Treasury Notes (T-notes)

Treasury Notes (T-notes) are a type of fixed-income security issued by the U.S. Department of the Treasury. Think of it this way: when you buy a T-note, you are lending money to the U.S. government. In return for your loan, the government promises to pay you back in full after a set period and to pay you a fixed interest rate along the way. T-notes are considered intermediate-term investments, as they are issued with a maturity of two, three, five, seven, or ten years. Unlike their shorter-term cousins, T-bills, T-notes pay interest every six months. This regular interest payment is known as a coupon. Once the note matures, the government repays the original loan amount, called the principal or face value. Because they are backed by the “full faith and credit” of the U.S. government, they are widely regarded as one of the safest investments in the world, a crucial feature for any prudent investor.

Understanding T-notes is simpler than it sounds. They are built around three core concepts: the coupon, maturity, and the way they are issued.

The coupon is the fixed annual interest rate the T-note pays to its holder. This annual amount is paid out in two equal, semi-annual installments. For example, let's say you buy a 10-year T-note with a face value of $1,000 and a 3% coupon rate.

• You will receive 3% of $1,000, which is $30 in interest per year.
• This $30 is split into two payments, so you'll receive a check or a direct deposit for $15 every six months for the next ten years. It's a predictable, steady stream of income.

Maturity is simply the date when the T-note's term ends and you get your original investment back. If you hold the $1,000 T-note from our example for the full ten years, the U.S. Treasury will pay you back your $1,000 principal at the end of the term. If you need your money back sooner, you don't have to wait for the maturity date; T-notes are highly liquid and can be easily sold on the secondary market.

T-notes are first sold to the public through auctions. Individuals can purchase them directly from the government through the TreasuryDirect website, which is a cost-effective way to buy them without a broker. They can also be purchased through a bank or broker, either at auction or on the secondary market, where previously issued notes are bought and sold among investors.

While value investors are famous for hunting down undervalued stocks, government debt like T-notes plays a vital role in a well-rounded, defensive investment strategy.

The primary appeal of T-notes is their safety. They carry virtually zero credit risk, meaning the chance of the U.S. government defaulting on its debt is considered almost nonexistent. This aligns perfectly with Warren Buffett's famous rule: “Rule No. 1: Never lose money. Rule No. 2: Never forget Rule No. 1.” During times of economic turmoil or stock market volatility, investors often flock to T-notes as a safe place to preserve capital while waiting for better opportunities to emerge in the market.

Safety, however, comes at a price. The trade-off for the low risk of T-notes is a lower return compared to riskier assets like stocks or corporate bonds. This is a classic case of opportunity cost—the potential gains you miss out on by choosing a safer investment. Furthermore, T-notes are subject to inflation risk. If the inflation rate is higher than the T-note's yield (its total return), your investment is actually losing purchasing power over time. A savvy investor weighs the need for safety against the risk of inflation and the potential for higher returns elsewhere.

The yield on the 10-year T-note is one of the most closely watched financial metrics in the world. It serves as a benchmark for interest rates on all sorts of other loans, from mortgages to corporate debt. A rising 10-year yield often signals economic optimism (or inflation fears), while a falling yield can indicate economic anxiety. For investors, monitoring the 10-year T-note yield provides valuable insight into the overall health of the economy and market sentiment.

The U.S. Treasury issues three main types of debt securities. The primary difference is their maturity period.

• Treasury Bills (T-bills): The Sprinters. These are short-term securities with maturities of one year or less. They don't pay a coupon; instead, they are sold at a discount to their face value. Your return is the difference between the purchase price and the face value you receive at maturity.
• Treasury Notes (T-notes): The Middle-Distance Runners. As we've discussed, these are intermediate-term securities with maturities from two to ten years. They pay a fixed coupon every six months.
• Treasury Bonds (T-bonds): The Marathoners. These are long-term securities with maturities of 20 or 30 years. Like T-notes, they also pay a fixed coupon every six months, but they lock in an interest rate for a much longer period.