What are T-Bills?

Written by

Meow Advisory, LLC

Published on

Wednesday, January 3, 2024

What are T-Bills?

Treasury bills, commonly referred to as T-bills, are short-term debt securities issued by the United States Treasury with maturities less than one year. Specifically, the Treasury issues T-bills in terms of 4, 8, 13, 17, 26, and 52 weeks.

What are T-Bills?

T-bills are short-term bonds that mature in less than a year. When an investor purchases a T-bill, they are effectively loaning money to the government. In exchange, the government agrees to repay the face value of the bond upon maturity. T-bills are sold at a discount from face value and do not pay interest before maturity. The difference between the purchase price and the maturity value is the investor's return.

Key Features of Treasury Bills

  • Maturities range from a few days up to 52 weeks
  • Sold at a discount to face value
  • Backed by the full faith and credit of the U.S. government
  • No interest payments made prior to maturity
  • Very low-risk of default

How Do Treasury Bills Work?

The Treasury holds weekly auctions for new T-bills across a variety of maturities. Investors can bid on these auctions through a bank or broker. There are two types of bids - competitive and noncompetitive.

With a noncompetitive bid, an investor agrees to accept whatever discount rate is determined at auction. This guarantees you will receive the full amount you bid on but doesn't allow you to specify your own price. Competitive bids allow investors to set their own price but run the risk of getting lesser amounts or none at all if the auction clears at a lower rate than specified.

The bills are issued at a discount to face value. For example, you might pay $980 for a $1,000 bill. When it matures in 26 weeks, you would receive the full $1,000 face value. The $20 difference between what you paid and the amount at maturity represents your return.

Buying Treasury Bills

T-bills can be purchased in two main ways - directly from the Treasury or from a bank or broker. Individual investors typically buy bills from brokers since the Treasury sells them through regularly scheduled auctions. To participate directly, investors have to submit competitive or noncompetitive bids through a bank or broker.

Noncompetitive bids guarantee you will receive the bills, but don't allow you to set your price. Competitive bids allow you to specify what discount rate you are willing to accept but run the risk your bid gets rejected if it is too low. Awards are issued on a pro-rata basis should a competitive auction be oversubscribed at the highest accepted yield.

The minimum purchase for T-bills is $100. Individual bills are sold in increments of $100 up to a maximum purchase of $5 million for noncompetitive bids. Competitive bids are capped at 35% of the auction offering amount.

Benefits of Investing in T-Bills

Low Risk of Default

Given that they are direct obligations of the U.S. Treasury, T-bills have a low risk of default over their short-term duration. The U.S. government has never missed a payment on its debt obligations in modern history.

High Liquidity

The market for U.S. Treasury bills is considered one of the most liquid markets globally. There is robust demand allowing holders to easily sell T-bills prior to maturity. This also helps support low spreads between bid and ask prices.

Potential Diversification

Adding T-bills can provide portfolio diversification because of their low correlation with riskier assets like stocks and corporate bonds. When volatility strikes equities, investors often flock to the safety of government bonds pushing up prices and lowering yields.

Drawbacks of T-Bills

Low Returns

The biggest tradeoff with T-bills relative to other debt instruments is that they offer lower yields. With maturities under one year, you won't collect substantial interest payments over their lifetime. Yields typically track short-term rates so when the Fed funds rate is low, T-bill rates will be lower.

Rate Risk

While less pronounced than with longer-term government bonds, T-bills are still exposed to interest rate risk. If rates move higher, the prices and value of T-bills fall leading to lower returns or mark-to-market losses for investors.

Inflation Risk

With short maturities, T-bills offer limited inflation protection. The fixed principal payment due at maturity will buy less goods and services in the future during periods of high inflation.

T-Bills vs. Other Treasury Securities

In addition to T-bills, the Treasury issues notes and bonds as part of managing federal debt levels. The key differences lie in their maturities and coupon payments.

T-bills mature in one year or less and don't pay periodic coupons. Treasury notes mature between 2 and 10 years and pay coupon payments every six months. Treasury bonds are long-term with original maturities in excess of 10 years, even lasting 30 years, and also pay biannual coupon interest.

Who Should Consider Investing in T-Bills?

Risk-Averse Investors

T-bills appeal to investors with short time horizons and low risk tolerances. They provide principal repayment at maturity and offer greater price stability than longer-term bonds. The tradeoff is that they offer lower expected returns over time horizons under 5 years.

Yield Curve Speculators

Strategists may use T-bills to position for or bet against changes across parts of the yield curve. A steepening yield curve with rising long-term rates increases the relative attractiveness of short-term T-bills for instance.

Diversified Portfolios

The inclusion of low-risk T-bills could improve portfolio risk metrics by reducing overall volatility and drawdowns. T-bills have low correlations with and provide ballast against falling prices for risk assets like equities and corporate credit.

Final Thoughts on Treasury Bills

In summary, Treasury bills offer investors a low-risk way to gain exposure to government debt while providing interim liquidity solutions between longer-term asset purchases. Their short window to maturity limits return potential but also protects against losses when interest rates are volatile across the yield curve.

T-bills are best suited for conservative portfolios looking to temporarily warehouse cash or boost income with limited exposure to interest rate and inflation risks.

How to Purchase Treasury Bills

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