Look, I know this isn’t the sort of thing you should say on a date, but just between you and me: I keep an eye on the bond market, and there’s something interesting going on. Maybe not as interesting as celebrity gossip (if there isn’t a rapper named T-Bill, there should be), but interesting nonetheless.
Here’s what’s happening, why you might care, and what you should do about it if you do care.
Blue light special on US debt
We’re going to be talking here about US treasury bills and bonds (for convenience, let’s just call them all “bonds”). These are not the same as savings bonds, which have purchase limits and can’t be stored in retirement accounts. (Not that there’s anything wrong with savings bonds.) A treasury bond is just a small piece of the national debt: you’re loaning Uncle Sam some cash for a set period of time—anywhere from one month to 30 years—at a particular interest rate.
When people talk about treasurys (and yes, it’s usually spelled that way), they often refer to the price or the yield, which are really used to make the same point. If someone says a bond has a low price, that means it has a high yield (pays lots of interest), and vice versa.
What’s been happening in the bond market (and soon, you too are going to be saying “bond market” and getting kicked out of parties) is that yields have been going up. Or prices are coming down.
This is the opposite of what’s been happening since fall of 2008. Everyone from the Federal Reserve to grandma’s pension fund has been buying super-safe treasury bonds, driving prices up (and yields down), just like when the Wii was going for $500.
The US Treasury reports bond yields every day on its Daily Treasury Yield Curve page. As of December 13, 2010, the 10-year T-Bill is paying 3.28%. If you’re in the market for some, that’s a big improvement from a month ago, when it was paying 2.65%.
Why to buy
There’s no magic number that tells you when treasury bonds are cheap or expensive. You have to look at your own financial plan and figure out how treasurys fit in.
That’s what I did this week. I have a retirement spreadsheet that tells me that to hit our retirement goals with our current saving level, my wife and I need to earn at least 1.8% on our savings after inflation.
Fortunately, the US offers a type of a bond that adjusts automatically for inflation: Treasury Inflation-Protected Securities (TIPS). The 30-year TIPS is paying 1.95 (a month ago: 1.58%). That sounds good to me, so I’m going to take a small portion of my retirement savings and buy an individual 30-year TIPS. This comes with some risk (if I need the money early, I might have to sell the bond at a loss, and I might not be able to reinvest the dividends at the same 1.95%), but it lets us lock in a rate consistent with our goals—and that lets us reduce our exposure to riskier assets.
Long-term nominal (non-TIPS) bonds are not really appropriate for individual investors: a spell of unexpected inflation could eat up the value of your bond like a freelance writer let loose at an all-you-can-eat buffet. (Trust me, neither scenario is pretty.)
How to buy
There are three ways to buy treasurys.
1. In a mutual fund or ETF. This is the right way to go most of the time: it’s easy to reinvest dividends, and the return is comparable to buying individual bonds. Vanguard, for example, offers low-cost funds that own short-term treasurys (VFISX), intermediate-term treasurys (VFITX), long-term treasurys (VUSTX), and intermediate-term TIPS ((VIPSX), which I own). If you’re looking at short-term treasurys, however, consider just buying a CD instead: they pay higher rates at the moment and are equally safe.
2. Individual bonds in a taxable account. You can buy bonds directly from the government with no fees at TreasuryDirect.gov
3. Individual bonds in a retirement account. If you want to put individual bonds in an IRA, you have to buy through a broker. Of the major discount brokerages, Fidelity and Schwab allow you to buy treasurys online with no fee or markup. (Note: I’m a Schwab customer.)
As rapper T-Bill put it on his classic mixtape Yield Curve, well, none of that imaginary record is quotable in this family-friendly publication. But I think he would, in his own unprintable way, encourage you to keep an eye on the bond market.