, Shilling recommended buying Treasurys and he successfully remained invested during the its 27 year rally. Treasury bonds, like Treasury notes, pay interest every six months, but the bonds mature in a period greater than 20 years. In his report, Bear Market Tool Kit, Shilling explains why Treasury bonds can be so good for investors.
WWW.FORBESNEWSLETTERS.COM
1
ally end up in a deflationary environment, the value of the principal and the coupon will actually fall. For the three months ending in December, the consumer price index has fallen 12.7%. The good news here, is that even if prices do come down significantly, there is a safety net. If you hold the TIPS until maturity, you get back your original principal—so that is safe. There is no guarantee on the coupon rate.
Treasury Bills Treasury bills are securities that have a length of maturity that is less than one year (13, 26 or 52 weeks). Therefore, they are offered in a discounted form. Instead of offering interest along with the repayment amount, purchasers are offered more money at the time of maturity than they paid for the bill to begin with. So if you were to buy a 3 month T-bill right now for $10,000, you would have to pay $9,996.46; a six-month bill sold for $9,983.82. That would equal an annualized rate of 0.142% for the three-month bills and 0.195% for the sixmonth bills. But the yield here isn't great. Even with the poor news coming out of the banking sector and Microsoft's surprise announcement that it would post an 11% drop in earnings for its second quarter, the yield on the three-month Tbill, considered one of the safest investments, rose to 0.11%—practically zero.
Savings Bonds Savings bonds differ from others in that they are registered to one person only and therefore cannot be actively traded. Also, they are the most affordable kind of treasury investment, as investors can purchase them for as low as $25.
This is a low-risk savings product that earns interest while protecting you from inflation. Right now, it offers a relatively gigantic 5.64% annual interest rate. Not an all-time high, but compared to the alternatives, an appealing investment.
How to Buy Treasurys You can buy Treasurys through various discount and full service brokers. Bond brokers also allow you to buy and sell treasurys. Savings Bonds can be bought at just about any bank as well as other financial institutions. Or you can go through the "Treasury Direct" program, which provides transactions for little or no fees. Treasury Direct (www.treasurydirect.gov) Tel: (304) 480-6144 One way to buy Treasurys is to go to Treasury Direct, an electronic marketplace and online account system where investors may hold and conduct transactions in eligible book-entry Treasury securities. The Treasury Direct system is run by the Bureau of the Public Debt section of the U.S. Treasury Department, a branch of the federal government. Investors are able to participate in Treasury auctions and purchase debt securities, including U.S. savings bonds directly from the U.S. Treasury. For buying government debt securities, this program is relatively inexpensive and trouble-free. Eligible securities include Treasury bills, Treasury notes, Treasury bonds, Treasury inflation-protected securities (TIPS). Buying is simple. Once you log on, you can click directly to purchase express, the online buy order entry system. You'll be prompted to select the owner of the security, as many investors buy Treasuries for gifts and other charitable transfers. You'll also select the product type or term, source of funds and the amount of purchase. You can
WWW.FORBESNEWSLETTERS.COM
2
schedule the purchase for whenever you like and how often you like, although dates are subject to availability. The system will allow you to review your order before submitting it. Savings bonds are usually issued to your account within one business day; T-bills, notes, bonds and TIPS are issued within one week of the auction date. The minimum purchase amount for savings bonds is $25 per person per year in penny increments up to $5,000. For T-bills, notes, bonds, and TIPS, an investor may submit noncompetitive bids from $100 up to $5 million for each security type in $100 increments.
Bond Funds You can also buy Treasurys and TIPS through a bond fund to take advantage of the fund manager's ability to stagger maturities and trade for capital gains. Unless you own a fund in a tax-deferred account, you'll have to pay taxes on the inflation-based readjustment of principal as well as on interest payouts. But funds pay the adjustment of principal as income, so you won't have to wait until the bond matures to get it. Here are some bond funds to consider:
iShares Barclays TIPS Bond Fund (nyse: TIP) has an expense ratio of 0.20% a yields 6.46%.
WWW.FORBESNEWSLETTERS.COM
3
Vanguard Inflation-Protected Securities fund (VIPSX) has an expense ratio of 0.20% and yields 5.33%.
The SPDR Barclays Capital TIPS ETF (nyse: IPE) has an expense ratio of 0.19% and yields 5.97%.
WWW.FORBESNEWSLETTERS.COM
4
Vanguard Intermediate-Term Treasury (VFITX) has an expense ratio of 0.26% and a 30 day yield of just under 2.5%. 85% of its assets are in regular Treasury debt or Treasury inflation-protected securities.
T.Rowe Price U.S.Treasury Intermediate (PRTIX) has an expense ratio of 0.54% and a 30 day yield of just under 2.5%. 85% of its assets are in regular Treasury debt or Treasury inflation-protected securities.
WWW.FORBESNEWSLETTERS.COM
5
Vanguard Intermediate-Term Bond Index (VBIIX) has an expense ratio of 0.18% and a 30-day yield of 4.72%. 54% of assets in government bonds—42% in Treasuries and 12% in agency securities—and the rest in investment-grade corporate bonds.
American Century Inflation Adjusted Bond (ACITX) has an expense ratio of 0.49% and yields 5.62%.
WWW.FORBESNEWSLETTERS.COM
6
Fidelity Inflation-Protected Bond (FINPX) has a 0.45% expense ratio and yields just under 2%.
Pimco Real Return (PRRIX) has a 0.45% expense ratio and yields 3.91%.
WWW.FORBESNEWSLETTERS.COM
7
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