Lately, I’ve been pouring more cash into Treasury bonds. With yields of over 5% for bonds ranging from 3 months to 2 years, it’s hard to resist the guaranteed return. But I can’t shake the feeling that I might regret this decision a year from now. Maybe you’re feeling the same way.
Back in 2008, during the global financial crisis, I bought some 5-year CDs with a yield of 4.25%. It seemed like a great deal at the time, especially with the stock market in free fall. But in hindsight, investing in the S&P 500 would have been a smarter move.
Despite this, I have a gut feeling that I won’t regret buying Treasury bonds today. Let me explain why. I’ve been investing for nearly three decades, spent 13 years in finance, and retired in 2012. I started Financial Samurai in 2009 and have written over 2,500 articles.
Now, let’s talk about the risks of buying Treasury bonds with a 5%+ guaranteed return. You can buy these bonds from Treasury Direct or any online brokerage. Here are some potential downsides:
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Reduced liquidity: To get your guaranteed return, you have to hold the bonds until maturity. If you sell early, you might have to do so at a discount if rates stay the same or increase. This could mean paying more for whatever you’re looking to buy.
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Missing out on potentially higher returns: The money you used to buy Treasury bonds could have been invested in other assets with higher potential returns. A 5% guaranteed return sounds good, but it’s about 5% below the historical annual return of the S&P 500. You could also use the money to invest in your own business, which could yield much higher returns if things go well.
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Taxes: If you invest in Treasury bonds, you’ll receive a 1099-INT form from the Department of Treasury. You’ll have to pay federal income tax on the income, but not state or local taxes. If you buy a Treasury bond at a discount and then sell it at a premium, the profit will be taxable as a capital gain.
Despite these risks, I’m still happy to buy more Treasury bonds. Here’s why:
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A 5% return is higher than our safe withdrawal rate: Our safe withdrawal rate is currently 0% because we can live entirely off our online income. All investment income gets reinvested. If we had no online income, our safe withdrawal rate as retirees would be between 2% – 3% to cover all our desired living expenses. Therefore, any return above 3% – 4% after taxes is enough to buy us another year of living expenses.
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No big-ticket purchases on the horizon: Although I dream of buying a nicer house, realistically, we aren’t going to buy another house after buying our current one in 2020. Moving is too much of a hassle. We also aren’t going to buy a new car for at least another three years. All other expenses can comfortably be covered through investment income or online income.
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We’re content with what we have: We don’t desire fancy clothes, jewelry, or watches. We also don’t have any reckless addictions that could set us back.
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Treasury bonds provide free living for most mortgage holders: Most existing mortgages have rates under 5%. A 5.5% return pays for our 2.125% primary mortgage rate and then some. It feels like we are living for free every time we buy another slug of Treasury bonds.
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I’m in decumulation mode: I decided to enter decumulation mode in 2022 at the age of 45 because I don’t want to die with too much. We hit our net worth targets for our age and do not want to pay a death tax rate of 40% on remaining assets.
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We’ve experienced enough stress and anxiety since 2020: Having a pandemic baby and a toddler from 2020-2022 has given us tremendous mental fatigue. I’m happy to eliminate some investment stress for the next year as we mentally recuperate.
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5% Treasury bond yields won’t last forever: When the Fed gets done hiking rates by the end of 2023, the clock will start ticking as to when the Fed will start lowering rates again. By end-2024, the Fed will begin to cut again.
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Less burden on what to do with excess cash: If you spend less than you make, you will accumulate excess cash. By parking your excess cash in short-duration Treasury bonds, you not only eliminate the discomfort, but you also earn a nominal return.
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A decent chance Treasury bonds will outperform stocks and real estate: The final reason why you will likely not regret buying Treasury bonds is because they could outperform stocks, real estate, and other risk assets over the next 12 months.
In conclusion, owning Treasury bonds gives me peace of mind. If I felt strongly the S&P 500 or real estate had a 10% or greater upside from here, I’d buy fewer Treasury bonds. But for now, I’m content earning 5% while we get through an earnings slowdown, more Fed rate hikes, and a potential recession. If risk assets do take off, then great! My existing portfolio will benefit and my Treasury bonds will still earn a 5% return. If risk assets sell off again, then at least my Treasury bonds will outperform.
