The U.S. federal government offers three categories of fixed income securities to the buying public: Treasury bonds (T-bonds), Treasury notes (T-notes) and Treasury bills (T-bills). Each of these securities is issued with the full faith and credit of the U.S. government, and they are used as tools to fund its short- and long-term operations.
But Treasury bonds, notes and bills all differ in the lengths of time they are issued and the manner in which each pays interest to investors.
Understanding Treasury Bonds
T-bonds have the longest maturities of all government-issued securities and are often referred to as long bonds. These issues are offered to investors with either a 20- or 30-year term. In return for investment, individuals who purchase T-bonds receive an interest payment every six months per the terms of the bond issue. Because T-bonds have the longest time to maturity, their prices will fluctuate more than T-notes or T-bills. This long maturity also correlates to higher interest rates for investors.
Treasury bonds are auctioned off in multiples of $100, and their price is determined at auction. Because T-bonds are fixed rate securities, their yield to maturity, or how much the bond is expected to pay over its lifetime, impacts the price of the bond at auction. If the yield to maturity is greater than the interest rate, the bond's price is less than the face value. If the yield to maturity is less than the interest rate, the price will be more than face value. If the yield to maturity and the interest rate are equal, the price of the bond will be equal to its mature value.
Purchasers may place non-competitive bids that accept the interest rate determined at auction and are then guaranteed the bond they want at the face value they desire. Alternately, they may submit a competitive bid naming the yield they want. This bid may be accepted or rejected depending on whether the yield is higher to, equal to or lower than the yield on the bond at auction. Treasury bonds may also be reopened, allowing purchasers to buy additional security amounts without changing the date of the maturity for the bond.
Understanding Treasury Notes
T-notes are issued with shorter maturities than T-bonds, typically offered to investors with one-, five-, seven- or 10-year terms. Because the maturity date is shorter, interest rates are lower than those offered to T-bond investors, but semi-annual interest payments still occur.
Prices on T-notes fluctuate more than T-bills, but less than T-bonds, and issues that carry the furthest maturity date fluctuate in price the most. The 10-year T-note is the most widely tracked government bond, and it is used as a benchmark for banks and the Treasury market in calculating mortgage rates.
Treasury bonds and Treasury notes are similar in their auction practices and interest payment schedules. Treasury notes, however, have variable maturity terms than T-bonds have, as noted above.
Understanding Treasury Bills
T-bills are issued with terms of four, 13, 26 or 52 weeks. They offer investors the lowest yield of all government bond issues. Similar to zero-coupon bonds, T-bills are auctioned off to investors at a discount to par. The difference between par value ($100) and the discount price is what investors view as its interest payment.