Treasury bonds, their advantages, and risks in 2022

Long term bonds (hereafter bonds) [1], as well as Treasury Bonds [2] help finance budget deficits and are used to raise capital for various projects such as infrastructure spending, public investment projects, and budget deficit financing.

But bonds and Treasury bonds are also used by the Central Bank to control the country’s money supply. When the Central Bank buys government bonds, the money supply increases throughout the economy as sellers receive funds to spend or invest in the market. Any funds deposited by individuals (them) in banks are in turn used by these financial institutions to provide loans to companies and individuals, further stimulating economic activity.

Bonds, including Treasury bonds, can be a sound investment for those looking for a stable rate of interest payments. Although bonds and treasury bonds are popular, they have some disadvantages and risks associated with them and may not be ideal for every individual.

From the Albanian practice, but also from the surrounding countries, it results that individuals who are closer to retirement, or have already retired, tend to have a larger percentage of their deposits in bonds and treasury bonds, while young people may have a smaller percentage.

Although in Albania there is still no market for corporate bonds/bonds, as well as municipal bonds/ bonds, to date corporate bonds or even corporate bonds in the countries where they are applied tend to pay a higher rate than bonds/ treasury bonds, as corporate bonds also have default risks, while treasury bonds/bonds are guaranteed if held to maturity.

Are bonds/Treasury bonds of any type [3] good investments?

Individuals must weigh their tolerance for the risk of default on a bond, the yield [4], and how long their money will be tied to this investment they make in these bonds /Treasury bonds.

In the case of the Albanian bond market, where there is no other offer in the market except Treasury bonds or bonds [5], the participation of individuals must be made clear by their issuer and the risks, in addition to the advantages they carry at the time of their issuance.

Below are presented in a summarized form the advantages and risks, where in addition to the advantages that are already profitable in the financial market, an advantage is also included, which is in the form of a reminder for the Albanian government (regarding the inclusion of fiscal facilities for investments in bonds or treasury bonds)

To clarify the risks, as shown in the table, the interest paid by bonds or treasury bonds represents the returns that can be generated by investing in shares. However, the rate earned on bonds or treasury bonds must exceed inflation or the pace of price growth, which currently tends to move beyond the 8-10% level.

Treasury bonds, according to the inflationary period we are going through, may be more acceptable for a stable return on invested money, may help reduce volatility or fluctuations in investments in other fields or instruments (savings account, cryptocurrency, etc. ). Using treasury bonds to help partially offset the risk of loss from other investments helps achieve diversification of the money/assets invested which means that not all your money is in one type of investment and may be subject to the same risk. Also, Treasury bonds are backed by the full faith and credit of the government, meaning investors will not lose their initial investment.

However, since young investors may have more information and culture than older ones, young people usually choose investments that offer short/medium-term growth and high rates (cryptocurrency, corporate bonds abroad, investment funds, etc.) in over 70% of the total investment fund instead of treasury bonds (not more than 30% of the total investment fund). As a result, Treasury bonds or even bonds may tend to represent a small portion of a young person’s investment portfolio.

In closing clarification, an investment in treasury bonds or bonds can be termed as good or bad, it depends on the investor’s goal and market conditions. If an investor wants a steady stream of income, then a bond can be a desirable choice. However, when interest rates rise, buying a bond may not be a desirable choice as the fixed interest rate may underperform the market in the future [6].

In 2022:

– interest rates payable for treasury bonds have increased from 2.78% for bonds with a 3-month maturity to 5.74% for bonds with a 12-month maturity.

– The interest rates payable for bonds have increased from 4.9% for bonds with a 2-year maturity, 6.15% for bonds with a 3-year maturity and up to 8.39% for bonds with a 15-year maturity.

If investors believe that interest rates will continue to rise in the next two years, they may choose to invest in bonds with shorter maturities if they are interested in higher yields. Otherwise, due to the contradictory relationship between interest rates and bond rates, their fixed value will fall if the Bank of Albania continues to raise interest rates.

Also, investing in bonds and selling them in the secondary market before they mature can lead to a loss like other investments, just like selling shares in a company in times of cash need. As a result, investors should be aware of the risk that they can lose money by buying and selling bonds before they mature. If an investor needs the money in the first year or two, a bond with a longer maturity date may not be considered a sound investment.

Investment funds, or private pension funds, can be a sound investment as the funds usually contain many investment opportunities with the money they deposit, which diversifies the risk of non-payment of the invested money. However, investors should do their own research to ensure that the investments within the fund are the type of bonds you want to buy.

[1] 2, 3, 5, 6, 7, 10- and 15-year debt instrument, which is issued and guaranteed by the Government of the Republic of Albania
[2] 3, 6- and 9-month debt instrument, which is issued and guaranteed by the Government of the Republic of Albania
[3] Governmental, municipal, corporate
[4] the profits generated and realized by the funds deposited over a given period
[5] https://financa.gov.al/wp-content/uploads/2022/11/Prezantim-per-investoret-indiviudale-Final.pdf
[6] when you buy a treasury bond, the fixed interest rate on that bond never changes, no matter where market interest rates trade