Reinvestment Risk and The Case for Duration Over Treasury Bills
Here’s a question advisors are asking these days: If I can get my clients 5% in T-Bills, why would I consider longer dated treasury or corporate bonds?
Good advisers understand their clients can earn more than 5% these days on U.S. Treasury bills (T-Bills) and bank certificates of deposit. Inflation notwithstanding, this guaranteed number is high enough to offer a competitive return with some portfolio protection – a benefit investors haven’t enjoyed post-Global Financial Crisis. When the path of least resistance for safe money is T-Bills, it’s easy to understand why an advisor might think twice before recommending anything dated longer than six to 12 months.
Not the Same Fixed Income Market
Until last year, the Fed had kept interest rates near zero for 15 years. Bonds, like stocks, had become an asset that produced capital gains. Along came 2022 and its string of rate hikes, collectively having driven the overall bond market down some 13%, long-term Treasuries dropped more than 20%. These crashing prices, of course, created the higher yields we’re seeing today.
As of June 9, investors could earn 5.14% on a six-month U.S. Treasury bill, free of state and local tax. Ten-year Treasuries, meanwhile, were yielding 3.74% while 30-year bonds were offering 3.88%. You could also buy BBB-rated high-quality corporate bonds yielding 5.79% and BB-rated high-yield corporates in the 7.06% range. Simply put, bonds are producing income again.
Understanding Duration and Price
The total return of a T-Bill is essentially limited to its interest income. Buying longer-dated bonds, on the other hand, not only locks in today’s attractive current yields, but positions investors to boost their total return through capital price appreciation.